Last In, First Out (LIFO)

With last In, First Out (LIFO), the goods entered to the inventory most recently are considered to be the ones dispensed or consumed first. LIFO means that COGS includes the cost of the most recently purchased goods, while ending inventory will mostly be made up of older, typically lower-cost goods. In the model just like the one used by industries where the inventory costs go up along the period of inflation is a common example. LIFO can create big increases in COGS and lower taxable income when compared with First in, First out(FIFO) for example. Indeed, the process might not be a real picture of the factual goods and it can also hinder financial reporting and analysis.

Example

LIFO can be used as an example for inventory management with grocery store being a perfect example. For instance, a store decides to buy 100 units at $1. In another batch, the price has already been increased for the next 100 units to 1.50 dollars each. For instance, if the store has 150 units of a certain product on hand, LIFO accounting requires that 100 newest units that each cost $1.50 as well as 50 units from the last batch that cost $1 per unit were sold first. For that reason, COGS would be determined by multiplying the average unit cost of $1.50 by the number of units produced and sold. This is the reason the FA method results in higher COGS and lower taxable income than the other methods during periods of increasing prices.