FIFO vs Weighted Average (Inventory costing method)
What is inventory costing? Types of inventory costing?In this text, we will not explain the reasons, differences, benefits, etc. between FIFO and average method, we will focus on application and results
In our example, we have a higher margin from the first sale than from the second one.
3. Sales Order – Sale of goods from two purchases
An example is simple when the sale is divided so that the goods sold belong to one purchase order. The whole quantity has one selling price. What will happen if in our next case the first Sales Order has a quantity of 11 pcs and another Sales Order has a quantity of 9 pcs?
There will be an average purchase price for mutual quantities.
In our example, 10 pcs will have a price of $ 50, while 1 pcs will have a price of $ 60, and that will make our stock price averaged $ 50.91 (10×50 + 1×60 = 560; 560/11 = $ 50.91).
4. Retuns, Void
When returning goods or voiding orders, the price taken will always be from the document, regardless of the method of cost tracking, ie, the stock will be corrected by the price it was purchased/sold.
In our case, the customer will return 1 pcs from our second sales order.
5. Change in stock price / value in inventories
Stock price/value is automatically calculated at the entrance/exit of goods in the warehouse. However, accounting standards envisage the possibility of a correction in special cases (changes of the conditions on the market, adjusting to inflation or season, the need for a more accurate calculation of the selling price, etc.).
Please note that in some national standards this is allowed and in some it is not. Since ERPAG is primarily intended for internal use and not for the official management of business accounting books, we have enabled users to make corrections in a simple way.
We will take our example immediately after receiving the goods from the purchase order.
Stock price is in both warehouse $ 55.00 and quantity 20 pcs. We need to set the stock price to be $ 60.00.
We can make the wanted change either through the ‘stock adjustment’ or directly from the item setup through the ‘set quantity’ option.
In both warehouses we will type in the wanted price ($60 in our example)
We will make two sales through the Sales Order, 10 pcs from each warehouse. The result in out stock card is now different.
Stock adjustment increased the ‘purchase cost balance’ and from that moment, each exit of the items will be by the corrected price (in our case for $60).
What we see as a difference is COGS, where now is $1.200,00 while in other examples is $1.000,00. Since we increased our stocks by $100,00 and for the sake of keeping our accounting expenses and income in balance, Stock Adjustment has it’s own ‘journal voucher’.
We increased our supplies by $100,00 and for that amount we have an income (account: Surplus). If we decreased our supplies, the difference would be deficit.
6. Transfer between warehouses
The transfer between warehouses that have different methods of keeping the stock price is completely supported. The warehouse from which we send the items will have its stock decreased by the method it keeps to calculate his stock price, while the warehouse which receives the items will use their own method of calculating the stock price.
We will transfer 10 pcs from our example (after we received the PO) from the FIFO warehouse to the weighted average warehouse.
And we will sell the entire quantity from the weighted average warehouse.
Our stock card will now look like this:
7. FIFO in the manufacturing
The principle is identical as with sales, the ‘input items’ are like Sales Orders (they decrease the stock) while ‘output items’ act as Purchase Orders (they increase the stock).
Each work order has information about the estimated cost and actual cost. Depending on the costing method the results may deviate based on the work order, while in overall they will be identical.
Again we must mention that each company has to decide on its own which method will it use, based on its business needs.
Both methods will over a specific amount of time give an identical result.
From our experience, we can only say that if your purchase price are not changing that often, that it’s better to use an average costing method. It’s faster and easier to control. While, if you are working on the projects where on each sales/work orders you have a need to precisely control the cost, then we are giving an advantage to the FIFO method.
If you have changes in your warehouse, you won’t be able to change the costing method.
In that case, we recommend that you open a new warehouse and transfer complete quantity over.
2019. ERPAG Inc