What are FIFO and LIFO?
FIFO (First In, First Out) and LIFO (Last In, First Out) are two methods of inventory management and accounting. FIFO is a method where the oldest items in an inventory are sold or used first, while LIFO is a method where the last items received or produced are the first items to be sold or used.
The main difference between FIFO vs LIFO is the criteria used to determine which items should be sold or used first.
This can lead to different results in terms of the cost of goods sold and the value of the remaining inventory on the balance sheet. FIFO generally results in a lower cost of goods sold and a higher ending inventory value, while LIFO results in a higher cost of goods sold and a lower ending inventory value.
Example of FIFO (First In, First Out)
A common example of FIFO in use is in a retail store’s inventory management. Let’s say a store receives a shipment of 88 identical items (e.g. a new phone model) on Monday and then another shipment of 22 identical items on Friday.
Under the FIFO method, the store would sell the items from the Monday shipment first, as they were received first. The store would sell the first 88 items from the Monday shipment, and then move on to the Friday shipment to sell the remaining 22 items.
This way, the store is ensuring that it is selling the oldest items first, which helps to minimize the risk of having to sell outdated or expired items.
Example of LIFO (Last In, First Out)
An example of LIFO in use is in a manufacturing company’s inventory management. Let’s say a manufacturing company produces a specific type of gear.
The company produces 100 gears on Monday and another 200 gears on Friday.
Under the LIFO method, the company would use the gears produced on Wednesday first, as they were the last ones produced. The company would use the first 200 gears produced on Friday, and then move on to the gears produced on Monday to use the remaining 100 gears.
This way, the company is ensuring that it is using the most recent items first, which can help minimize the risk of having to use outdated or obsolete items.
What are the Differences Between FIFO vs LIFO?
FIFO (First In, First Out) and LIFO (Last In, First Out) are two common inventory management methodologies.
FIFO (First in, first out) is often used when inventory has a shelf life or expiration date, as it ensures that the older items are sold first to prevent spoilage.
LIFO, on the other hand, assumes that the last items added to inventory are the first items sold. This method is used when prices are expected to increase, as it assumes that the most recent items are the most expensive, and therefore most profitable to sell.
In summary, FIFO is used when inventory has a shelf life and LIFO is used when prices are expected to increase, and also for tax purposes in certain countries like USA.