The comparison of inventory costing methods refers to the process of evaluating and analyzing the different methods used to assign costs to inventory items and cost of merchandise sold. There are four common methods used for this purpose: specific identification, first-in first-out (FIFO), last-in first-out (LIFO), and weighted average. Each method has its own unique characteristics and benefits, and the selection of a particular method may depend on the nature of the business, the type of inventory being tracked, and the financial reporting goals of the company.
Specific identification is a method that assigns costs to inventory items based on their specific purchase invoices. This method is suitable for businesses with small variety of merchandise and low volume of sales, as it allows for the direct identification of items sold and on hand.
FIFO, on the other hand, assumes that inventory items are sold in the order they were acquired. This means that the oldest purchases are sold first, and their costs are included in the computation of cost of goods sold. FIFO is often used in businesses where prices are rising, as it results in lower inventory and higher cost of goods sold, which can help to reduce the impact of inflation on the company's financial statements.
LIFO, on the other hand, assumes that the most recent purchases are sold first. Their costs are charged to cost of goods sold, and the costs of the earliest purchases are assigned to inventory. LIFO is often used in businesses where prices are falling, as it results in higher inventory and lower cost of goods sold, which can help to reduce the impact of deflation on the company's financial statements.
The weighted average method, as the name suggests, calculates the average cost per unit of merchandise available for sale. This method is based on the average of all expenditures and is suitable for businesses with a large volume of sales and multiple purchases of identical items at different costs.
In summary, each inventory costing method has its own advantages and disadvantages, and the selection of a particular method may depend on the specific needs and goals of the business. It is important to carefully consider the pros and cons of each method and choose the one that best meets the needs of the company.