So on some questions when you adjust equity for a LIFO to FIFO normalization you add the LIFO Reserve*(1-T) to equity and LIFO Reserve*(T) to DTL whereas other times you simply add the entire LIFO Reserve to equity. Anyone know when to which? Or is it assumed to always break it apart if the information is there?
*bump*
For Balance sheet adjustment this is the only approach: Add LIFO Reserve to End Inventory - A up Add LIFO Reserve to Equity -> E Up. Change in LIFO Reserve * (1-T) is subtracted from COGS to adjust the LIFO COGS. But in our Financial Synthesis world - a LIFO Income statement is “current” so would not require any adjustments. In this case - Change in LIFO Reserve * T would increase NI.
cpk: Have you done Book 6: Practice 3PM? Reason I posted this was I got question question 72 wrong. It was a “Is statement 1 correct…” thing and this was the statement: ***Don’t read if you haven’t done Exam 3PM Yet!*** “Note 1: Schubert uses LIFO in accounting for ts inventory. The LIFO reserve at the at the end of 2008 was $112,000. Prices have generally risen over the past few years. Statement 2: In making balance sheet adjustments for fair value, there is a $112,000 increase to both inventory and equity required in order to adjust for LIFO to FIFO” I said correct. It was incorrect. The correct answer was a contribution of $112,000*T to DTL and $112,000*(1-T) to Equity.
Yeah, that is just Schweser’s way of doing you in. In the book they do say Increase E, Increase A. If the DTL were recognized to be continuously growing - you would adjust DTL by making it 0 and increasing the Equity again, because of that. Ultimately it goes all to Equity. So here Schweser is splitting hairs by asking you to do it in two steps…
Alright, just wanted to make sure there wasn’t something else I was missing there. Appreciate the help.
@cpk: can you please elaborate on the second statement you make “Change in LIFO Reserve * (1-T) is subtracted from COGS to adjust the LIFO COGS. But in our Financial Synthesis world - a LIFO Income statement is “current” so would not require any adjustments. In this case - Change in LIFO Reserve * T would increase NI.” Particularly the following: a) To change Lifo COGS to FIFO cogs we subtract change in lifo reserve from LIFO COGS. This adjustment shouldn’t be necessary though because we want COGS stated at LIFO. b) If we have a LIFO reserve liquidation we need to decrease COGS by the amount of the LIFO reserve (similar to a above but here the change is the size of the entire LIFO reserve), but you seem to be saying that we subtract LIFO Reserve*(1-T). I was under the impression that in this case our NI increase by LIFO Reserve*(1-T) since our EBIT is now higher by the amount of the LIFO Reserve and this gets taxed at T so we are left with NI that is higher by LIFO reserve*(1-T) not LIFO Reserve*T as you suggest. Any thoughts would be very greatly appreciated as you seem to be the go to guy on this.
Inventory FIFO -> gives you a current Balance Sheet. LIFO COGS -> gives you a current Income statement. So if the company is already using LIFO - COGS would be at the current levels - so should not require any adjustments. This is what I meant by the first statement. I think Schweser has different ways of doing things - so I am not sure whether their answer should be taken at the face value. When you have a LIFO Liquidation - the LIFO Reserve would have been completely wiped out. And in this case - we do know that if prices were increasing - the older lower priced inventory would show up in COGS - so COGS would be understated. Hence the entire LIFO reserve must be removed (backed out) in order to restate the company’s financial statements.
Great thanks CP, I’m with you on taking anything Schwez says at face value. I will continue to reduce LIFO COGS by increase in LIFO reserve anytime we have to restate for FIFO (which should be rare since LIFO inventory is generally a better measure). When we have a liquidation we have and LIFO Reserve change that is negative and so when we reduce LIFO COGS by the change in LIFO reserve the value of COGS actually increases.