FIA
MA1 – Management Information
LECTURER: Dundee Thomas
https://sbcstt.com/
[email protected]Session 6:
Inventory valuation
The basic methods of valuing inventory are:
• FIFO – First in, First out
• LIFO – Last in, First out
• Cumulative weighted average pricing
• Periodic weighted average pricing
FIFO
This method assumes that inventory items are sold in the order in which they are manufactured
or purchased. In other words, the oldest inventory items are sold first. The FIFO method is
widely used because companies typically sell products in the order in which they are purchased,
so it best represents the actual flow of goods in a business.
LIFO
The last-in-first-out (LIFO) inventory valuation method assumes that the most recently
purchased or manufactured items are sold first – so the exact opposite of the FIFO method.
When the prices of goods increase, Cost of Goods Sold in the LIFO method is relatively higher
and ending inventory balance is relatively lower.
Cumulative weighted average pricing
This method calculates an average cost of all the units in inventory whenever a new purchase is
made.
Periodic weighted average pricing
This method involves calculating an average cost per unit at the end of a given period. This is
easier to calculate than the cumulative weighted average method, but can only be applied
retrospectively since the costs of materials used cannot be calculated until the end of the period.
Example
XY plc commenced the year with 100 units of raw materials valued at €1 per unit. During the
year the company purchased 1200 units as follows...
At the end of the year 300 units were left in the raw material inventory. The consumption of raw
materials was therefore 1000 units.
Which method is correct?
There are advantages and disadvantages of each method.
Note:
When raw material costs are rising:
• Closing stock values will be higher using cumulative weighted average pricing rather
than periodic weighted average.
• Closing inventory values will be higher using FIFO rather than LIFO.
• Production cost will be lower using FIFO rather than LIFO.
If raw material costs are falling, the opposite would occur.
