Lesson 3 of 8 · All lessons in this module
- Inventory cost formulas and inventory systemsVideo lesson
- Rising and falling costs: effects on statements and ratiosVideo lesson
- The LIFO reserve, LIFO-to-FIFO conversion and LIFO liquidationVideo lesson
- Measuring inventory: lower of cost and net realisable valueVideo lesson
- Inventory write-downs: effects on ratios and analysis
- Inventory disclosures, ratios and analyst checks
- Integrated cases: reading the inventory note and restating to one basis
- Integrated cases: a two-year ratio panel and 'what if the cost formula changed'
Lesson 3 of 8 · 13 min
The LIFO reserve, LIFO-to-FIFO conversion and LIFO liquidation
The LIFO reserve is the gap between FIFO and LIFO inventory; adding it back, and its change to cost of sales, lets an analyst put a US GAAP LIFO company on the same footing as a FIFO or IFRS peer.
In short
- LIFO reserve = FIFO inventory − LIFO inventory. US GAAP LIFO companies disclose it in the notes.
- FIFO inventory = LIFO inventory + LIFO reserve.
- FIFO COGS = LIFO COGS − change in LIFO reserve. A rising reserve means FIFO cost of sales is lower.
- FIFO-adjusted figures give higher inventory, current ratio and (with rising costs) profit and equity, and lower inventory turnover.
- LIFO liquidation: selling more units than are bought dips into old, cheap layers, cutting cost of sales and inflating margins temporarily. US GAAP requires disclosure of material liquidation income.
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