What question did this study set out to answer?

This research examines how adopting LIFO affects firms' cost of goods sold and interest expenses post-adoption.

June 15, 2026

LIFO Adoption and the Tax Shield Substitution Effect.

RTRobert TrezevantUniversity of Southern California

Key Points

This research examines how adopting LIFO affects firms' cost of goods sold and interest expenses post-adoption.
Analyzed data from firms that adopted LIFO in 1974
Compared changes in cost of goods sold and interest expenses before and after LIFO adoption
Evaluated the impact on firms retaining FIFO
Firms adopting LIFO showed a negative correlation between changes in cost of goods sold and interest expense
No such relationship existed for firms using FIFO
Indicates interdependence of capital structure and inventory accounting choices

Abstract

Abstract Consistent with the tax shield substitution effect, this study documents that firms that adopted LIFO in 1974 exhibit a negative association between the post-adoption change in their cost of goods sold and the post-adoption change in their interest expense. This negative association Is not observed for firms that retain FIFO. These results suggest that the capital structure and LIFO/FIFO choices are not independent of each other. A contribution of this study is that it investigates the response of tax shields to the change in a non-investment tax shield (i.e., cost of goods sold), thus providing evidence concerning the generalizability of the substitution effect.

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