Question

FIFO and average cost are the two most commonly used cost formulas in Canada. The amounts assigned to the same inventory items on hand may be different under each cost formula.

Instructions

Assuming a perpetual inventory system, explain the difference in the cost of the ending inventory under FIFO and average cost when prices of inventory items purchased during the period have:

(1) been increasing

(2) remained constant

Answer 1

1) Price been increasing-

Under Fifo method, the old inventory having lower cost per unit than the new inventory will be sold first. Thus, the ending inventory under fifo will have units having higher value which results in higher cost of ending inventory than any other inventory methid. Whereas, average method will take average cost per unit on every transaction. Thus, shows lower cost of ending inventory than FIFO.

2) Remained constant-

When price are remained constant the per unit cost of inventory will be same for both FIFO and average cost method. Thus, there will be no difference in the cost of ending inventory. The cost of ending inventory will be same.