First In First Out (FIFO) – Materials and Inventory Costing Method


First In First Out (FIFO) – Materials and Inventory Costing Method:

Learning Objectives:

  1. Define and explain FIFO method.
  2. Give an example of FIFO method
  3. What are advantages and disadvantages of fist in first out (FIFO) costing method?
  1. Definition and Explanation of FIFO Method
  2. Advantages of First in First out-FIFO-Costing Method
  3. Example of FIFO Method
  4. Disadvantages or Limitations of FIFO Costing Method

Definition and Explanation:

The first in first out (FIFO) method of costing is used to introduce the subject of materials costing. The FIFO method of costing issued materials follows the principle that materials used should carry the actual experienced cost of the specific units used. The methods assumes that materials are issued from the oldest supply in stock and that the cost of those units when placed in stock is the cost of those same units when issued. However, FIFO costing may be used even though physical withdrawal is in a different order.

Advantages of First in First out (FIFO) Costing Method:

Advantages claimed for first in first (FIFO) out costing method are:

  1. Materials used are drawn from the cost record in a logical and systematic manner.
  2. Movement of materials in a continuous, orderly, single file manner represents a condition necessary to and consistent with efficient materials control, particularly for materials subject to deterioration, decay and quality are style changes.

FIFO method is recommended whenever:

  1. The size and cost of units are large.
  2. Materials are easily identified as belonging to a particular purchased lot.
  3. Not more than two or three different receipts of the materials are on a materials card at one time.

Example:

This example is based on the following transactions:

February
(1)Beginning balance: 800 units @ $6 per unit.
(4)Received 200 units @ $7 per unit.
(10)Received 200 units @ $8 per unit.
(11)Issued 800 units.
(12)Received 400 units @ $8 per unit.
(20)Issued 500 units.
(25)Returned 100 excess units from the factory to the storeroom to be recorded at the latest issued price.
(28)Received 600 units @ $9 per unit.

Calculation for the above transactions would be as follows:

FIFO Costing Method

February:
01. Beginning balance

800 units @ $6

$4,800
04. Received 200 units @ $7 $1,400
10. Received 200 units @ $8 $1,600 $7,800
11. Issued 800 units @ $6 $4,800

Balance

200 units @ $7 $1,400
200 units @ $8 $1,600 $3,000
12. Received 400 units @ $8 $3,200 $6,200
20. Issued 200 units @ $7 $1,400
300 units @ $8 $2,400 $3,800

Balance

300 units @ $8 $2,400
25. Returned to storeroom 100 units @ $8 $800
28. Received 600 units @ $9 $5,400 8,600

Balance

400 units @ $8 $3,200
600 units @ $9 $5,400 $8,600

Disadvantages or Limitations of FIFO Method

FIFO method is definitely awkward if frequent purchases are made at different prices and if units from several purchases are on hand at the same time. Added costing difficulties arise when returns to vendors or to the storeroom occur.

You may also be interested in other useful articles from “controlling and costing materials” chapter:

  1. Purchases of productive material
  2. Purchases of supplies, services, and repairs
  3. Materials purchasing forms
  4. Receiving materials
  5. Invoice approval and data processing
  6. Correcting invoices
  7. Electronic data processing (EDP)  for materials received and issued
  8. Cost of acquiring materials
  9. Storage and use of materials
  10. Issuing and costing materials into production
  11. Materials ledger card – perpetual inventory
  12. First-in-First-Out (FIFO) Costing Method
  13. Average Costing Method
  14. Last-in-First-Out (LIFO) Costing Method
  15. Other Methods-Month end average cost, last purchase price or market price at date of issue, and standard cost
  16. Inventory valuation at cost or market whichever is lower
  17. American Institute of Certified Public Accountant (AICPA) cost or market rules
  18. Adjustments for departures from the costing method used
  19. Inventory pricing and interim financial reporting
  20. Transfer of materials cost to finished production
  21. Physical inventory
  22. Adjusting Materials Ledger Cards and Accounts to Conform to Inventory Accounts
  23. Scrap and waste
  24. Spoiled goods
  25. Defective work
  26. Discussion Questions and Answers about Controlling and Costing Materials

 

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