Inventory Valuation Methods

Inventory Valuation Methods

There are three methods of inventory valuation. These methods are

a)    FIFO (first in First Out) - Inventory purchase First is to be consumed first.

b)   LIFO (Last in First out)- Inventory purchased last would be consumed first.

c)    Average or weighted average

Inventory is an important item for financial statements; it not only has direct impact on the financial performance (profit) calculation, but also an important item of statement of financial position. Therefore inventory valuation is very important calculation.

1.   FIFO Inventory Valuation Method

First purchase first consumed valuation method is very logical and understandable concept. This is also relatively easy to value the inventory under this method. The method gives more current valuation of inventory. Characteristics of FIFO methods are listed below

a)    FIFO is a logical and understandable method.

b)   FIFO is relatively easy to calculate method for valuation.

c)    FIFO Valuation is based on the most recent prices.

2.   LIFO Inventory Valuation Method

LIFO is last purchased first consumed method of valuation. This method is difficult to explain logically and therefore rarely used by management. Valuation under the method is also not current, because valuation is based on the old prices. Characteristics LIFO Valuation methods are listed below

a)    LIFO is difficult to understand.

b)   LIFO is not based on the current prices of inventory.

c)    LIFO is expected to give low value of inventory. (due to inflation)

d)   LIFO is relatively difficult to calculate than FIFO.

3.   Weighted Average Valuation

Weighted average method is another important method of inventory valuation. These methods also value the inventory at current price. This method of inventory calculation is bit difficult, as inventory valuation is to be updated with each movement in inventory. Characteristics of weighted average valuation methods are

a)    Inventory is valued at current prices (reasonably current prices).

b)   Weighted Average method is regularly updated.

c)    Weighted average method is based on easy to understand concept (average).

d)   This method can be difficult in case of high stock turnover.

Example Inventory Valuation Method

Particulars	Units	Rate
Opening Stock Item A	200	50
Purchase	800	60
Purchase	500	80
Sale	800

Solution

1. Calculate Closing Stock units

Opening Stock	200
Purchase (800+500)	1300
Sale (Item A)	(800)
Closing Stock	700

2. Valuation under FIFO

Unit	Rate	Value
500 (Second Purchase)	80	40,000
200 (First Purchase)	60	12,000
700		52,000

3. Valuation under LIFO

Unit	Rate	Value
200 (Opening Purchase)	50	10,000
500 (First Purchase)	60	30,000
800		40,000