P1: FIFO Costing (Periodic) | ACCOUNTING ESSENTIALS

🎯 Learning Objectives

Understand the FIFO inventory costing assumption and when to apply it
Calculate ending inventory and COGS using periodic FIFO
Explain the financial statement impact of FIFO during periods of rising prices
Compare FIFO results to LIFO and weighted average methods
Apply FIFO to real-world inventory management scenarios

📚 Background & Principles

FIFO (First-In, First-Out) assumes that the oldest inventory items are sold first, while the newest items remain in ending inventory. This method matches the actual physical flow of many businesses, especially those dealing with perishable or dated goods.

Core Principle: Under FIFO, ending inventory consists of the most recently purchased items (the "freshest" costs), while COGS consists of the oldest costs. This creates a "last-in, still-here" effect for ending inventory.

In periodic FIFO, all purchases during the period are accumulated, then COGS and ending inventory are determined at period-end based on the assumption that oldest costs were sold first.

💡 Key Insight: Think of FIFO like a grocery store milk shelf. The oldest milk (first in) is placed at the front and sold first (first out). The fresh milk at the back represents ending inventory with the most recent costs.

🔑 Key Concepts

First-In, First-Out (FIFO)

Inventory costing method assuming oldest costs are sold first, newest costs remain in ending inventory.

Periodic FIFO

Determining COGS and ending inventory at period-end after all purchases are accumulated.

Oldest Costs to COGS

FIFO sends the earliest (usually lowest in inflation) costs to Cost of Goods Sold.

Newest Costs in Ending Inventory

Ending inventory reflects the most recent purchase costs (highest in inflation).

FIFO vs Physical Flow

FIFO is often a costing assumption, not necessarily the actual physical flow of goods.

Price Inflation Impact

In rising prices, FIFO produces lower COGS, higher income, and higher inventory values.

🔍 Deep Dive

Explore FIFO at different levels of depth:

🟢 Foundational Level

Understanding the FIFO concept through the milk shelf analogy.

The Milk Shelf Analogy

Analogy: The Grocery Store Milk Aisle

Stock clerks always put new milk at the BACK of the shelf and push older milk to the FRONT.

Customer Behavior:

Customers naturally grab the front milk (the OLDEST milk available).

What Gets Sold:

The FIRST milk put on the shelf is the FIRST milk sold = FIFO.

What's Left:

Ending Inventory = The freshest, newest milk at the back of the shelf.

FIRST IN

Oldest Costs

→

FIRST OUT

COGS

→

REMAINS

Newest Costs

🟡 Standard Level

Calculating periodic FIFO step by step.

Periodic FIFO Calculation

Given:

Beginning Inventory: 10 units @ $10 = $100

Jan 15 Purchase: 20 units @ $12 = $240

Jan 28 Purchase: 15 units @ $15 = $225

Goods Available for Sale: 45 units = $565

Ending Inventory (physical count): 12 units

Step 1: Identify Ending Inventory Units

12 units in ending inventory come from the MOST RECENT purchases.

15 units @ $15 were the last purchased, so take all 12 from this batch.

Step 2: Calculate Ending Inventory Value

12 units × $15 = $180

Step 3: Calculate COGS

COGS = Goods Available - Ending Inventory

COGS = $565 - $180 = $385

🔴 Advanced Level

Complete FIFO schedule and comparison with other methods.

Date	Units	Unit Cost	Total Cost	Status
Beginning	10	$10	$100	Sold (FIFO)
Jan 15	20	$12	$240	Sold (FIFO)
Jan 28	15	$15	$225	3 sold, 12 remaining
ENDING INVENTORY (12 units)			$180 (all @ $15)

Comparison: FIFO vs LIFO vs Weighted Average

Scenario: Same purchases, 12 units ending inventory

FIFO COGS

$385

Lowest (rising prices)

FIFO Net Income

Highest

Lower expenses

FIFO Ending Inv

$180

Highest (recent costs)

🎨 Interactive: FIFO Layer Simulator

Add inventory layers and sell units to see how FIFO consumes the oldest layers first.

New Layer Cost ($)

Quantity

Summary: 0 units, Total Cost: $0

                        Add inventory layers and sell to see FIFO in action.
                    

🚫 Common Misconceptions & Professional Tips

❌ Misconception 1: "FIFO means the oldest physical items are always sold first."

✅ Reality: FIFO is a COSTING METHOD, not necessarily a physical flow assumption. Many businesses use FIFO for costing but actually sell newer items first. The method just determines which costs are matched with revenue.

❌ Misconception 2: "FIFO always produces higher income than LIFO."

✅ Reality: FIFO produces higher income ONLY during RISING prices. In deflation (falling prices), LIFO would produce higher income because newer (lower) costs go to COGS.

❌ Misconception 3: "Periodic and perpetual FIFO always give different results."

✅ Reality: FIFO is unique in that PERIODIC and PERPETUAL systems produce IDENTICAL COGS and ending inventory values. This is NOT true for LIFO or weighted average.

💡 Professional Tip #1: When prices are rising, FIFO provides a tax disadvantage (higher reported income = higher taxes) but better cash flow from operations (lower COGS means more cash retained in business).

💡 Professional Tip #2: For financial analysis, be aware that FIFO companies may appear to have stronger ending inventory values but may also have older "hidden" cost layers if prices have risen significantly.

💡 Professional Tip #3: When comparing companies, check which inventory method each uses. A FIFO company and LIFO company with identical physical inventory may report significantly different financials.

🧠 Memory Aids & Quick Reference

⚡ Quick Recall: FIFO Rule

FIFO = First-In, First-Out

OLDEST costs → COGS (sold)

NEWEST costs → Ending Inventory (remains)

Rising Prices = Low COGS, High Income, High Inventory Value

🥛 The Milk Rule

Oldest to front, newest to back. Oldest sells first. Freshest remains.

📦 COGS Contains

All oldest costs until all units accounted for

📦 Inventory Contains

All newest costs (most recent purchases)

📈 Rising Prices Effect

Lower COGS → Higher Income → Higher Taxes

📖 Glossary

First-In, First-Out (FIFO)

Inventory costing method assuming oldest costs are sold first, newest costs remain in ending inventory.

Periodic FIFO

FIFO calculation performed at period-end after all purchases are accumulated for the period.

Goods Available for Sale

Beginning Inventory + Net Purchases. Total cost of all goods that could have been sold.

Cost Flow Assumption

Accounting method for matching costs with revenue when specific items cannot be traced. FIFO, LIFO, and weighted average are cost flow assumptions.

Perpetual FIFO

Applying FIFO at each sale transaction. Results in identical COGS and ending inventory as periodic FIFO.

Inventory Layers

Different batches of inventory purchased at different costs. FIFO consumes layers from oldest to newest.

Replacement Cost

Current cost to purchase inventory. FIFO ending inventory approximates current replacement costs.

Specific Identification

Alternative costing method tracking actual cost of each specific item, rather than using cost flow assumptions.

FIFO (First-In, First-Out) - Periodic