Cheap Auto, Inc., has asked your bank for a $100,000 loan to expand its sales facility. Cheap Auto provides you with the following data:

*The 2006 ending inventory was $420,000 (FIFO).
Your inspection of the financial statements of other auto sales firms indicates that most of these firms adopted the LIFO method in the late 1970s. You further note that Cheap Auto has used 10 percent of depreciable asset cost when computing depreciation expense and that other automobile dealers use 20 percent. Assume that Cheap Auto€™s effective tax rate is 30 percent of income before tax. Also assume the following:

Required:
1. Compute cost of goods sold for 2007€“2009, using both the FIFO and the LIFO methods.
2. Compute depreciation expense for Cheap Auto for 2007€“2009, using both 10 percent and 20 percent of the cost of depreciable assets.
3. Recompute Cheap Auto€™s net income for 2007€“2009, using LIFO and 20 percent depreciation. (Don€™t forget the tax impact of the increases in cost of goods sold and depreciation expense.)
4. Does Cheap Auto appear to have materially changed its financial statements by the selection of FIFO (rather than LIFO) and 10 percent (rather than 20 percent)depreciation?

Transcribed Image Text:

2009 2008 2007 $6,900,000 120,000 675,000 5,410,000 1,320,000 $6,400,000 Sales revwenue Net income Ending inventory (FIFO)* Purchases Depreciable assets $6,100,000 109,000 510,000 4,990,000 1,120,000 113,000 620,000 5,200,000 1,230,000 2009 2008 2007 Ending inventory (LIFO)* $518,000 $512,000 $500,000 The 2006 ending inventory was $420,000 (LIFO)