Most commonly used cost formulas or methods of inventory valuation include First-in, First-out (FIFO) method. The name “First-in, First-out” itself explains the basic assumption of this method, i.e. inventory purchased or manufactured first will be sold or consumed first, which means that at any time, value of inventory in hand will be the cost of most recently acquired units of inventory.

Rephrasing the basic assumption; In FIFO, it is assumed that inventory items are sold or consumed in the order in which these items are purchased or manufactured. Older items of inventory get sold first and newer items remain in the inventory. However, it must be noted that this is merely an assumption used to calculate the cost of goods sold and value of inventory in hand. Actual physical flow of inventory may not be in accordance with this FIFO assumption.

Application of FIFO Method

FIFO method can be applied in Perpetual Inventory System as well as in Periodic Inventory System. The following example will elaborate how FIFO method is applied to calculate the cost of goods sold and value of inventory in hand.

Example

On 1 June, XYZ Company had an opening balance of 80 units of inventory costing $25 per unit. During the month of June, XYZ Company made following transactions:

Purchases

• 3 June – 280 units @ $30 per unit
• 12 June – 480 units @ $40 per unit
• 20 June – 180 units @ $35 per unit

Sales

• 7 June – 180 units
• 9 June – 150 units
• 15 June – 200 units
• 25 June – 350 units

Calculate the following using FIFO method of valuation:

a) Cost of goods sold for the month of June
b) Value of inventory as at 30 June

Answer

FIFO (Periodic System of Inventory)

Movement of Inventory (Units)

Opening inventory	80
Purchases (280 + 480 + 180)	940
Units available for sale	1020
Units sold (180 + 150 + 200 + 350)	880
Closing inventory	140

Cost of Goods Sold

	Date	Units	Rate ($)	Cost ($)
180 units sold * 80 from opening	a 7 Jun	a 80	a 25	a 2,000
* 100 from 3 June procurement	7 Jun	100	30	3,000
150 units sold * from 3 June procurement	a 9 Jun	a 150	a 30	a 4,500
200 units sold * 30 from 3 June procurement	a 15 Jun	a 30	a 30	a 900
* 170 from 12 June procurement	15 Jun	170	40	6,800
350 units sold * 310 from 12 June procurement	a 25 Jun	a 310	a 40	a 12,400
* 40 from 20 June procurement	25 Jun	40	35	1,400
		880		31,000

Closing Inventory

	Units	Rate ($)	Cost ($)
140 units left out of latest lot of procurement	a 140	a 35	a 4,900

 

FIFO (Perpetual System of Inventory)

Date	Purchases			Sales			Balance
	Units	@	$	Units	@	$	Units	@	$
1 Jun							80	25	2,000
3 Jun	280	30	8,400				80	25	2,000
							280	30	8,400
7 Jun				80	25	2,000	180	30	5,400
				100	30	3,000
9 Jun				150	30	4,500	30	30	900
12 Jun	480	40	19,200				30	30	900
							480	40	19,200
15 Jun				30	30	900	310	40	12,400
				170	40	6,800
20 Jun	180	35	6,300				310	40	12,400
							180	35	6,300
25 Jun				310	40	12,400	140	35	4,900
				40	35	1,400
						31,000

Cost of goods sold = $31,000

Closing inventory = $4,900