First-in, First-out (FIFO) method

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