FIFO

FIFO stands for First-In, First-Out. It is an inventory accounting method where the oldest inventory is assumed to be sold first. When prices are rising, FIFO produces higher reported profit (because older, lower-cost inventory is expensed) and higher taxes. FIFO is permitted under both GAAP and IFRS and is the most commonly used inventory method globally. FIFO is administratively simpler than LIFO and produces inventory values closer to current replacement cost.

How FIFO works

Under FIFO, when a company sells inventory, it assumes the oldest purchased items are sold first. The remaining inventory is valued at the most recent prices.

Example: A manufacturer buys materials:

• January: 100 units at $10 = $1,000
• March: 100 units at $12 = $1,200
• June: 100 units at $14 = $1,400

If the company sells 150 units during the year under FIFO, it assumes the 150 units sold are: 100 from January ($10) and 50 from March ($12).

Cost of goods sold = 100 × $10 + 50 × $12 = $1,000 + $600 = $1,600 Remaining inventory = 50 units at $12 + 100 units at $14 = $600 + $1,400 = $2,000

This differs from LIFO, where newer (more expensive) inventory is sold first, resulting in higher COGS and lower profit.

Advantages of FIFO

More intuitive: FIFO matches the physical flow of most businesses; companies typically use or sell their oldest stock first.

Higher inventory values: Remaining inventory is valued at recent (higher) prices, producing balance-sheet values closer to replacement cost. The balance sheet is more current.

Lower accounting complexity: FIFO requires simpler record-keeping than LIFO (no complex layering).

Global acceptance: FIFO is permitted under both GAAP and IFRS, making it easier for multinational companies to maintain consistent accounting.

No reserve tracking: Unlike LIFO, FIFO does not require a reserve disclosure.

Disadvantage: Tax cost in inflation

In inflationary periods, FIFO produces higher profit than LIFO (because low-cost old inventory is expensed). Higher profit means higher taxes. This is why tax-conscious companies prefer LIFO when inflation is high.

However, if a company switches from FIFO to LIFO, it must satisfy IRS requirements and historical records become complicated.

FIFO and replacement cost

In inflationary environments, remaining inventory under FIFO is valued at recent (high) costs, which approximates replacement cost. A company knowing it must replenish inventory at current prices can use the FIFO inventory value as a proxy for replacement cost.

Under LIFO, remaining inventory is valued at old, low costs, which is far from replacement cost.

FIFO in different price environments

In inflation: FIFO produces higher reported profit and higher taxes (disadvantage for taxes, but more truthful income).

In deflation: FIFO produces lower reported profit (because high-cost old inventory is expensed, and low-cost new inventory remains in stock).

This is symmetric with LIFO, which benefits in inflation but suffers in deflation.

Global prevalence

Because FIFO is simpler, more intuitive, and permitted under IFRS, it is the default inventory method for most companies worldwide. LIFO is primarily a US phenomenon, driven by tax advantages.

When investors compare US companies to international competitors, they must account for the inventory method. A LIFO company may have similar economics to a FIFO competitor but different reported profit due to the method alone.

Comparison to weighted-average

A third method, weighted-average-cost-of-inventory, produces results between FIFO and LIFO. Weighted-average is also permitted under GAAP and IFRS but is less common than FIFO.

See also