Question

Which inventory cost flow method will produce the highest income and asset values in an inflationary environment?

Multiple choice .
a. Weighted average
b. LIFO
c. FIFO

Answer 1

In an inflationary environment, the FIFO (First-In, First-Out) method of inventory cost flow will produce the highest income and asset values.

Step-by-step explanation:

In an inflationary environment, the FIFO (First-In, First-Out) method of inventory cost flow will produce the highest income and asset values.

This is because FIFO assumes that the oldest inventory is sold first, which means that costs associated with older, cheaper inventory will be matched with the revenue from sales. As prices increase due to inflation, the cost of the older inventory will be lower than the current market prices, resulting in higher reported income and asset values.

For example, let's say a company purchases 100 units of a product at different prices over time, with the oldest inventory being purchased at $10 per unit. If the current market price is $15 per unit due to inflation, FIFO would assume that the first 100 units sold are the ones purchased at $10, resulting in higher reported income and asset values compared to other cost flow methods like LIFO or weighted average.