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Inventory Valuation Methods

Inventory Valuation Methods

   Inventory valuation example 1 in pdf file
   FIFO example 1 in pdf file
   LIFO example 1 in pdf file
   Dollar Value LIFO

First-in First-out (FIFO)

Under FIFO, it is assumed that items purchased first are sold first.

Last-in First-out (LIFO)

Under LIFO, it is assumed that items purchased last are sold first.

Perpetual Inventory System

   Perpetual inventory system updates inventory accounts after each purchase or sale.

      Inventory subsidiary ledger is updated after each transaction.
      Inventory quantities are updated continuously.

Periodic Inventory System

   Periodic inventory system records inventory purchase or sale in "Purchases" account.

      "Purchases" account is updated continuously, however, "Inventory" account is updated on a periodic basis, at the end of each accounting period (e.g., monthly, quarterly)
      Inventory subsidiary ledger is not updated after each purchase or sale of inventory.
      Inventory quantities are not updated continuously.
      Inventory quantities are updated on a periodic basis.

Example 1 (Company A)

Inventory transactions in May 2010.

Date	Transactions	Units Purchased (Sold)	Unit Cost	Inventory Units
May 1	Beginning Inventory	700	$10	700
May 3	Purchase	100	$12	800
May 8	Sale	(500)	??	300
May 15	Purchase	600	$14	900
May 19	Purchase	200	$15	1,100
May 25	Sale	(400)	??	700
May 27	Sale	(100)	??	600
May 31	Ending Inventory		??

Ending Inventory = Beginning Inventory + Units Purchased - Units Sold
= 700 + 900 - 1,000 = 600 units

Example 1-1 (Perpetual Recording, FIFO Valuation)

FIFO valuation under perpetual inventory system

Date Transactions Units Sold Unit Cost Inventory Units

May 1 Beginning Inventory 700 $10 700

May 3 Purchase 100 $12 800

May 8 Sale (*1) (500) ?? 300

May 15 Purchase 600 $14 900

May 19 Purchase 200 $15 1,100

May 25 Sale (*2) (400) ?? 700

May 27 Sale (*3) (100) ?? 600

May 31 Ending Inventory ??

   (*1) 500 units sold
           = 700 units from beginning inventory of at $10 unit cost.

           Cost of goods sold = 500x$10 = $5,000

   (*2) 400 units sold
           = 200 units from beginning inventory at $10 unit cost
           + 100 units from May 3 purchases at $12 unit cost
           + 100 units from May 15 purchases at $14 unit cost

        Cost of goods sold = 200x$10 + 100x$12 + 100x$14
           = $2,000 + $1,200 + $1,400 = $4,600

   (*3) 100 units sold
           = 100 units from May 15 purchases at $14 unit cost

          Cost of goods sold = 100x$14 = $1,400

    Total cost of goods sold
           = 500x$10 + 200x$10 + 100x$12 + 100x$14 + 100x$14
           = $5,000 + $2,000 + $1,200 + $1,400 + $1,400
           = $5,000 + $4,600 + $1,400 = $11,000

    Cost of ending inventory
           = Beginning inventory + Cost of purchases - Cost of goods sold
           = $7,000 + (100x$12 + 600x$14 + 200x$15) - $11,000
           = $7,000 + $12,600 - $11,000 = $8,600

[Checking]
   Quantity of ending inventory
          = Beginning inventory + Units purchased - Units sold
          = 700 + 900 - 1,000 = 600 units

   Cost of ending inventory
           = 400 x $14 (May 15 purchase) + 200 x $15 (May 19 purchase)
           = $5,600 + $3,000 = $8,600

Click here for FIFO solutions to example 1 in pdf file.

Example 1-2 (Perpetual Recording, LIFO Valuation)

LIFO valuation under perpetual inventory system

Date Transactions Units Sold Unit Cost Inventory Units

May 1 Beginning Inventory 700 $10 700

May 3 Purchase 100 $12 800

May 8 Sale (*1) (500) ?? 300

May 15 Purchase 600 $14 900

May 19 Purchase 200 $15 1,100

May 25 Sale (*2) (400) ?? 700

May 27 Sale (*3) (100) ?? 600

May 31 Ending Inventory ??

   (*1) 500 units sold
           = 100 units from May 3 purchases at $12 unit cost
           = 400 units from beginning inventory at $10 unit cost

           Cost of goods sold = 100x$12 + 400x$10
           = $1,200 + $4,000 = $5,200

   (*2) 400 units sold
           = 200 units from May 19 purchases at $15 unit cost
           + 200 units from May 15 purchases at $14 unit cost

        Cost of goods sold = 200x$15 + 200x$14
           = $3,000 + $2,800 = $5,800

   (*3) 100 units sold
           = 100 units from May 15 purchases at $14 unit cost

          Cost of goods sold = 100x$14 = $1,400

    Total cost of goods sold
           = 100x$12 + 400x$10 + 200x$15 + 200x$14 + 100x$14
           = $1,200 + $4,000 + $3,000 + $2,800 + $1,400
           = $5,200 + $5,800 + $1,400 = $12,400

    Cost of ending inventory
           = Beginning inventory + Cost of purchases - Cost of goods sold
           = $7,000 + (100x$12 + 600x$14 + 200x$15) - $12,400
           = $7,000 + $12,600 - $12,400 = $7,200

[Checking]
   Quantity of ending inventory
          = Beginning inventory + Units purchased - Units sold
          = 700 + 900 - 1,000 = 600 units

   Cost of ending inventory
           = 300x$10 (beginning inventory) + 300x$14 (May 15 purchase)
           = $3,000 + $4,200 = $7,200

   Note: 400 units from beginning inventory were sold on May 8.
             200 units from May 15 purchase were sold on May 25.
             100 units from May 15 purchase were sold on May 27.

             100 units from May 3 purchase were sold on May 8.
             200 units from May 25 purchase were sold on May 25.

Click here for LIFO solutions to example 1 in pdf file.

Example 1-3 (Periodic Recording, FIFO Valuation)

FIFO valuation under periodic inventory system

Date Transactions Units Sold Unit Cost Inventory Units

May 1 Beginning Inventory 700 $10 700

May 3 Purchase 100 $12 800

May 8 Sale (*1) (500) ?? 300

May 15 Purchase 600 $14 900

May 19 Purchase 200 $15 1,100

May 25 Sale (*2) (400) ?? 700

May 27 Sale (*3) (100) ?? 600

May 31 Ending Inventory ??

Under periodic inventory system, cost of inventories is calculated at the end of each accounting period (on May 31 in this example).

    [May 31, 2010]
     Quantity of ending inventory
          = Beginning inventory + Units purchased - Units sold
          = 700 + 900 - 1,000 = 600 units

     Using FIFO, units purchased first are assumed to be sold first.

     1,000 units sold
           = 700 units from beginning inventory of at $10 unit cost
           + 100 units from May 3 purchases at $12 unit cost
           + 200 units from May 15 purchases at $14 unit cost

     Cost of goods sold = 700x$10 + 100x$12 + 200x$14
           = $7,000 + $1,200 + $2,800 = $11,000

     600 units of inventory left
           = 400 units from May 15 purchases at $14 unit cost
           + 200 units from May 19 purchases at $15 unit cost

     Cost of ending inventory
           = 400x$14 + 200x$15 = $5,600 + $3,000 = $8,600

Click here for FIFO solutions to example 1 in pdf file.

Example 1-4 (Periodic Recording, LIFO Valuation)

LIFO valuation under periodic inventory system

Date Transactions Units Sold Unit Cost Inventory Units

May 1 Beginning Inventory 700 $10 700

May 3 Purchase 100 $12 800

May 8 Sale (*1) (500) ?? 300

May 15 Purchase 600 $14 900

May 19 Purchase 200 $15 1,100

May 25 Sale (*2) (400) ?? 700

May 27 Sale (*3) (100) ?? 600

May 31 Ending Inventory ??

Under periodic inventory system, cost of inventories is calculated at the end of each accounting period (on May 31 in this example).

    [May 31, 2010]
     Quantity of ending inventory
          = Beginning inventory + Units purchased - Units sold
          = 700 + 900 - 1,000 = 600 units

     Using LIFO, units purchased last are assumed to be sold first.

     1,000 units sold
           = 200 units from May 19 purchases at $15 unit cost
           + 600 units from May 15 purchases at $14 unit cost
           + 100 units from May 3 purchases at $12 unit cost
           + 100 units from beginning inventory at $10 unit cost

     Cost of goods sold = 200x$15 + 600x$14 + 100x$12 + 100x$10
           = $3,000 + $8,400 + $1,200 + $1,000 = $13,600

     600 units of inventory left
           = 600 units from beginning inventory at $10 unit cost

     Cost of ending inventory
           = 600x$10 = $6,000

Click here for LIFO solutions to example 1 in pdf file.

Example 1-5 (Perpetual Recording, Moving Average Valuation)

Moving Average valuation under perpetual inventory system

Date Transactions Units Sold Unit Cost Inventory Units Moving Average Unit Cost

May 1 Beginning Inventory 700 $10 700 $10

May 3 Purchase 100 $12 800 $10.25 (*1)

May 8 Sale (500) ?? 300 $10.50

May 15 Purchase 600 $14 900 $12.75 (*2)

May 19 Purchase 200 $15 1,100 $13.16 (*3)

May 25 Sale (400) ?? 700 700

May 27 Sale (100) ?? 600 600

May 31 Ending Inventory ??

   (*1) Average cost of 800 units
           = (700x$10 + 100x$12) / (700 + 100)
           = ($7,000 + $1,200) / 800 = $8,200 / 800 = $10.25

           Cost of goods sold on May 8 = 500x$10.25 = $5,125

   (*2) Average cost of 900 units
           = (300x$10.25 + 600x$14) / (300 + 600)
           = ($3,075 + $8,400) / 900 = $11,475 / 900 = $12.75

   (*3) Average cost of 1,100 units
           = (900x$12.75 + 200x$15) / (900 + 200)
           = ($11,475 + $3,000) / 1,100 = $14,475 / 1,100 = $13.16

           Cost of goods sold on May 25 = 400x$13.16 = $5,264
           Cost of goods sold on May 27 = 100x$13.16 = $1,316

Total cost of goods sold
           = 500x$10.25 + 400x$13.16 + 100x$13.16
           = $5,125 + $5,264 + $1,316 = $11,705

    Cost of ending inventory
           = Beginning inventory + Cost of purchases - Cost of goods sold
           = $7,000 + (100x$12 + 600x$14 + 200x$15) - $11,705
           = $7,000 + $12,600 - $11,705 = $7,895

[Checking]
   Quantity of ending inventory
          = Beginning inventory + Units purchased - Units sold
          = 700 + 900 - 1,000 = 600 units

   Cost of ending inventory
           = 600 x $13.16 (Moving Average cost per unit as of May 31)
           = $7,896

   $7,896 - $7,895 = $1 (rounding error)

Example 1-6 (Periodic Recording, Weighted Average Valuation)

Weighted Average valuation under periodic inventory system

Date Transactions Units Sold Unit Cost Inventory Units

May 1 Beginning Inventory 700 $10 700

May 3 Purchase 100 $12 800

May 8 Sale (*1) (500) ?? 300

May 15 Purchase 600 $14 900

May 19 Purchase 200 $15 1,100

May 25 Sale (*2) (400) ?? 700

May 27 Sale (*3) (100) ?? 600

May 31 Ending Inventory ??

Under periodic inventory system, cost of inventories is calculated at the end of each accounting period (on May 31 in this example).

    [May 31, 2010]
     Quantity of ending inventory
          = Beginning inventory + Units purchased - Units sold
          = 700 + 900 - 1,000 = 600 units

     Weighted average cost per unit
          = (700x$10 + 100x$12 + 600x$14 + 200x$15) / (700+100+600+200)
          = ($7,000 + $1,200 + $8,400 + $3,000) / 1,600
          = $19,600 / 1,600 = $12.25

     Cost of goods sold
          = (500 + 400 + 100) x $12.25
          = 1,000 x $12.25 = $12,250

     Cost of ending inventory
           = 600 x $12.25 = $7,350

[Checking]

      Cost of ending inventory
           = Beginning inventory + Purchases - Cost of Goods Sold
           = $7,000 + (100x$12 + 600x$14 + 200x$15) - $12,250
           = $7,000 + $12,600 - $12,250 = $7,350

Comparison of FIFO and LIFO valuation methods

Dollar Value LIFO valuation method

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Credit Accounts

Asset Accounts

Liability Accounts

Equity Accounts

Revenue Accounts

Expense Accounts