Question

enerally Accepted Accounting Principles (GAAP) allow companies to choose any inventory costing method, although the consistency principle requires that they not switch between methods on a regular basis. However, many companies still change methods from one year to the next. Perform research on this topic in order to address the below questions. Make sure to cite your sources:

1. Why is consistency important in the first place?
2. What are some valid reasons companies may decide to switch methods?
3. How does the company’s choice of financial accounting inventory method impact their tax reporting?
4. What financial statements does the inventory choice impact and how may a change impact those statements?

Answer 1

1. If a company ignores the principle of consistency in accounting for inventories, it could cause its net income for any given year to increase or decrease merely by changing its method of inventory valuation.

2. Companies may decide to switch mehods due to merits and demerits of each method on application.

Due to Impact on COGS,

Due to Impact on IT

Due to Impact on sustainable growth margin and loan margin

3.Income taxes. The choice of cost-flow method used can increase or reduce the amount of income taxes paid. The LIFO method is commonly used in periods of rising prices to reduce income taxes paid.

4. Impact on cost of goods sold. If you record a higher valuation in ending inventory, this leaves less expense to be charged to the cost of goods sold, and vice versa. Thus, inventory valuation has a major impact on reported profit levels.