As prices decrease, what happens to the ending inventory value under FIFO?

The correct answer highlights that with a decrease in prices, the ending inventory value under the FIFO (First-In, First-Out) method decreases. Under FIFO, the earliest costs—the costs of the first items purchased—are used up first in calculating the cost of goods sold. Therefore, the ending inventory consists of the most recently purchased items, which have lower costs when prices are declining.

When prices decrease, the older, higher-cost inventory is sold off first, leaving the inventory on the balance sheet composed of newer, lower-cost items. This results in a lower valuation for the ending inventory because it reflects the recent, lower prices rather than the older, higher prices. Consequently, when there is a decrease in prices, the valuation of the remaining inventory—according to the FIFO method—declines. Thus, ending inventory decreases as prices fall.