Are you confused by warehouse processes? Whether you’re a warehouse manager, business owner, or employee working in the warehouse, it’s vital to have an understanding of the process.
The process can be complex and confusing. If you don’t understand the sequence, you might end up sending the wrong stock at the wrong time.
LIFO and FIFO are two sequential warehouse processes. If you want to ensure the correct stock gets delivered at the correct point in time, you need to know what LIFO and FIFO are. In this article, we’re covering FIFO vs LIFO.
Read on!
Meaning of FIFO vs LIFO
FIFO means first in, first out. It means items got purchased or sold in the order in which they were originally added. On the other hand, LIFO simply means last in, first out, wherein items got purchased or sold in the reverse order in which they were originally added.
You can use both FIFO and LIFO depending on the desired outcome. These methods are actually used to group stocks and inventory into one cost.
FIFO Explained
FIFO is often used for inventory accounting purposes as it is a better match to current market values and cost of goods. It is because it more accurately reflects the cost of goods sold.
By using the FIFO method, businesses can reduce the amount of taxes they pay. This is due to the reason that the cost of the oldest items is usually lower than the cost of newer items.
Some of the products which are often processed in FIFO inventory include dairy and dry grocery goods. Healthcare products, technology that becomes obsolete, and production are also included in the list.
AMS Supplement Fulfillment also uses FIFO shipping as part of its procedure.
LIFO Explained
LIFO stands for Last In, First Out and describes the concept of determining the order information gets pulled from a queue or a stack of data. With the LIFO method, the most recent data is retrieved before any of the older data. This means that the most current information is the one analyzed and acted upon.
In accounting and financial planning, LIFO is often used to manage inventory since it usually produces a lower cost figure than FIFO. The items which are usually inventoried as LIFO include oil, jewelry, gasoline, and automobiles.
Record Keeping
Another difference between the two methods is the manner of recording information, and also the way of transferring from one accounting period to another. With FIFO, the oldest items purchased or sold first are the first to be recorded and then the newest.
With LIFO, the opposite occurs and the newest items purchased or sold are the first to be recorded. As such, items purchased or sold at different times may have different costs and prices associated with them in each scenario.
Knowing the difference between FIFO and LIFO and understanding how the method of recordkeeping affects cost and prices is critical in order to make sound financial decisions.
Restrictions of FIFO and LIFO
There are restrictions as to when FIFO and LIFO can be used, as each of them has different situations and trustworthiness for businesses. FIFO is not valid in situations of rapidly rising prices, or when prices are not consistent, as it will lead to undervaluation of the inventory.
Whereas under the LIFO approach, there are limits imposed by applicable tax laws, which restrict its use. It can also lead to an inaccurate determination of an inventory cost under conditions of rapid inflation or deflation.
Each method has its own pros and cons so the business needs to make an informed decision before choosing one of these inventory valuation methods.
Impact of Inflation
The costs of goods and services purchased earlier (which likely had a lower price than goods and services purchased later) will be accounted for and will factor into the cost of goods sold, thereby reducing the impact of inflation.
On the other hand, LIFO assumes that goods purchased later are sold first, meaning that the costs of goods and services purchased later (which likely had a higher price than goods and services purchased earlier) will be accounted for and will factor into the cost of goods sold, thereby increasing the impact of inflation.
So depending on the accounting method used, FIFO or LIFO, we can see different impacts on inflation.
How It Relates to Deflation
In terms of deflation, when deflation occurs, a company can benefit from using LIFO as the last item entering is sold off at a lower price closer to the deflationary states.
This can help the business boost its profit margin as the cost of goods is reduced.
Preferences for FIFO vs LIFO
FIFO is used in times of inflation to match the cost of goods with revenue. When it comes to preference for FIFO vs LIFO, each approach has its advantages and disadvantages. For example, FIFO is better in environments where the cost of goods is constantly rising as it uses costs from when it was first bought.
However, LIFO helps in keeping taxes low and recognizing current costs. Businesses should thoroughly analyze which approach best suits their needs to ensure the most accurate figures for the cost of goods.
Understanding the Differences Between FIFO vs LIFO
When it comes to your business, you must ensure that you have proper inventory management. Because if not, you may encounter increased costs and ineffective decision-making to name a few issues.
FIFO vs LIFO both serves their own purpose in inventory management. LIFOs benefit from reduced taxation, while FIFOs focus on providing accurate, up-to-date costs.
Ultimately, it is up to the business to decide which approach is best suited for them. For guidance on what decision to make, contact an inventory management expert.
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