Question

The effect of the FIFO accounting method on inventory valuations during a period of sharply rising prices is:

(A) reduce profits
(B) reduce tax liability
(C) increase the value of the inventory account
(D) increase the cost of goods sold

Answer 1

Answer: Option D

Explanation: Under the first in first out method, the inventories are sold on the basis of the time period they were purchased, that is, the inventory that was bought down the earlier will be sold first.

Hence when the price keeps rising for an inventory, units which were earlier purchased would automatically be less costly than those which were purchased in latest.

Also the goods that were latest purchased will remain in the inventory leading to increase in the value of inventory.