This document discusses two methods for valuing inventory - First In, First Out (FIFO) and Last In, First Out (LIFO). FIFO matches the costs of the oldest inventory units with the sales revenue, while LIFO matches the costs of the newest inventory units with sales. The document provides examples to illustrate how inventory values would be reported under each method when a company produces and sells different quantities of inventory over time.

1. First In, First Out (FIFO)
Last In, First Out (LIFO)

2. The purpose of this exercise is for you to be able to
consider inventory as part of the accounting cycle.
There are two major methods that will be discussed:
First in, First out (FIFO) and Last in, Last out (LIFO).
The following questions and answers will lead you to an
explanation, practical application, and process for determining
FIFO and LIFO.
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3. Please consider the following:
What is inventory to a company and why give it a value?
Inventory is goods and materials that a business holds for the purpose of resale.
Inventory is given a value for two main purposes: insurance and profits.
Insurance Values: Valuing inventories allows reimbursement in-case of loss.
Profits: Inventories are valued in relation to profits because the value of a company’s
inventory directly impacts financial reporting.
i.e. net income calculations, shareholder equity, and total assets.
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4. Why are there differing equations, such as
FIFO and LIFO, for valuing inventory?
Inflation is the major factor in determining which equation, FIFO or LIFO, to use.
During high inflation periods, a company may opt to use FIFO in order to achieve higher profits.
This is because FIFO uses a valuation equation that matches profits at lower production costs and
creates higher earnings per share.
Depending upon the financial focus of the company, LIFO may be used in higher inflation periods,
to lower net income and lower tax liability because LIFO matches profits at higher production costs.
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5. FIRST IN, FIRST OUT (FIFO)
FIFO: This inventory method matches sales with inventory by matching revenue from the
first sale with the costs associated with the first product that was made; first in, first out.
Consider the following:
A company produces 75 tables at a cost of $50 per unit and an additional 50 tables at a cost of
$60 per unit. The company has sold a total of 50 units.
Using FIFO, how would the company report its inventory values?
Answer:
The revenue from the sale of the first 50 tables would be matched at the cost of $50 per unit.
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6. LAST IN, FIRST OUT (LIFO)
LIFO: This inventory method matches values in the reverse order from FIFO. The first sales are
matched against the last product produced. LIFO assumes that a company sells off the last of
its goods first; last in, first out.
Consider the following:
A company produces 75 tables at a cost of $50 per unit and an additional 50 tables at a cost of
$60 per unit. The company has sold a total of 50 units.
Using LIFO, how would the company report its inventory values?
Answer:
The revenue from the sale of the first 50 tables would be matched at the cost of $60 per unit.
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