Analyzing and Interpreting Inventories and Converting LIFO to FIFO for Ratio Calculation The current asset section from The Dow Chemical Company’s 2015 annual report follows.

December 31 ($ millions) 2015 2014 Cash and cash equivalents . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 8,577 $ 5,654 Accounts and notes receivable Trade (net of allowance for doubtful receivables—2015: $94; 2014: $110) . . . . . 4,078 4,685 Other. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3,768 4,687 Inventories . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6,871 8,101 Deferred income tax assets—current. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 827 812 Other current assets. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 354 316 Total current assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $24,475 $24,255 The Dow Chemical inventory footnote follows.

The following table provides a breakdown of inventories.

Inventories at December 31 ($ millions) 2015 2014 Finished goods. . . . . . . . . . . . . . . . . . . . . . . . . . . $3,850 $4,547 Work in process . . . . . . . . . . . . . . . . . . . . . . . . . . 1,506 1,905 Raw materials. . . . . . . . . . . . . . . . . . . . . . . . . . . . 747 797 Supplies . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 768 852 Total inventories . . . . . . . . . . . . . . . . . . . . . . . . . . $6,871 $8,101 The reserves reducing inventories from a FIFO basis to a LIFO basis amounted to $8 million at December 31, 2015 and $569 million at December 31, 2014. Inventories valued on a LIFO basis, principally hydrocarbon and U.S. chemicals and plastics product inventories, represented 30 percent of the total inventories at December 31, 2015 and 29 percent of total inventories at December 31, 2014.

A reduction of certain inventories resulted in the liquidation of some of the Company’s LIFO inventory layers, increasing pretax income $3 million in 2015, decreasing pretax income $23 million in 2014, and increasing pretax income $55 million in 2013.

Required

a. What inventory costing method does Dow Chemical use? As of 2015, what is the effect on cumulative pretax income and cash flow of using this inventory costing method? (Assume a 35% tax rate.) What is the effect on 2015 pretax income and cash flow of using this inventory costing method?

b. Compute inventory turnover and average inventory days outstanding for 2015 (2015 cost of goods sold is $48,778 million). Comment on the level of these two ratios. Is the level what you expected?

c. Determine the FIFO values for inventories for 2014 and 2015, and cost of goods sold for 2015. Recompute inventory turnover and DIO. Compare the ratios to those from part

b. Which set of ratios would provide more useful analysis?

d. Explain why a reduction of inventory quantities increased income in 2013 through 2015.