A wholesaler holds 10,000 widgets. FIFO ending inventory: $185,000. LIFO: $142,000. Same warehouse, same goods, a $43,000 swing in reported earnings and a different debt covenant outcome.
ASC 330 governs inventory measurement. Inventory sits at cost when acquired, but the carrying amount drops when net realizable value or replacement cost falls below cost. Three sub-categories: raw materials, work in process, and finished goods.
When prices change between purchases, identical units sit in inventory at different costs. The company picks a rule for which costs leave first when goods are sold. That rule drives COGS, ending inventory, gross profit, taxable income, and the balance sheet, the same warehouse reported as three different numbers.
FIFO assumes the oldest costs leave first. Ending inventory carries the most recent costs, which usually approximate replacement cost. COGS reflects older costs.
In rising prices, FIFO produces the lowest COGS, highest gross profit, highest ending inventory, and highest taxable income. Companies that want a strong balance sheet often prefer FIFO.
Common mistakes
- Applying LCNRV to LIFO inventory. A LIFO question with replacement cost $40, NRV $43, floor $38, cost $45 looks like a 2 answer is the distractor for candidates who skip the sandwich test.
- Forgetting LIFO conformity. A company cannot use LIFO for tax and FIFO for books. The IRS conformity rule prohibits the cherry-pick. Exam scenarios implying two methods on one pool test this rule.
- Confusing LIFO liquidation with a write-down. Liquidation occurs when sales exceed purchases and the company sells into old, low-cost layers. COGS drops, gross profit rises temporarily. No special journal entry, only disclosure. Trap: candidates record a "phantom profit" gain entry. None exists.
Bottom line
- ASC 330 measures inventory at cost, written down to NRV (FIFO/Average) or market (LIFO) when value drops below cost.
- Three cost flow methods: FIFO sends oldest costs to COGS, LIFO sends newest, weighted average uses a blended pool cost.
- In rising prices FIFO reports the highest income; LIFO reports the lowest income but the highest cash flow.
- Non-LIFO inventories use lower of cost or NRV; LIFO uses lower of cost or market with an NRV ceiling and an NRV-minus-profit floor.
Exam shortcut
In rising prices, FIFO = First In, First in income (highest income); LIFO = Lowest income, Largest cash flow. If "LIFO" appears in the stem, the LCM sandwich test applies: replacement cost is the filling, NRV ceiling is the top bread, NRV minus normal profit is the bottom bread. Use the filling if it fits; otherwise use the closer slice.
The full lesson (about 4,417 words, 29 min read) adds 6 worked examples, all 8 common mistakes, a self-check, free in the app.
Learning objectives
- II.C1
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