Several years ago, William T. Gimbel, the late
chief executive officer of Reliance Steel & Aluminum Co.,
opened the quarterly financial report of another service
center. Thumbing through the Earle M. Jorgensen Co.
document-Jorgensen at the time was publicly held and the
largest holding in Reliance's retirement fund-he called a
visitor's attention to a figure near the back of the report
Jorgensen's substantial last-in, first-out (Lifo) inventory
"There's the value in that company," Gimbel
declared, pointing to the Lifo reserve, which gave a fuller
picture of Jorgensen's profitability than its net income.
Today, Jorgensen is a subsidiary of Reliance, which itself in
now publicly held.
For more than 70 years, Lifo-as opposed to
first-in, first-out (Fifo) inventory valuation-has been a tool
for companies to dampen the tax impact of inflation. Meanwhile,
an Internal Revenue Service (IRS) "conformity rule" requires a
company that employs Lifo for tax purposes to also use it for
financial reporting. While some executives think Lifo can help
reduce the volatility of reported earnings due to wildly
fluctuating raw material prices, some on Wall Street think it's
confusing and would just as soon see it eliminated. And in
recent years it's been the target of congressional revenue
Reliance, which today is the largest U.S. metals
service center, is a Lifo user. David H. Hannah, chairman and
chief executive officer of the Los Angeles-based chain, said
that the main reason most companies use Lifo is for the tax
advantage and its positive impact on cash flow. But he also
points to a second plus. "From our vantage point as a public
company it helps even out the peaks and valleys of earnings
volatility caused by cost increases and decreases," he said,
adding that a company's reported performance is typically "less
cyclical" using Lifo than it is on a first-in, first-out"
However, Hannah noted that Wall Street's view of
Lifo isn't always consistent. Some securities analysts tend to
ignore Lifo expenses that reduce reported earnings when metals
prices are rising but then "adjust out" Lifo income when it
occurs in a down market.
David N. Deinzer, president and chief executive
officer of steel distributor Denman & Davis Inc., Clifton,
N.J., noted that 2008 was one of the periods that could be
difficult for Lifo practitioners, marked by an inflationary
first half but deflation in the fourth quarter.
"Last year was one of those years when, if you were
on Lifo, you wouldn't want to be buying anything from October
on," he said, suggesting that, depending on market conditions,
Lifo considerations could distract a company by pushing it to
manage its inventory rather than its business.
In the slumping market of 2002, after more than 40
years on Lifo, privately held Denman & Davis shifted to a
system that Deinzer calls "actual item cost." Every plate
purchased by the company, for example, is costed as it comes
and tracked until it's sold, a method he acknowledged is
probably facilitated today by modern computers and information
However, arguments for and against Lifo might one
day be only nostalgia if the U.S. Securities and Exchange
Commission (SEC) decides to approve a proposed timetable for
public companies to switch from the U.S. framework of Generally
Accepted Accounting Principles (GAAP) to International
Financial Reporting Standards (IFRS), which don't allow
The possible consequences for distributors of such
a move aren't lost on Jonathan Kalkwarf, vice president of
finance and administration at the Metals Service Center
Institute (MSCI), Rolling Hills, Ill. "It's a matter of great
concern for our U.S. members," he said. (Lifo doesn't exist in
Canada.) "It could mean a tremendous increase in business
taxes." Kalkwarf said he wasn't able to estimate the percentage
of MSCI members using Lifo.
"But the more urgent matter for us is the SEC
timeline for IFRS legislation," he said, adding that MSCI's
unease isn't limited to its impact on publicly traded service
centers. "The concern is that (once) public companies leave
GAAP, private companies would be forced to do that by their
lenders and auditors."
Thomas F. Cramsey, vice president and chief
accounting officer at publicly held Carpenter Technology Corp.,
a Wyomissing, Pa.-based specialty metals producer, emphasized
that IFRS' impact won't be limited to Lifo. It also could
involve changes in companies' business processes, business
models and information systems.
"Nobody has the luxury of waiting until 2011" to
see if the SEC gives the go-ahead to IFRS, he said, stressing
that "companies need to run diagnostics" now to prepare for its
possible introduction. Cramsey pointed out that while a company
might be required to use IFRS for its Form 10-K annual report
for 2014, it also would need to restate its earnings to conform
with IFRS for 2012 and 2013. This means that most companies
could be running dual sets of books-using GAAP and IFRS-for
At Commercial Metals Co., an Irving, Texas-based
recycler, steel producer and fabricator, William B. Larson,
senior vice president and chief financial officer, said he
isn't ready to panic at the SEC's proposed switch to IFRS. "I
would not take it as a given that it's just two years away, or
five years," he said, noting that the hurdles set by the SEC
roadmap "are set pretty high." Other financial executives
pointed out that the SEC's new chairwoman, Mary L. Schapiro,
had recently voiced doubts about IFRS.
Larson also noted that Lifo has survived a decade
in Congress' cross-hairs and enjoys the support of some of the
country's corporate heavyweights. "Lifo has been on the hit
list each year for congressional revenue raisers," he said.
Larson thinks the best possible resolution for Lifo
would be for the IRS to revoke the conformity rule, telling
companies in effect that "you can be on it for tax (purposes)
but we don't care whether or not you're on it for book."