# ACC205 Week 3 - Discussion 2

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ACC205 Week 3 - Discussion 2

Explain the four merchandise inventory methods and provide an example for each.

The four merchandise inventory methods are as followed:

1. First In, First Out (FIFO)
2. Last In, First Out (LIFO)
3. Average Cost
4. Specific Identification

1. First In, First Out: “Under the FIFO method, the oldest costs are assigned to inventory items sold, regardless of whether the sold items were purchased at that Cost. When the number of inventory items purchased at the oldest Cost is sold, the next oldest Cost is assigned to sales” (Ingram, 2018). This method closely approximates an accurate purchasing cycle and parallels the actual flow of inventory from purchase to sale in a wide range of businesses.

Example: If a company buys ten widgets at \$20 each, then buys ten more at \$19 each, the company would assign the \$20 cost to the first ten widgets it sells, then begin to allocate the \$19 price.

1. Last In, First Out: “Is the exact opposite of the FIFO method, assigning the most recent inventory costs to items sold” (Ingram, 2018). This method is less practical in most businesses, but a few specific situations in which LIFO more closely approximates the actual flow of inventory.

Example: gravel yards dump new loads of gravel on top of a pile consisting of several older loads. When the gravel yard sells a load, it takes it from the top (the most recently purchased inventory).

1. Average Cost: “assigns inventory costs by calculating a moving average of all inventory purchase costs. This method can be ideal for companies that sell non-perishable inventory in a non-sequential manner, such as video game retailers” (Ingram, 2018). This is a more stable cost recognition structure than other methods, assuming costs do not swing wildly up and down for items.

Example: To continue the case above under the average cost method, a company would assign an average cost of \$19.50 -- the sum of 20 and 19 divided by 2 -- to all 20 widgets sold.

1. Specific Identification: “matches inventory costs with units sold, assigning the exact cost of each sold inventory item when the specific item is sold” (Ingram, 2018). This method is not suited for a business that sells items like food but for companies with more high-dollar things like automobiles.

Example: When you purchase any vehicle, it has a VIN that is traceable to the amount the dealership paid for the car.

How are financial statements affected by using the four different methods?

Financial statements are affected by the four different methods by: “the First in first out method results in lower costs of goods sold and high gross profit when costs rise. Last in first out method results in the highest cost of goods and the lowest gross profit, which would mean lower taxable income. Weighted average generates amounts that fall between the extremes of LIFO and FIFO methods” (Miller-Nobles, Mattison, & Matsumura, 2018, pg. 335).

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