Inventory Valuation Method
Inventory Valuation Method
1) FIFO - The first in, first out (FIFO) inventory valuation method assumes that the first goods purchased are also the first goods sold. Selling off the oldest goods first reduces the risk of inventory obsolescence. Thus this inventory valuation method closely matches with the actual flow of goods, and is the most theoretically correct inventory valuation method.
Example : XYZ Company Ltd has 1,000 units of an item stock at the beginning of May, at a cost per unit of Rs 50. Thus, the beginning inventory balance as of May is Rs 50,000.
On May 20th, XYZ makes a sale of 750 units.
On May 25th, XYZ makes a purchase of 250 additional units at Rs 60 each (total purchase of Rs 15,000).
Using FIFO inventory valuation method, the cost of inventory at end of month will be calculated as : (1000-750+250) X Rs 60 = Rs 30000
2) Moving Average - In Moving Average inventory valuation method, the average cost of each inventory item in stock is calculated. This approach is considered to yield a safe and conservative approach to reporting financial results.
Example : XYZ Company Ltd has 1,000 units of an item stock at the beginning of May, at a cost per unit of Rs 50. Thus, the beginning inventory balance as of May is Rs 50,000. XYZ then purchases 250 additional units on May 15th for Rs 60 each (total purchase of Rs 15,000), and another 750 units on May 28 for Rs 70 each (total purchase of Rs 52,500). In the absence of any sales, this means that the moving average cost per unit at the end of May would be calculated as below :
A total cost of Rs 11,7500 (Rs 50,000 beginning balance + Rs 15,000 purchase + Rs 52,500 purchase), divided by total units on hand
= 11,7500/2000
= Rs 58.75
Thus, the moving average cost of the item was Rs 50 per unit at the beginning of the month, and Rs5 8.75 at the end of the month.
3) Standard - In Standard inventory valuation method an expected cost (Unit Price) is substituted for the actual cost of items. This approach represents a simplified alternative to other valuation methods.
Example : XYZ Company Ltd has 1,000 units of an item stock at the beginning of May, at a cost per unit of Rs 50. Thus, the beginning inventory balance as of May is Rs 50,000.