What is one disadvantage of the FIFO inventory system?

The FIFO (First-In, First-Out) inventory system is designed to help businesses manage their stock by selling the oldest items first. This approach can lead to specific disadvantages, particularly in terms of financial implications. One notable disadvantage is the potential for higher tax payments. Because FIFO typically results in lower Cost of Goods Sold (COGS) when prices are rising, the inventory's older, less expensive items are sold first, leaving the more expensive, newer inventory on the balance sheet. Consequently, this can increase the taxable income, leading to higher tax liabilities.

The impact of FIFO on financial statements can lead to increased profit margins and, subsequently, higher taxes due to the increased income reported. As a result, while FIFO helps streamline inventory management and can provide a clearer picture of inventory flow, it does come with the notable disadvantage of increased tax obligation in an inflationary environment.

On the other hand, some of the alternatives are not aligned with the disadvantages found in FIFO. The ease of manipulation in inventories is not inherently a characteristic of FIFO; rather, practices in inventory management as a whole can create avenues for manipulation, regardless of the method used. Similarly, concerns around outdated inventory valuation arise when inventory isn't managed properly but are not a specific disadvantage of FIFO.