Different methods are used to value inventory, the two most common being FIFO and LIFO. Both methods have their merits, but which is the best for your business? Let’s take a look at the difference between FIFO and LIFO so you can make an informed decision.
FIFO stands for First In, First Out and is based on the assumption that the first items to enter into inventory are also the first items to be sold. This method calculates inventory values by taking into account the cost of goods that were purchased first. LIFO stands for Last In, First Out and is based on the assumption that the last items to enter into inventory are also the first ones to be sold.
What is FIFO method?
FIFO, or “first in, first out,” is one of the most commonly used methods for inventory valuation. Under this method, it is assumed that the earliest units of inventory that are acquired are also the first units to be sold. This method is often used in industries where the products have a short shelf life or are perishable, such as food and beverage businesses.
The main advantage of FIFO is that it provides a more accurate representation of the true cost of goods sold. This is because the costs associated with older inventory units are typically higher than the costs associated with newer units. FIFO can give decision-makers a more accurate picture of their business’s profits and losses.
What is LIFO method?
LIFO stands for Last In First Out. LIFO is a method of inventory valuation that assumes that the most recent items in inventory are the first ones sold. The LIFO method is used in both manufacturing and merchandising businesses. In a manufacturing company, LIFO is used to value Raw Materials Inventory and Work in Process Inventory.
In a merchandising company, LIFO is used to value finished goods inventory. When prices are rising, LIFO results in a lower cost of goods sold and a higher ending inventory balance than if the FIFO method were used. As a result, net income is lower under LIFO than it would be under FIFO. For tax purposes, the IRS allows companies to use either LIFO or FIFO.
Difference between FIFO and LIFO methods of inventory valuation
The two primary methods of inventory valuation are the FIFO and LIFO methods. FIFO, or First In First Out, is an inventory method in which items are sold in the same order in which they are purchased. In other words, the first items that are bought are also the first ones sold. This method is commonly used by businesses because it more accurately reflects the actual flow of inventory. LIFO, or Last In First Out, is an inventory method in which the most recently purchased items are sold first.
Conclusion
FIFO and LIFO are two methods of inventory valuation that business owners can use to determine the cost of their goods. FIFO, or first in, first out, is a method where the oldest items in stock are sold first. LIFO, or last in, first out, is a method where the newest items in stock are sold first.
Both of these methods have benefits and drawbacks that should be considered when choosing which to use for a business. FIFO is typically used by businesses who want to ensure they are not taking on too much risk with their inventory.
