The Internet has become an extremely popular place for small businesses and firms to advertise and sell their products. Although this is a very easy and popular way to sell, it all depends on how well the company uses its resources and marketing ideas. One company that is widely known across the country and famous for having grown so fast since its online creation is Amazon.com. It opened a whole new market for competitive business in the specialty industries on the computer and has proven to be a successful company on the Net. Amazon.com is one of the famous public companies that investors love to invest into. How can Amazon.com meet its goal of achieving profitability to please its investors? What information do investors need to have to consider continuing investment in Amazon.com? Financial statements are meant to enable the investors to evaluate the performance of Amazon.com, analyzer its cash flow and assess its financial position. In this paper, Learning Team D will examine the cost-flow method that Amazon uses in its inventory, its impact on adjustment and how Amazon discloses on its financial statement. In addition, this paper also analyzes the impact on adjustment to Amazon's current ratio and discusses whether its competitors made the same adjustment.
The inventory valuation method used and whether this method impacted the adjustment
There are four basic approaches to inventory valuation that are allowed by GAAP (Generally Accepted Accounting Principles). The first approach is first in-first out (FIFO). According to our text FIFO is defined as "the inventory cost-flow assumption that the first cost in inventory are the first costs out to cost of goods sold" (Marshall et al, 2004). Typically when dealing with food items FIFO makes that most sense as it reflects the fact that the first food items purchased, are the first food items sold. Also typically during times of rising prices the FIFO method will result in lower expenses and higher net income than the LIFO method would.
The second approach is last-in, last out (LIFO). LIFO is defined as " the cost flow assumption that the last costs in to inventory are the first costs out to cost of goods sold"( Mc-Graw-Hill, p.152). Since costs rise and fall over time businesses will often use the LIFO approach during times of high inflation. Therefore, businesses will often use the LIFO approach for tax breaks during periods of high inflation.
The third approach is weighted average. Weighted average is "the cost flow assumption that is based on an average of the cost of beginning inventory plus the cost of purchases during the year, weighted by the quantity of items at each cost" (Marshall et al, 2004). Weighted average is calculated by taking an average weighted by the number of units in beginning inventory and each purchase. For items that are homogenous in nature such as paper goods the weighted average approach can work.
The fourth approach is specific identification. Specific identification is "the cost flow assumption that matches cost flow with physical flow" (Marshall et al, 2004). This approach is typically appropriate for a firm dealing with specifically identifiable products, such as automobiles. This assumption is not practical for a firm having a large number of inventory items that are not easily identified individually.
Amazon.com uses the LIFO method to record their value of inventory. Where prices are increasing, it is used by some companies to save money in taxes. LIFO generally delays the recognition of net profit to future periods, temporarily resulting in a tax savings and therefore higher cash flow.
The amount of the adjustment and how it was disclosed
As stated above, Amazon.com as an internet-based company uses the last in, last out (LIFO) approach as their inventory valuation method. According to Amazon.com's 2004 annual report, the company's ultimate goal is to have "long-term growth in free cash flow per share" (p.4). By...
References: Amazon.com (2004). Annual Report. Website: http://library.corporateir.net/library/97/976/97664/items/144853/2004_Annual_report.pdf
Marshall, D.H., McManus, W.W. & Viele, D.F. (2004). Accounting: What the Numbers Mean (6th ed.). New York: McGraw-Hill.
Mullaney, T. (2002). Amazon is all grown up, except for its accounting. Business Weekly, (3794)74. Retrieved 11/17/2005 from EBSCOhost database.
Lorek, L. (2001). Pro forma: only the good news. Interactive Week. 8(24) 13. Retrieved
11/17/2005 from EBSCOhost databse.
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