Page History: Inventory Costing Methods
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Page Revision: Tue, 23 Jul 2013 15:10
General Information
Stock inventory can be valued four different ways in Adjutant:
- Average Cost
- Specific Identification
- First in, First Out (FIFO)
- Last in, First Out (LIFO)
All four methods are updated perpetually (as transactions occur in the system) and maintained at a Warehouse, Inventory Owner, and Held For level (aka OHF).
A combination of Specific ID and one of the other three costing methods may be used to value inventory.
Unit costs are maintained at a 4 decimal places (hundredths of a penny).
Specific Identification
The specific identification method refers to the tracking and costing of inventory based on the movement of specific, identifiable inventory items in and out of stock. This method is applicable when individual items can be clearly identified, such as with a serial number or lot number.
An example of the variance between average cost and specific ID cost can be reviewed here: http://www.abiscorp.com/adjwiki/coilfindervsioh.ashx
Specific Identification Method Requirements
In Adjutant, only items that are serialized or lot controlled may be costed under this method.
Average Cost
The Average Cost method implemented in Adjutant is commonly referred to as Moving Average Cost.
Moving average cost is an inventory costing method used under a perpetual inventory system whereby, after each acquisition, average unit cost is recomputed by adding the cost of acquired units to the cost of units in inventory and dividing by the new total number of units.
Simply put, the average cost of each inventory item in stock is recalculated each time inventory is added.
As with the other non specific ID inventory costing methods, the average cost is maintained at the Warehouse/Owner/HeldFor level.
Average Cost Examples
Example #1:As of Jan 1st, ABC Supply has 0 widgets on hand in its Houston warehouse and 0 widgets on hand in its Austin warehouse.
- On Jan 2nd, ABC Supply receives 10 widgets into its Houston warehouse at a cost of $10/ea.
- On Jan 3rd, ABC Supply receives 50 widgets into the Austin warehouse at a cost of $9/ea.
- On Jan 15th, ABC Supply receives 10 more widgets into the Houston warehouse at a cost of $9/ea.
- On Jan 31st, ABC Supply receives 100 more widgets into the Austin warehouse at a cost of $8.60/ea.
- ABC Supply did not sell or use any widgets during the month of January.
The moving average cost of the widgets is calculated as:
- Houston = ((10*$10.00) + (10*$9.00)) / 20 = $9.5000
- Austin = ((50*$9.00) + (100*$8.60)) / 150 = $8.7333
We'll use the same purchases in the next example, but also include several sales.
Example #2:As of Jan 1st, ABC Supply has 0 widgets on hand in its Houston warehouse and 0 widgets on hand in its Austin warehouse.
- On Jan 2nd, ABC Supply receives 10 widgets into its Houston warehouse at a cost of $10/ea.
- New average cost in Houston is $10.00
- On Jan 3rd, ABC Supply sells 8 widgets from its Houston warehouse.
- Widgets are relieved from inventory and posted to COGS at $10/ea.
- Total widget inventory value in Houston is: (10-8)*$10.00 = $20.00
- On Jan 3rd, ABC Supply receives 50 widgets into the Austin warehouse at a cost of $9/ea.
- New average cost in Austin is $9.00
- On Jan 10th ABC Supply sells 20 widgets from its Austin warehouse.
- Widgets are relieved from inventory and posted to COGS at $9/ea.
- Total widget inventory value in Austin is: (50-20)*$9.00 = $270.00
- On Jan 15th, ABC Supply receives 10 more widgets into the Houston warehouse at a cost of $9/ea.
- New average cost in Houston is: ((2*$10.00) + (10*$9.00)) / 12 = $9.1667
- On Jan 22nd, ABC Supply sells 10 widgets from its Houston warehouse.
- Widgets are relieved from inventory and posted to COGS at $9.1667/ea.
- Total widget inventory value in Houston is: (12-10)*$9.1667 = $18.33
- On Jan 30th, ABC Supply sells 25 widgets from its Austin warehouse.
- Widgets are relieved from inventory and posted to COGS at $9/ea.
- Total widget inventory value in Austin is: (30-25)*$9.00 = $18.33
- On Jan 31st, ABC Supply receives 100 more widgets into the Austin warehouse at a cost of $8.60/ea.
- New average cost in Austin is: ((5*$9) + (100*$8.60)) / 105 = $8.6190
- Final Inventory value in Houston is $18.33
- Final Inventory value in Austin is $857.75.
FIFO - First in, First Out
The first in, first out (FIFO) method of inventory valuation operates under the assumption that the first goods purchased are also the first goods sold or used.
In Adjutant, the FIFO inventory method is implemented through the use of Cost Tiers. Each receipt of goods creates a new FIFO cost tier. Each sale or usage of goods removes a quantity from a cost tier.
As with the other non-specific ID inventory costing methods, the average cost is maintained at the Warehouse/Owner/HeldFor level.
FIFO Example
As of Jan 1st, ABC Supply has 0 widgets on hand in its Houston warehouse.
- On Jan 2nd, ABC Supply receives 100 widgets at a cost of $10/ea.
- A cost tier is added for a Qty of 100 and Cost of $10.00.
- On Jan 3rd, ABC Supply receives 80 widgets at a cost of $12/ea.
- A cost tier is added for a Qty of 80 and Cost of $12.00.
At this point in time, there is no difference in total value between FIFO, LIFO, and Average Cost. However, when a widget is sold, the system will start removing inventory from the FIRST cost tier.
- On Jan 22nd, ABC Supply sells 50 widgets.
- 50 widgets are relieved from the first cost tier at $10/ea.
- Total widget inventory value is: (50*$10) + (80*$12) = $1460
- On Jan 30th, ABC Supply sells 25 widgets.
- 25 widgets are relieved from the first cost tier at $10/ea.
- Total widget inventory value is: (25*$10) + (80*$12) = $1210
- On Jan 31st, ABC Supply sells 80 widgets.
- 25 widgets are relieved from the first cost tier at $10/ea.
- 55 widgets are relieved from the second cost tier at $12/ea.
- Total widget inventory value is: (0*$10) + (25*$12) = $300
LIFO - Last in, First Out
The last in, first out (LIFO) method operates under the assumption that the last item of inventory purchased is the first one sold.
The reason why companies use LIFO is the assumption that the cost of inventory increases over time, which is a reasonable assumption in times of inflating prices. If you were to use LIFO in such a situation, the cost of the most recently acquired inventory will always be higher than the cost of earlier purchases, so your ending inventory balance will be valued at earlier costs, while the most recent costs appear in the cost of goods sold. By shifting high-cost inventory into the cost of goods sold, a company can reduce its reported level of profitability, and thereby defer its recognition of income taxes. Since income tax deferral is the only justification for LIFO in most situations, it is banned under international financial reporting standards (though it is still allowed in the United States under the approval of the Internal Revenue Service).
In Adjutant, the LIFO inventory method is implemented through the use of Cost Tiers. Each receipt of goods creates a new LIFO cost tier. Each sale or usage of goods removes a quantity from a cost tier.
As with the other non-specific ID inventory costing methods, the average cost is maintained at the Warehouse/Owner/HeldFor level.
FIFO Example
As of Jan 1st, ABC Supply has 0 widgets on hand in its Houston warehouse.
- On Jan 2nd, ABC Supply receives 100 widgets at a cost of $10/ea.
- A cost tier is added for a Qty of 100 and Cost of $10.00.
- On Jan 3rd, ABC Supply receives 80 widgets at a cost of $12/ea.
- A cost tier is added for a Qty of 80 and Cost of $12.00.
At this point in time, there is no difference in total value between LIFO, FIFO, and Average Cost. However, when a widget is sold, the system will start removing inventory from the LAST cost tier.
- On Jan 22nd, ABC Supply sells 50 widgets.
- 50 widgets are relieved from the last cost tier at $12/ea.
- Total widget inventory value is: (100*$10) + (30*$12) = $1360
- On Jan 30th, ABC Supply sells 25 widgets.
- 25 widgets are relieved from the last cost tier at $12/ea.
- Total widget inventory value is: (100*$10) + (5*$12) = $1060
- On Jan 31st, ABC Supply sells 80 widgets.
- 5 widgets are relieved from the last cost tier at $12/ea.
- 75 widgets are relieved from the first cost tier at $10/ea.
- Total widget inventory value is: (25*$10) + (0*$12) = $250
