FIFO vs LIFO vs Weighted Average: Worked Example
How the three inventory costing methods work, a worked example of their effect on COGS and profit, which are allowed under IFRS, and how to choose.
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When you buy the same item at different prices over time, you need a rule for which cost goes to cost of goods sold (COGS) and which stays in closing inventory. That rule is your inventory costing method, and it changes reported profit.
The three methods
- FIFO (first in, first out): the oldest costs are assumed sold first. Closing stock carries the most recent costs.
- LIFO (last in, first out): the newest costs are assumed sold first. Closing stock carries the oldest costs.
- Weighted average: all costs are blended into one average cost per unit.
A worked example
Opening stock 100 units @ 10, purchases of 150 @ 12 and 200 @ 14. Total available: 450 units costing 5,600. You sell 320 units at 20 each, so revenue is 6,400.
| Method | COGS | Closing stock | Gross profit |
|---|---|---|---|
| FIFO | 3,780 | 1,820 | 2,620 |
| LIFO | 4,240 | 1,360 | 2,160 |
| Weighted average | 3,982 | 1,618 | 2,418 |
How each is worked out:
- FIFO: 100 × 10 + 150 × 12 + 70 × 14 = 1,000 + 1,800 + 980 = 3,780.
- LIFO: 200 × 14 + 120 × 12 = 2,800 + 1,440 = 4,240.
- Weighted average: 5,600 ÷ 450 = 12.44 per unit, so COGS = 320 × 12.44 = 3,982.
Because prices rose, FIFO gives the lowest COGS and therefore the highest profit; LIFO gives the highest COGS and the lowest profit; the average sits between. In falling prices the order reverses.
What's allowed
- IFRS (IAS 2) permits FIFO and weighted average cost. LIFO is not permitted. UAE businesses reporting under IFRS therefore use FIFO or weighted average.
- US GAAP allows LIFO.
- Whatever you choose must be applied consistently to inventories of a similar nature; changing it is a change in accounting policy requiring disclosure.
- Tax treatment may differ — confirm with your adviser.
Periodic vs perpetual
- Periodic: costs are matched to units sold at period end using totals (what the calculator below does).
- Perpetual: cost is updated after every purchase and sale. With perpetual weighted average ("moving average") the figures can differ from periodic when buying and selling interleave.
Choosing a method
| Situation | Often suits |
|---|---|
| Perishables, fashion, tech — oldest stock really sells first | FIFO |
| Fungible bulk goods (fuel, grain, chemicals) | Weighted average |
| Simplicity with many small purchases | Weighted average |
Pick the method that best reflects the actual flow of goods and is supportable under your reporting framework.
Net realisable value
Under IAS 2, inventory is carried at the lower of cost and net realisable value. Write stock down when selling prices fall below cost, damage occurs or items become obsolete.
Compare them on your own numbers
Enter opening stock, purchases and units sold into the free Inventory Valuation Calculator to see COGS, closing stock and gross profit under all three methods side by side. For the basics see the COGS Calculator, COGS and gross profit for trading businesses and inventory turnover explained.
Costing is easier when stock and accounting share one ledger. Pyalm Books tracks products with cost and price, real-time stock levels and transfers between stores, with sales and purchases posting to the ledger — free during beta.
Standards, rates and deadlines change. Confirm the current position with the relevant authority or a qualified adviser before you rely on it.