One of the major differences with US Generally Accepted Accounting Principles (GAAP) and International Financial Reporting Systems (IFRS) in regards to inventory is the fact that IFRS and GAAP do not allow the same methods for evaluating it. GAAP allows the use of FIFO, LIFO, and weighted average, while IFRS only allows the use of FIFO and weighted average. One important aspect to the different methods for the valuation of inventory is that it would not be necessary if inflation did not exist because all three methods would produce the same result. Inventory is defined as "the raw materials, work in process goods and finished goods that are will be available for sale" (Nguyen). IFRS is the accounting standard that is used in over 110 countries and GAAP is only used in the United States. According to Joseph Nguyen, a writer on Investopedia.com, GAAP is more of a "rule based" system and IFRS is a "principle based" system and because of this it represents a better accounting of a transaction (Nguyen). Even though GAAP and IFRS are different methods of accounting, GAAP is moving towards IFRS and could eventually be combined into one method of accounting, which would be beneficial because of the globalization of the world economy today.
The first in or first out method, which can be used in both IFRS and GAAP, is the valuation of inventory by assuming that the first unit of inventory is going to be the first unit moved out when it is sold (Inventory). An example of this is if a company produces 15 units of a product for twenty dollars per unit on Thursday and then produces 15 units of the same product for thirty dollars per unit on Friday, if these products were sold on Saturday the cost that is reported to the cost of goods sold is twenty dollars per unit because that product's inventory will be moved out first. This will be reported on the income statement and the remaining inventory will be valued at thirty dollars per unit and will be allocated to ending inventory, and this will be reported on the balance sheet (Inventory). This method is a very good way to value inventory because it gives us a closer indication of the exact value of the inventory. Using this method also increases net income, which in return also increases the taxes that must be paid by the company (Inventory). This method of first in, first out can be used in both IFRS and GAAP to value inventory.
The next method used to valuate inventory is called LIFO, This method can only be used in GAAP and not IFRS (IAS Plus). In this method the company is assuming that the last unit that is produced will be the first unit to move out after it is sold. Using the example above of a company producing a product on Thursday for twenty dollars per unit and another product on Friday for thirty dollars per unit, when it is sold on Saturday the cost reported to the cost of goods sold will be thirty dollars per unit which will be then reported on the income statement. The ending inventory will be valued at twenty dollars per unit which will be reported on the balance sheet. One reason for doing this is because it produced a higher cost of goods sold which will then calculate a lower net income. This is important because the lower net income will result in a lower amount of taxes that the company has to pay (Inventory).
The third method of accounting for inventory is the weighted average method which can be used in both GAAP and IFRS. This method is the least complicated of the three and uses the weighted average of all the units produced and uses the value for both cost of goods sold and ending inventory. Using the example above the weighted average will be ((15 X $20) + (15 X $30))/30= $25. This means that the values assigned to the cost of goods sold and ending inventory will be twenty five dollars, which will result in a net income in between the FIFO and LIFO method. This will also result of the amount of taxes to be paid in between the two methods (Inventory).
Hopefully the movement from GAAP to IFRS happens because this will help improve the valuation of companies of different countries and thus make it easier to compare them. One global method of accounting for assets, for example inventory, would make it easier because there would then be no need of an adjustment for a company that uses LIFO to an acceptable method of FIFO or weighted average (Nguyen).
The first in or first out method, which can be used in both IFRS and GAAP, is the valuation of inventory by assuming that the first unit of inventory is going to be the first unit moved out when it is sold (Inventory). An example of this is if a company produces 15 units of a product for twenty dollars per unit on Thursday and then produces 15 units of the same product for thirty dollars per unit on Friday, if these products were sold on Saturday the cost that is reported to the cost of goods sold is twenty dollars per unit because that product's inventory will be moved out first. This will be reported on the income statement and the remaining inventory will be valued at thirty dollars per unit and will be allocated to ending inventory, and this will be reported on the balance sheet (Inventory). This method is a very good way to value inventory because it gives us a closer indication of the exact value of the inventory. Using this method also increases net income, which in return also increases the taxes that must be paid by the company (Inventory). This method of first in, first out can be used in both IFRS and GAAP to value inventory.
The next method used to valuate inventory is called LIFO, This method can only be used in GAAP and not IFRS (IAS Plus). In this method the company is assuming that the last unit that is produced will be the first unit to move out after it is sold. Using the example above of a company producing a product on Thursday for twenty dollars per unit and another product on Friday for thirty dollars per unit, when it is sold on Saturday the cost reported to the cost of goods sold will be thirty dollars per unit which will be then reported on the income statement. The ending inventory will be valued at twenty dollars per unit which will be reported on the balance sheet. One reason for doing this is because it produced a higher cost of goods sold which will then calculate a lower net income. This is important because the lower net income will result in a lower amount of taxes that the company has to pay (Inventory).
The third method of accounting for inventory is the weighted average method which can be used in both GAAP and IFRS. This method is the least complicated of the three and uses the weighted average of all the units produced and uses the value for both cost of goods sold and ending inventory. Using the example above the weighted average will be ((15 X $20) + (15 X $30))/30= $25. This means that the values assigned to the cost of goods sold and ending inventory will be twenty five dollars, which will result in a net income in between the FIFO and LIFO method. This will also result of the amount of taxes to be paid in between the two methods (Inventory).
Hopefully the movement from GAAP to IFRS happens because this will help improve the valuation of companies of different countries and thus make it easier to compare them. One global method of accounting for assets, for example inventory, would make it easier because there would then be no need of an adjustment for a company that uses LIFO to an acceptable method of FIFO or weighted average (Nguyen).
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