Obama's LIFO Change — Accounting and Supply Risk Converge
Categories: Spend Management |
Being married to a former Arthur Andersen employee has its ups and downs (or debits and credits you might say). But one major advantage is that at least someone in our house has a rudimentary understanding of basic inventory accounting principles. Earlier this week, after much previous debate and discussion over the weekend, Lisa penned a post titled Why You Should Care About Obama's Repeal of LIFO. LIFO, for those not familiar with the term is "a widely used practice of measuring [the value of] one's inventory ...[that provides a means to measure the financial picture of a company taking into consideration inflation". Lisa notes that "According to the National Association of Manufacturers, if LIFO were to be repealed, the tax bills for thousands of manufacturers would increase and would be higher in the future. Sectors which could be severely impacted by any repeal include: industrial equipment, metal fabrication and transportation equipment where LIFO accounting methods are used by 40% to 50+% of companies within those industry verticals."
Under Obama's plan, the option to use LIFO would be eliminated and companies would have to account for inventory on a first in, first out (FIFO) basis that taxes inventory / order replacement on the actual cost basis (not the replacement cost basis). In a falling price market, FIFO accounting would have no negative impact. But according to Lisa, "any inflation [under FIFO] will have the very real (and negative) effect of increasing a company's tax burden, lowering its global competitiveness, increasing cash flow problems and decreasing working capital." In today's challenging manufacturing environment, forced FIFO accounting very well might drive more suppliers to enter forced liquidation or restructuring, especially when commodity inflation comes roaring back (which it will because ultimately running the printing presses at the rate we are will lead to commodity market inflation). Regardless of whether or not you agree with this tax policy change, to me it is further proof why all manufacturers and retailers of manufactured products should put in place a permanent supply risk management system. And while they're at it, they should find out how their suppliers are accounting for inventory.