Question of the Week

If during a period of rising prices, a LIFO liquidation occurs, which of the following would most likely occur?

a) Cost of goods sold would increase.
b) Net income would rise.
c) Since this does not represent a change in accounting policy, no changes would take place.
d) Subsequent replenishment of inventory would be at lower values.

Answer:

The correct answer is: b)

Remember that LIFO transmits the latest prices of inventory over to cost. Therefore, what's left behind in inventory are the items with lower costs. A LIFO liquidation occurs when these low cost inventories are eventually transmitted to cost. Hence, COGS would decrease and net income would rise. Note that once, these low cost items are transferred out of inventories, eventually, as inventories become replenished, they will be done so with higher cost items.

2005 CFA Level 1 LOS: 9.1.A.f