Accounting - LIFO/FIFO - Periodic/Perpetual

[whoatherechunk]

We are going over this aspect of accounting currently and I can not by the life of me understand a damn thing about it. I currently don't have a problem but I will post one later. Can someone maybe like give me a few tips to perhaps let it stay glued into my brain because this bulb if flickering and it's about to go out. Thanks!

Chris.

[Jerose]

As I assume you know,

LIFO - Last In, First Out
FIFO - First In, First Out

To break this down, its a good way to account for inventories that have fluctuating prices as you buy them. Say you sell iPods and last month you ordered a shipment of iPods for $200 a unit. This month you need to order more iPods to keep your inventory up, but the price has increased to $210 a unit. You still have some iPods from the previous month left in your inventory.

Now the question comes in, when we tally our expenses for this week, are our Cost of Goods Sold entries going to say we sold the iPods we got for $200 first or the ones we got for $210 first?

With LIFO, you would be selling the iPods that you purchased *most recently*, so for every unit you sell you'd record $210 as the cost of goods sold. It's like you keep taking from the top of your inventory. If you were using FIFO, you'd be selling off the iPods you got for $200, as if you were selling from the bottom of your inventory. This comes in very handy when the items you are selling lose their value or use over time. You will be reporting different numbers depending on which method you use.

For example, we can take sales and purchases over 3 months:

Purchases:
Beginning Inventory: 25 iPods, purchased @ $190/unit
Jan '09: 100 iPods @ $200/unit
Feb '09: 100 iPods @ $210/unit
Mar '09: 90 iPods @ $215/unit

Sales:
Jan '09: 90 iPods
Feb '09: 95 iPods
Mar '09: 100 iPods

With LIFO, we'd see that we sold 100 iPods in March, and the last purchase we made was of 90 iPods for $215/unit. When we credit our inventory, we are taking from the most recently purchased iPods and working down to less recently purchased iPods. So we'd have sold 90 of our $215 iPods and 10 of our $210 iPods.

With FIFO, if we sold 90 iPods in January, we'd start by crediting the inventory from the bottom, meaning we'd deduct the 25 iPods we started with because they were in the inventory first. Then we would take the remaining 65 iPods we sold from the $200 iPods we purchased in January, because we are working from least recent, to most recent purchases.

Hope this makes sense, it's kinda late and I needed a break from writing an essay. I'll get back to you about periodic vs. perpetual systems in a bit if I have time. Feel free to ask any other questions!

[kydnav]

Originally Posted by Jerose

As I assume you know,

LIFO - Last In, First Out
FIFO - First In, Last Out

How do you make 'last' out of F?

[Jerose]

Originally Posted by kydnav

How do you make 'last' out of F?

Hey now! I've been working on a paper for a loooong time tonight, so my mind isn't necessarily working on all cylinders!

Fixed!

[whoatherechunk]

man i love talkbass! thanks bro! yeah it's starting to make sense! sorry to jump ahead but how would i find EI (the existing inventory)?

[PSPookie]

Computing analogy:
FIFO = queue
LIFO = stack

Arithmetic analogy:
Periodic = discrete
Perpetual = continuous

[PSPookie]

Originally Posted by whoatherechunk

man i love talkbass! thanks bro! yeah it's starting to make sense! sorry to jump ahead but how would i find EI (the existing inventory)?

Go to the warehouse and count

[Jim Nazium]

FIFO = milk cartons at the grocery store. They put new ones in from the back, customers buy them from the front. Customers are always buying the oldest ones.

LIFO = bulk granola bins. They pour new granola on top to refill it, customers scoop from the top to buy. Customers are always buying the newest granola.

If prices are rising, then reported COGS (cost of goods sold) is higher under LIFO, because you're selling the newer, higher priced inventory and keeping the older, cheaper inventory. The rest of what you need to know follows from this: COGS is higher so margins are lower, taxes are lower, etc.

HTH

[whoatherechunk]

thanks jim. yea i do understand that aspect of life/fifo....i guess what i am mainly struggling with is the whole "math/calculation" portion of it. for instance i know what jerose is saying as well and he has cleared up a bunch of questions for me...but one question that i have is ......when do you know when to stop?

for instance in this question/example:

balance 5 units@ $5
sales 3 units @ $9
purchase 4 units @ $6
purchase 3 units @$7
sale 6 units @$9
purchase 2 units @ $8

life periodic would be:

2 units @ $8 = 16
3 units @ $7 = 21
4 units @ $6 = 24
COGS= 61

is lifo periodic and fifo periodic the same? i mean how would they differ if all we are doing is calculating the purchases.

for FIFO Perpetual

Sales
3 units @ 5 = 15
2 units @ 5= 10
(this finishes our beg. balance)
4 units @ 6 = 24

COGS=49

my question is why do we end at 4 units @ 6

then with LIFO...i'm kind of lost with the math.

thanks for the help guys. i know that it is somewhat easy but i still don't have the process down. i guess it's one of those things where you just have to practice it....unfortunately my test is tomorrow!

[tycobb73]

LIFO is last in first out.
FIFO is first in, first out.

Lets say you buy something in Dec for $5 and again in Jan for $6. Then you sell 1 of them in Feb for $10.

Under LIFO you would say you sold the one for $6 first and your gross margin would be $4.

Under FIFO you would say you sold the one for $5 first and your gross margin would be $5.

I always preferred average cost which is what its name implies.

[Jerose]

Originally Posted by whoatherechunk

thanks jim. yea i do understand that aspect of life/fifo....i guess what i am mainly struggling with is the whole "math/calculation" portion of it. for instance i know what jerose is saying as well and he has cleared up a bunch of questions for me...but one question that i have is ......when do you know when to stop?

for instance in this question/example:

balance 5 units@ $5
sales 3 units @ $9
purchase 4 units @ $6
purchase 3 units @$7
sale 6 units @$9
purchase 2 units @ $8

life periodic would be:

2 units @ $8 = 16
3 units @ $7 = 21
4 units @ $6 = 24
COGS= 61

is lifo periodic and fifo periodic the same? i mean how would they differ if all we are doing is calculating the purchases.

for FIFO Perpetual

Sales
3 units @ 5 = 15
2 units @ 5= 10
(this finishes our beg. balance)
4 units @ 6 = 24

COGS=49

my question is why do we end at 4 units @ 6

then with LIFO...i'm kind of lost with the math.

thanks for the help guys. i know that it is somewhat easy but i still don't have the process down. i guess it's one of those things where you just have to practice it....unfortunately my test is tomorrow!

Well first I think when you worked it out, you reversed the purchases (what you're buying from the warehouse) and the sales (what you're selling to the customer).

I am going to assume that these events are happening in the order that you listed them.

Balance: 5 units@ $5

1. Sale: 3 units @ $9
2. Purchase: 4 units @ $6
3. Purchase: 3 units @$7
4. Sale: 6 units @$9
5. Purchase: 2 units @ $8

Now let's work through this both ways, I'm going to ignore the selling price in this example for now and just focus on the cost of goods sold If you need to figure out gross margin, you simply do two calculations for every step, one for the cost of goods sold and one for the revenue. You'd subtract the totals in the end to get your gross margin.

LIFO:

1. We have a sale of 3 units, and the last items to be added to our inventory were worth $5 a unit (the beginning balance). Therefore, the cost of the 3 units sold would be $15. We also adjust to say that we only have 2 $5 units left in our inventory.

Cost of Goods Sold is $15

2. We purchase 4 units @ $6/unit, so our inventory comes to (from most recent to least recent):

4 units @ $6/unit
2 units @ $5/unit

3. We purchase 3 more units at $7/unit, bringing our inventory to (again from most recent to least recent):

3 units @ $7/unit
4 units @ $6/unit
2 units @ $5/unit

4. We sell 6 units. Because we are in a LIFO system we are selling our most recent purchases first and working down to the bottom of our inventory.

We start by subtracting the 3 $7 units because we purchased those most recently.
We next subtract 3 of the $6 units because they are the next most recent purchase.

Current inventory (from most to least recent) is:

1 unit @ $6/unit
2 units @ $5/unit


Cost of Goods Sold is (21+18)+15 (from number 1) = $54

5. Purchase of 2 units at $8/unit. Our inventory now looks like:

2 units @ $8/unit
1 unit @ $6/unit
2 units @ $5/unit



Now for FIFO:

1. We have a sale of 3 units, so we go to the BOTTOM of our inventory, the least recent purchase, which in this case is our beginning inventory. So we have sold 3 units for $5, coming to a COGS of $15.

Inventory is now (most to least):

2 units @ $5/unit

2. and 3. We purchase 4 units for $6, then purchase 3 units for $7. Inventory is now:

3 units @ $7/unit
4 units @ $6/unit
2 units @ $5/unit

4. Now we sell 6 units. We are working in a FIFO system, so we have to scrape the bottom of the barrel first.

Start by subtracting the 2 units @ $5/unit.
Then subtract 4 units @ $6/unit.

The COGS would be (10+24)+15 = $49

Our inventory would now be:

3 units @ $7/unit

5. We purchase 2 units @ $8/unit. Our inventory is now:

2 units @ $8/unit
3 units @ $7/unit




So,

COGS LIFO is: $54
COGS FIFO is: $49

As you can see, your LIFO is higher because the price of your purchased goods is rising. Had it been lowering, the FIFO would be higher. You can see the effect that this would have on the numbers you report if the transactions were large.

Please check my numbers too to make sure I didn't make any mistakes!

[whoatherechunk]

awesome. so obviously what you were doing is LIFO Perpetual and FIFO Perpetual?

whats the difference between LIFO Periodic and FIFO Periodic?

[whoatherechunk]

nvm on the last question....i was wondering which were the same. fifo periodic and fifo perpetual are the same.

[whoatherechunk]

hey guys thanks for your help...i got a B on my exam and i have an 87 average in the class.....practically everyone is failing that class....eeeeeek.

[NJL]

Originally Posted by whoatherechunk

hey guys thanks for your help...i got a B on my exam and i have an 87 average in the class.....practically everyone is failing that class....eeeeeek.

but are you learning? more than likely you are and that's the point.

[whoatherechunk]

i am definitely learning. getting raped by digits but learning!