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Foundations Of Financial Management
Found in: Page 75
Foundations Of Financial Management

Foundations Of Financial Management

Book edition 16th
Author(s) Stanley B. Block, Geoffrey A. Hirt, Bartley Danielsen
Pages 768 pages
ISBN 9781259277160

Short Answer

Inflation can have significant effects on income statements and balance sheets, and therefore on the calculation of ratios. Discuss the possible impact of inflation on the following ratios, and explain the direction of the impact based on your assumptions.

b. Inventory turnover

If the company uses the LIFO method, inflation will overstate the turnover ratio. If the company uses the FIFO method, inflation may understate the ratio.

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Step by Step Solution

Impact of Inflation on Inventory turnover, when a company uses the FIFO method of accounting:

First In, First Out (FIFO) is a method of accounting where assets acquired first are disposed of first.

When an organization uses the FIFO method during inflation, the cost of goods sold decreases, and the lower cost of goods sold results in a lower inventory turnover ratio.

Impact of Inflation on Inventory turnover, when a company uses the LIFO method of accounting:

Last In, First Out (LIFO) is a method of accounting where assets acquired last are disposed of first.

When an organization uses the LIFO method during inflation, the cost of goods sold increases, which would result in higher inventory turnover ratios.

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