First In, First Out - FIFO

Loading the player...

What is 'First In, First Out - FIFO'

First in, first out (FIFO) is an asset-management and valuation method in which the assets produced or acquired first are sold, used or disposed of first and may be used by a individual or a corporation. For taxation purposes, FIFO assumes that the assets that are remaining in inventory are matched to the assets that are most recently purchased or produced.

BREAKING DOWN 'First In, First Out - FIFO'

FIFO is used for cost flow assumption purposes. As items being manufactured progress to later development stages and as finished inventory items get sold, the associated costs with that product must be recognized as an expense. The dollar value of total inventory decreases as this occurs because inventory has been removed from the company’s ownership. The costs associated with the inventory may be calculated in numerous ways — one being the FIFO method.

FIFO Logistics

As inventory items are prepared for sale, they are assigned costs. This may occur through the purchase of the inventory of production costs through the purchase of materials and utilization of labor. These assigned costs are based on the order in which the product was used, and for FIFO, it is based on what arrived first. For example, if 100 items were purchased for $10 and 100 more items were purchased the next for $15, FIFO would assign the cost of the first item resold of $10. After 100 items were sold, the new cost of the item would become $15, regardless of any additional inventory purchases made.

The FIFO method follows the logic that to avoid obsolescence, a company would sell the oldest inventory items first and maintain the newest items in inventory. Although the actual inventory valuation method used does not need to follow the actual flow of inventory through a company, an entity must be able to support why it selected the use of a particular inventory valuation method.

Impact of FIFO vs. Other Valuation Methods

Typical economic situations involve inflationary markets and rising prices. In this situation, if FIFO assigns the oldest costs to cost of goods sold, these oldest costs will be theoretically be priced lower than the most recent inventory purchased (at current inflated prices). This lower expense results in higher net income. In addition, because the newest inventory was purchased at generally higher prices, the ending inventory balance is inflated.

Alternatives to FIFO

The inventory valuation method opposite to FIFO is LIFO, where the last item in is the first item out. In inflationary economies, this results in deflated net income costs and lower ending balances in inventory when compared to FIFO. The average cost inventory method assigns the same cost to each item. This results in net income and ending inventory balances between FIFO and LIFO. Finally, specific inventory tracing is used when all components attributable to a finished product are known. If all pieces are not, the use of any method out of FIFO, LIFO, or average cost is appropriate.

RELATED TERMS
  1. LIFO Reserve

    The difference between the FIFO and LIFO cost of inventory for ...
  2. Highest In, First Out - HIFO

    In accounting, an inventory distribution method in which the ...
  3. Perpetual Inventory

    A method of accounting for inventory that records the sale or ...
  4. Carrying Cost Of Inventory

    This is the cost a business incurs over a certain period of time, ...
  5. Ending Inventory

    The value of goods available for sale at the end of the accounting ...
  6. Average Inventory

    A calculation comparing the value or number of a particular good ...
Related Articles
  1. Entrepreneurship & Small Business

    Understanding First In, First Out (FIFO)

    A company that uses the first in, first out inventory valuation method will sell, use, or dispose of assets that it produced or acquired first.
  2. Investing

    Inventory Valuation For Investors: FIFO And LIFO

    We go over these methods of calculating this component of the balance sheet, and how the choice affects the bottom line.
  3. Investing

    Inventory: FIFO, LIFO

    Whether a company chooses FIFO or LIFO has important implications for the bottom line and for tax liability.
  4. Investing

    How to Analyze a Company's Inventory

    Discover how to analyze a company's inventory by understanding different types of inventory and doing a quantitative and qualitative assessment of inventory.
  5. Investing

    When & Why Should a Company Use LIFO

    By using LIFO (last in, first out) when prices are rising, companies reduce their taxes and also better match revenues to their latest costs.
  6. Markets

    Build Your Small Business During Downswings

    Here we offer some cost-saving measures to strengthen your business even when the market is weak.
  7. Investing

    Days Sales of Inventory

    Days Sales of Inventory, also called Days Inventory Outstanding, is a key financial measurement of a company's performance pertaining to inventory management. In simple terms, it tells how many ...
  8. Investing

    Why Last In First Out Is Banned Under IFRS (XOM)

    We explain why Last-In-First-Out is banned under IFRS
  9. Investing

    Understanding Periodic Vs. Perpetual Inventory

    An overview of the two primary inventory accounting systems.
  10. Investing

    How Does a Perpetual Inventory System Work?

    Perpetual inventory is a system that continually tracks inventory items for quantity and availability.
RELATED FAQS
  1. What are the disadvantages of the FIFO accounting method?

    Learn how the FIFO accounting method differs from the LIFO method and the primary disadvantages for a company using the FIFO ... Read Answer >>
  2. Does US GAAP prefer FIFO or LIFO accounting?

    Investigate the use of LIFO and FIFO inventory accounting methods under U.S. GAAP, and learn why there is pressure from some ... Read Answer >>
  3. What are the business consequences of using FIFO vs. LIFO accounting methods?

    Learn about the real business consequences from using a first-in, first out inventory accounting method versus a last-in, ... Read Answer >>
  4. How do I calculate cost of goods sold (COGS) using the first in, first out (FIFO) ...

    Learn how to use the first in, first out, or FIFO, method of cost flow assumption to calculate the cost of goods sold, or ... Read Answer >>
  5. How do you analyze inventory on the balance sheet?

    Learn how to analyze inventory using financial statements and footnotes by doing ratio analysis and performing qualitative ... Read Answer >>
  6. What's the difference between weighted average accounting and FIFO/LILO accounting ...

    The main difference between weighted average cost accounting, LIFO, and FIFO methods of accounting is the difference in which ... Read Answer >>
Hot Definitions
  1. Cyclical Stock

    An equity security whose price is affected by ups and downs in the overall economy. Cyclical stocks typically relate to companies ...
  2. Front Running

    The unethical practice of a broker trading an equity based on information from the analyst department before his or her clients ...
  3. After-Hours Trading - AHT

    Trading after regular trading hours on the major exchanges. The increasing popularity of electronic communication networks ...
  4. Omnibus Account

    An account between two futures merchants (brokers). It involves the transaction of individual accounts which are combined ...
  5. Weighted Average Life - WAL

    The average number of years for which each dollar of unpaid principal on a loan or mortgage remains outstanding. Once calculated, ...
  6. Real Rate Of Return

    The annual percentage return realized on an investment, which is adjusted for changes in prices due to inflation or other ...
Trading Center