FIFO method of inventory valuation

Kpi.com Accounts uses the first-in, first-out (FIFO) method of costing inventory. This method assumes that oldest items are sold first. The cost of the oldest item is assigned to the first item sold, and the cost of the newest item is assigned to inventory. The value of the inventory is close to its actual replacement cost.

You might purchase items at a certain price, and then purchase more of the same items at a different price. The FIFO method treats items that are purchased at the same price as a layer of inventory. Although the sales price is the same for all the layers, the cost of goods sold is determined from the purchase price of the first layer until all its items are gone, and then from each succeeding layer until all its items are gone.

When prices are going up, your cost of goods sold is lowest with FIFO, because you take the oldest, and therefore least expensive, items out of inventory first. Your income is higher, although your taxes are higher as well.

Cost of inventory can also be accounted for in the following ways:

Last-in, first-out (LIFO) This method assumes that newest items are sold first. The cost of the newest item is assigned to the first item sold, and the cost of the oldest item is assigned to inventory.

Weighted average This method uses an average cost. Item cost is assigned by dividing the total cost by the number of items.

FIFO method of inventory valuation

See also