In its first month of operation, Ivanhoe Company purchased 320 units of inventory for $5, then 420 units for $6, and finally 360 units for $7. At the end of the month, 400 units remained. Compute the amount of phantom profit that would result if the company used FIFO rather than LIFO. Phantom profit $

Phantom profit = $680

Explanation:

Phantom profits or illusionary profits are used in the context of inventory, during periods of rising costs. It is the difference between profit reported using the historical cost and the profit that would have been reported if the replacement cost was used. To understand this, we need to know the cost of goods sold under both the LIFO and FIFO methods.

Total inventory:

1. 320 units x $5 = $1600

2. 420 units x $6 = $2520

3. 360 units x $7 = $2520

If ending inventory was 400 units, the number of units sold =

Total inventory - ending inventory

(320 + 420 + 360) - 400 = 700 units

FIFO is where by the inventory that first enters the business is the one used first. Common for inventory consisting of perishable goods.

This would be used up as:

1. 320 units x $5 = $1600

2. 380 units x $6 = $2280

Hence, COGS under FIFO = $2280 + $1600 = $3880

LIFO is a method of inventory valuation where the inventory that comes in last is first to be used. This is common in bulk inventory stacked one on top of the other. COGS under this method:

1. 360 units x $7 = $2520

2. 340 units x $6 = $2040

Thus, COGS under LIFO is $2520 + $2040 = $4560

COGS is $4560 when using LIFO and $3880 when using FIFO. Thus, the phantom profit is $4560 - $3880 = $680.

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