The three cost flow methods are:
first-in, first-out (FIFO), last-in, first-out (LIFO) and average-cost. FIFO assumes that the earliest goods purchased are the first to be sold, LIFO assumes the latest unites purchased are the first to be sold, and the average-cost method uses the weighted unit cost to allocate the cost of goods available for sale to ending inventory and cost of goods sold.
FIFO – earliest goods purchased are the first to be recognized in determining costs of goods sold-in line with the physical flow of merchandise. Looking at the ending inventory and starting with the unit cost of the most recent purchased items back to the earliest items is how Income is calculated. FIFO assumes goods were sold at the most recent prices and purchased at the earliest cost which produces a higher net income result.
LIFO – latest goods purchased are the first to be recognized in determining costs of goods sold-less likely to be in line with the physical flow of merchandise. Looking at the ending inventory and starting with the unit cost of the earliest goods available for sale to the most recent is the way Net income is calculated by. Assuming goods were sold at the earliest prices and purchased at the most recent cost which produces a lower net income result is LIFO. Some companies choose LIFO to lower their income tax liability and to postpone paying taxes.
The costs of goods available for sale based on their weighted-average unit cost are Average-cost. Cost of goods available for sale is divided by the total unit available to get the weighted average unit cost. Ending inventory is the units left are multiplied by the unit cost to get the total cost of the remaining inventory. The difference of the ending inventory and original cost of goods available is cost of goods sold. Average-cost averages out changes in cost or pricing such as inflation so the net income is steadied and more accurate.
As I mentioned in the first discussion for this week. First in – first out(FIFO) and last in – first out (LIFO). FIFO is when the “company charges to cost of goods sold the cost of the earliest goods on hand prior to each sale” (Kimmel, 2019). Which is better understood in the terms that the earliest purchased goods are the first to be sold. LIFO is when the “company charges to cost of goods sold the most of the most recent purchase prior to sale” (Kimmel, 2019). This way is more know as the latest purchased goods are the first ones sold. Adding to that, average- cost methods “allocates the cost of goods available for sale on the basis of the weighted-average unit cost incurred” (Kimmel, 2019), the formula associate with the average-cost method is Cost of Goods Available for Sale ÷ Total Units Available for Sale = Weighted-Average Unit Cost.
FIFO is best related to a grocery store. They want to advertise the product that was the first in to get it out and consumed before it expires and has to be thrown away. This is opposite for LIFO like the retail work where the newest product brought in is what stores want to sell over their old items that are at a clearance price.
Changes are constantly changing so it important that companies stay ontop of the market and price their items accordingly.