Assume that you are a financial analyst. You are trying to compare the financial statements of Caterpillar, Inc., with those of CNH Global

Assume that you are a financial analyst. You are trying to compare the financial statements of Caterpillar, Inc., with those of CNH Global, an international company that uses international financial reporting standards (IFRS). Caterpillar, Inc., uses the last-in, first-out (LIFO) method to account for its inventories. IFRS does not permit CNH Global to use LIFO, so they use FIFO. Analyze the effect of this difference in accounting method on the two companies' ratio values. For each ratio discussed in this chapter, indicate which company will have the higher (and the lower) ratio value. Also, identify those ratios that are unaffected by the FIFO/LIFO difference. Ignore the effects of income taxes, and assume inventory costs are increasing. Then, based on your analysis of the ratios, summarize your conclusions as to which company looks better overall. 

Solution

4936-13-2DC AID: 649 1 25/07/2012 

RID: 765 1 16/08/2012 

Ctrpilr and CH these two companies are using a different method of inventory valuation. Caterpillar is using the LIFO, method whereas CH is not. The two companies will have different inventory turnover ratios due to different accounting methods used.

 The following ratios will get affected: 

1. Inventory turnover ratio 

2. Rate of return on sales 

3. Rate of return on total assets 

4. Rate of return on stockholder's equity 

5. Current ratio 

6. Working capital 

LIFO method results in lower net income hence the ratios will be lower for Caterpillar. 

The following ratios will not have any effect on the inventory method: 

1. Acid test ratio

 2. Debt ratio By analyzing the details, CH can be considered better.