What is FIFO? First In, First Out: Benefits and How to Calculate

FIFO stands for “first in, first out.” It is an inventory accounting method and stock rotation strategy. Businesses use it to sell or use the oldest inventory first.

If you are a business owner, FIFO is especially useful for managing inventory efficiently and ensuring accurate financial reporting.

The FIFO method is used for accounting purposes, such as calculating cost of goods sold (COGS), managing inventory, and preparing financial statements for accurate reporting. In sectors like food and retail, FIFO also supports safety by pushing older products out before expiration dates pass.

This article explains what FIFO is, how the FIFO inventory method works, and where it applies. The FIFO method is popular among businesses due to its simplicity and effectiveness in inventory management. It compares FIFO with other methods, breaks down calculations, and covers why most businesses prefer FIFO in inventory accounting.

Defining FIFO and Its Role in Inventory Management

FIFO is an inventory management method that moves the oldest inventory out of stock first. Businesses use the FIFO inventory method to track goods and manage costs. It suits industries that handle perishable items or fast-moving stock.

FIFO is especially useful for managing inventory efficiently, as it helps organize stock, manage expiry dates, and optimize warehouse operations—particularly in industries with perishable goods.

FIFO also matters in finance. It supports accurate inventory valuation, tax reporting, and clean financial statements. Many companies follow FIFO to meet generally accepted accounting principles (GAAP) or international financial reporting standards (IFRS), especially during inflation.

FIFO inventory management improves both stock handling and accounting. It reduces waste, maintains order, and supports better decision-making.

FIFO Method Explained

FIFO focuses on ensuring the oldest inventory is prioritized for sale or use. FIFO means that a business sells or uses its oldest inventory first. When new stock arrives, it goes behind older items. This FIFO flow ensures that older products leave storage before they expire or become obsolete.

FIFO applies to both physical handling and accounting. In physical inventory, staff rotate goods so that earlier goods purchased leave first, helping businesses sell items in the order they were received and reducing the risk of spoilage or obsolescence. In inventory accounting, the cost assigned to goods sold comes from the actual costs of the oldest stock. This creates a consistent match between physical and financial records.

FIFO in Accounting

Businesses use FIFO as an inventory valuation method. When a company sells inventory using FIFO, it records the cost of the oldest inventory items first, which affects how profit is calculated. It calculates the cost of goods sold (COGS) using the cost of the oldest available inventory, and the total cost of goods sold is determined by summing the costs of these oldest inventory items. This results in lower COGS during inflation, which often leads to higher net income.

FIFO fits well with GAAP and international financial accounting standards. It also impacts the balance sheet by placing newer, often higher-priced inventory in the current inventory column. FIFO uses older costs for COGS, while other methods like LIFO may use more recent costs, which can affect profitability and tax liabilities. FIFO shows a more accurate picture of stock values, especially when prices rise.

FIFO in Physical Inventory Control

Using FIFO improves how businesses handle inventory items on shelves. Staff follow FIFO to manage expiration dates, especially when they sell food or perishable items. By following inventory procedures, businesses ensure proper stock rotation in a FIFO system, which helps maintain accurate inventory tracking and reduces the risk of expired products. This helps reduce waste and improve product quality.

FIFO method helps control shelf life, especially in food, pharmaceuticals, and retail. For example, grocery stores use FIFO to keep perishable goods like dairy products fresh and reduce waste. Companies that sell perishable items or high dollar items need this method to keep goods moving in the same order they arrive. This lowers losses, improves turnover, and keeps inventory accurate.

Benefits of Using the FIFO Method

Businesses use the FIFO inventory method to stay organized, reduce waste, and maintain financial accuracy. FIFO can lead to higher profits by reducing waste and optimizing inventory costs. The following sections explain how FIFO improves financial reporting, product quality, and internal operations. Additionally, FIFO helps businesses maintain healthy profit margins by accurately reflecting inventory costs.

Financial Clarity

The FIFO method assigns the oldest inventory costs to goods sold, which reflects a more accurate match between cost and actual flow. This improves the reliability of inventory valuation, cost of goods sold, and reported net income.

FIFO places newer, often higher-cost items in current inventory, which strengthens the balance sheet. In inflationary markets, FIFO lowers COGS and leads to higher net income. That also increases taxable income, which businesses should plan for. FIFO can result in higher income taxes due to increased reported profits, especially during periods of inflation.

Inventory Flow and Product Quality

FIFO supports safe and timely inventory flow, which helps businesses sell food and other perishable items before they expire. It keeps products moving in the same order they are received. FIFO also helps businesses keep accurate records of their total inventory, ensuring that all stock is accounted for and valued correctly. This helps meet safety standards and reduces waste from expired stock.

Following FIFO also improves product quality by keeping goods sold fresh. This matters for industries dealing with food items, raw materials, and short shelf products.

Operational Efficiency

Using the FIFO inventory method supports smoother warehouse and retail operations.

• Reduces expired foods and food waste by moving older inventory first, keeping stock fresh and reducing spoilage losses.
• Helps maintain proper organization since staff follow a clear system where older goods go out before newer ones.
• Minimizes inventory write-offs by keeping products within safe use or sell windows, which lowers losses from unsellable stock.
• Improves record keeping through consistent tracking of goods sold, making audits and physical count more accurate.
• Supports better space management because cleared older stock makes room for recent purchases, prevents clutter, and helps avoid holding too much stock, which can lead to excess storage costs and inefficiencies.
• Increases staff efficiency by reducing the time spent sorting through unsellable or outdated inventory.

FIFO works across industries to cut waste, simplify tracking, and support stronger inventory management.

Comparing FIFO to Other Inventory Valuation Methods

Businesses can choose different inventory valuation methods, but each impacts costs, profits, and reporting. Businesses often choose between FIFO and LIFO methods depending on their supply chain needs and financial goals. The choice between FIFO and LIFO methods can significantly impact supply chain efficiency and inventory costs. Below are key comparisons that explain how the FIFO inventory method stacks up against common alternatives.

FIFO vs LIFO Method

FIFO assumes the oldest inventory is sold first. A FIFO system prioritizes the sale of the oldest inventory, ensuring proper stock rotation and reducing waste, while LIFO focuses on the most recently acquired stock. LIFO method assumes the most recent stock moves out first. FIFO results in lower cost of goods sold during inflation, which increases net income. LIFO lowers profits and taxes but doesn’t align with international financial reporting standards. FIFO supports cleaner financial statements and is more widely accepted.

FIFO vs Average Cost Inventory

Average cost inventory blends all purchase costs to find a single per-unit value. FIFO tracks actual costs tied to each batch. This gives a clearer expected cost flow and often reflects a more accurate method of inventory use. FIFO helps businesses monitor margins and price shifts more precisely.

FIFO vs Specific Inventory Tracing

Specific inventory tracing tracks each inventory item by serial number or tag. It suits high dollar items or industries needing tight record keeping. But it requires more time and tech. FIFO works better for many businesses that handle bulk stock, frequent goods purchased, or perishable goods with short shelf lives.

FIFO and Food Safety Standards

The FIFO inventory method helps businesses reduce waste and protect customers. In food service and retail, FIFO assigns priority to older stock. This reduces spoilage, limits expired goods, and lowers the risk of foodborne illness. Companies that sell food or perishable items use FIFO to meet food safety guidelines and improve stock control.

Shelf Life and Expiration Date Management

Using FIFO inventory management, workers move older inventory first and restock with newer inventory behind it. This keeps products within their shelf life and prevents expired goods from reaching customers. Clear expiration date tracking supports smooth inventory flow and reduces compliance risks.

Key Practices for FIFO Compliance

Teams must follow clear steps to apply FIFO correctly. These actions help maintain quality and safety:

• Labels items with clear expiration dates so staff can quickly identify which products to use first, reducing the chance of selling expired goods.
• Stores older inventory in front or on top to ensure it gets picked before newer stock, helping maintain the correct FIFO flow.
• Trains staff on FIFO rotation procedures to make sure they follow consistent steps when receiving, stocking, and checking inventory.

Correct FIFO use protects product integrity and supports safer inventory methods.

When to Use the FIFO Method

Businesses should use the FIFO method when they handle products with limited shelf life, rising costs, or strict quality standards. For an ecommerce business, FIFO can help keep inventory fresh and reduce losses from outdated stock. FIFO supports accurate inventory valuation and helps maintain an accurate ending inventory balance, which is crucial for financial reporting. It also aligns with accepted financial and safety regulations.

Best-Fit Industries and Product Types

Industries that sell food, manage raw materials, or handle perishable goods benefit most from the FIFO inventory method. Food service operations use FIFO to prevent expired stock from reaching customers. 

Retailers apply FIFO to manage seasonal goods and avoid overstock. Manufacturers use it to keep input materials fresh and within spec. FIFO also suits businesses dealing with short shelf items or fast-moving inventory.

Regulatory and Reporting Requirements

International financial accounting standards and generally accepted accounting principles often prefer FIFO for its clear inventory accounting and transparent cost of goods sold reporting. 

FIFO helps prepare reliable financial statements by showing an accurate picture of actual costs and current inventory. It supports audit readiness, reduces compliance risks, and gives stakeholders consistent data.

Ecommerce Businesses and FIFO

Ecommerce businesses face unique challenges in inventory management, especially when dealing with a wide variety of products and fluctuating demand. Implementing the FIFO method allows ecommerce businesses to sell older inventory first, which helps prevent outdated stock from accumulating and ensures that products with expiration dates are sold before they become unsellable. This approach is particularly valuable for ecommerce businesses dealing with perishable goods or items that can quickly become obsolete.

By using the FIFO inventory valuation method, ecommerce companies can more accurately calculate the cost of goods sold (COGS), leading to more precise profit reporting and a clearer picture of net income. FIFO also ensures that the balance sheet reflects the true value of current inventory, as older, lower-cost inventory is sold first and newer, potentially higher-cost inventory remains in stock. This can result in higher net income during periods of rising prices, as the goods sold COGS is based on older, less expensive inventory.

Additionally, FIFO inventory management supports healthier cash flow by reducing the risk of holding onto unsellable or outdated stock. For ecommerce businesses, maintaining an efficient inventory flow is essential to meeting customer expectations and minimizing losses. By prioritizing the sale of older stock, ecommerce businesses can optimize their inventory valuation, reduce waste, and improve overall financial performance.

High-Volume Warehouses and FIFO

High-volume warehouses often manage thousands of inventory items moving in and out daily, making it challenging to consistently apply the FIFO method. However, effective inventory management is crucial for these operations to minimize waste and control operational costs. Implementing the FIFO method in a high-volume environment requires robust systems and processes.

Using inventory management software can greatly assist in tracking inventory movement and ensuring that older stock is identified and picked first. Techniques such as labeling, barcoding, and clear organization of storage areas make it easier for staff to locate and move older inventory ahead of newer arrivals. These inventory management techniques help maintain the integrity of the FIFO method, even when dealing with large quantities of goods.

By following the FIFO method, high-volume warehouses can reduce the risk of obsolete inventory, lower operational costs, and improve efficiency. Streamlined inventory management not only supports accurate order fulfillment but also helps warehouses maintain optimal stock levels and reduce losses from expired or unsellable goods.

Implementing the FIFO Method

Successfully implementing the FIFO method starts with a thorough review of your current inventory management practices. Businesses should assess their existing systems to identify where FIFO can be integrated, which may involve reorganizing storage layouts to ensure older inventory is more accessible and easier to pick first.

Adopting inventory management software can automate tracking and provide real-time updates on inventory movement, making it easier to follow the FIFO method. Regularly updating inventory records is essential to maintain accuracy and ensure that new inventory is properly rotated behind existing stock.

Staff training is also a key part of implementation, as employees need to understand how to identify and move older inventory first. By establishing clear procedures and leveraging technology, businesses can improve inventory management, reduce waste, and increase profitability through the effective use of the FIFO method.

Training and Support

Proper training and ongoing support are essential for staff to consistently apply the FIFO method. Employees need to understand why selling older inventory first is important and how to identify and handle older stock correctly. Businesses can offer training sessions, hands-on workshops, and digital resources to ensure everyone is familiar with FIFO procedures.

Continuous support, such as regular check-ins and feedback, helps staff stay on track and quickly resolve any challenges that arise. By investing in comprehensive training and support, businesses can ensure that the FIFO method is implemented correctly, reducing errors and maximizing the benefits of efficient inventory management.

Common Mistakes to Avoid

When adopting the FIFO method, businesses should be aware of several common pitfalls. One frequent mistake is failing to properly track and identify older inventory, which can result in newer stock being sold before older items. This undermines the effectiveness of the FIFO method and can lead to increased waste.

Another issue is neglecting to regularly review and update inventory records, which can cause inaccuracies in inventory valuation and cost of goods sold calculations. Overstocking is also a risk, as holding too much inventory can lead to outdated or unsellable stock, reducing the benefits of FIFO.

Finally, insufficient training and support for staff can result in confusion and inconsistent application of the FIFO method. By proactively addressing these challenges, businesses can ensure a smooth and successful implementation of FIFO, leading to better inventory management and improved financial outcomes.

How to Calculate FIFO in Accounting

To apply the FIFO inventory method, start with the oldest inventory costs. To calculate COGS, use the prices of the earliest goods purchased. This reflects the actual flow of stock and matches the natural flow of products in inventory management.

Example:
A company buys 100 units at $10, then 100 more at $12. If it sells 150 units, FIFO applies the $10 cost to the first 100 units and $12 to the next 50.
COGS = (100 × $10) + (50 × $12) = $1,000 + $600 = $1,600.
Ending inventory = 50 units × $12 = $600.

FIFO produces a higher ending inventory value during inflation and a lower COGS, which leads to higher net income. This method supports accurate inventory accounting, clear financial statements, and a reliable balance sheet.

Conclusion

What is FIFO? It’s a clear, logical inventory valuation method that moves older goods out first. The FIFO method improves inventory costs tracking, supports food safety, and aligns with generally accepted accounting principles. 

FIFO inventory valuation method gives many businesses a simple way to maintain order, reduce loss, and meet reporting standards. By applying the FIFO inventory method, companies can improve accuracy, reduce waste, and strengthen both operations and financial performance.