FIFO Definition In Inventory Management
FIFO (First-In-First-Out) is a method used in inventory management where the oldest inventory is sold first. In other words, the products you received or produced first will be the ones that get sold the fastest. This method also applies to other branches like accounting, shipping, and food safety. It is used typically by businesses that deal with products with expiration dates. Products with expiration dates frequently have batch numbers. By applying the FIFO method, the first batch received will be the one to sell first. The company is less likely to lose money with this method when products expire.
Examples For Applying FIFO In Business
Besides knowing what FIFO means, it’s important to also understand how it can be used in practice. Here are some examples:
- A clothing business purchases 20 shirts for 5 dollars each and later purchases another 15 shirts for 10 dollars each. The business receives an order for 15 shirts. With the FIFO method, that order will be fulfilled with products from the first batch of shirts. This means that each shirt costs 5 dollars. If later on, they receive another order for 10 shirts, it will consist of the leftover 5 shirts from the batch and 5 shirts from the second batch. Therefore, the cost of 5 shirts will be 5 dollars each and the other 5 shirts 10 dollars each.
- A bakery makes 15 cupcakes on Monday. The next day, they make 20 more cupcakes and receive an order for 25 cupcakes. The order will consist of the first 15 cupcakes made on Monday and an additional 10 that were made on Tuesday.
There are plenty of spreadsheets and calculators on the internet as FIFO templates that you can use. While this is not a good option for big companies that deal with a lot of inventory, it can be beneficial for a small-sized company.
Advantages Of Using This Method
Using the FIFO method in inventory management has many advantages when it comes to costs and profit. Also, this method is the most common one, especially in companies that deal with perishable goods. Here are some of the advantages:
- A simple concept that is easy to understand and implement
- Results in less waste of products
- The remaining inventory is a better reflection of the market value
- The bookkeeping process is easier with fewer chances of making mistakes
- Higher net profit by selling older inventory with lower costs at higher prices
- Widely accepted and used