ACCOUNTING ALTERNATIVES AND FINANCIAL ANALYSIS Shady Deal Automobile Sales Company has asked your bank for a $100,000 loan to expand its sales facility. Shady Deal provides you with the following data:

2009 2008 2007 Sales revenue $6,100,000 $5,800,000 $5,400,000 Net income 119,000 112,000 106,000 Ending inventory (FIFO)* 665,000 600,000 500,000 Purchases 5,370,000 5,105,000 4,860,000 Depreciable assets 1,240,000 1,150,000 1,090,000

*The 2006 ending inventory was $470,000 (FIFO).

Your inspection of the financial statements of other automobiles sales firms indicates that most of these firms adopted the LIFO method in the late 1970s. You further note that Shady Deal has used 5 percent of depreciable asset cost when computing depreciation expense and that other automobile dealers use 10 percent. Assume that Shady Deal’s effective tax rate is 25 percent of income before tax. Also assume the following:

2009 2008 2007 Ending inventory (LIFO)* $508,000 $495,000 $480,000

*The 2006 ending inventory was $470,000 (LIFO).

Required:

. Compute cost of goods sold for 20072009, using both the FIFO and the LIFO methods.

. Compute depreciation expense for Shady Deal for 20072009, using both 5 percent and 10 percent of the cost of depreciable assets.

. Recompute Shady Deal’s net income for 20072009, using LIFO and 10 percent depreciation. (Don’t forget the tax impact of the increases in cost of goods sold and depreciation expense.)

. Explain whether Shady Deal appears to have materially changed its financial statements by the selection of FIFO (rather than LIFO) and 5 percent (rather than 10 percent) depreciation.

Problem Set B