In contrast to first-in, first-out (FIFO) method, the last-in, first-out (LIFO) method of inventory valuation assumes that the last costs incurred to purchase merchandise or direct materials are first costs charged against revenues. In other words, it assumes that the cost of merchandise sold (in a merchandising company) or the cost of materials issued to production department (in a manufacturing company) is the cost of most recent purchases.

Like first-in, first-out (FIFO), last-in, first-out (LIFO) method can be used in both perpetual inventory system and periodic inventory system. The following example explains the use of LIFO method for computing cost of goods sold and the cost of ending inventory in a perpetual inventory system.

Example – LIFO perpetual inventory system in a merchandising company:

BZU uses perpetual inventory system to record purchases and sales and LIFO method to valuate its inventories. The company has provided the following information about commodity DX-13C and wants your assistance in computing the cost of commodity DX-13C sold and the cost of ending inventory of commodity DX-13C.

Date Event Units Per unit cost Cost
Aug. 01 Beginning inventory 20 $40 $800
Aug. 07 Sale 14
Aug. 12 Purchase 16 $42 $672
Aug. 17 Sale 8
Aug. 23 Sale 4
Aug. 27 Purchase 8 $44 $352
Aug. 30 Sale  10

Required:

  1. Prepare a LIFO perpetual inventory card.
  2. Compute cost of goods sold and the cost of ending inventory using LIFO method.

Solution:

 (1). LIFO perpetual inventory card:

Date Purchases Sales Balance
Aug. 01
Beginning inventory 20 units × $40 = $800
Aug. 07
14 units × $40 = $560 6 units × $40 = $240
Aug. 12
16 units × $42 = $672 6 units × $40 = $240
16 units × $42 = $672
Aug. 17
8 units × $42 = $336 6 units × $40 = $240
8
units × $42 = $336
Aug. 23
4 units × $42 = $168 6 units × $40 = $240
4
units × $42 = $168
Aug. 27
8 units × $44 = $352 6 units × $40 = $240
4
units × $42 = $168
8
units × $44 = $352
Aug. 30
8 units × $44 = $352
  2 units × $42 = $84
$436
6 units × $40 = $240
2
units × $42 = $84
Total $1,024 $1,500 $324

(2). Cost of goods sold (COGS) and ending inventory:

LIFO perpetual inventory card can help compute cost of goods sold and ending inventory.

a. Cost of goods sold (COGS) = [$560 + $336 + $168 + $436]
= $1,500
b. Ending inventory = [$240 + $84]
= $324

When LIFO method is used in a perpetual inventory system, it is typically known as “LIFO perpetual system”.

The above example explains the use of LIFO perpetual system in a merchandising company. In manufacturing companies, it is used to compute the cost of materials issued to production and cost of ending inventory of raw materials (also known as direct materials). Consider the following example:

Example – LIFO perpetual system in a manufacturing company:

The Three Star company manufactures product X. Material K5 is used to manufacture product X. The information about the acquisition and issuance of material K5 for the month of June is given below:

June 01 Beginning inventory; 50 units @ $4.80/kg and 100 kg @ $5.00/kg.
June 05 10 kgs of material K5 were returned to supplier.
June 09 35 kgs of material K5 were issued to factory.
June 12 70 kgs of material K5 were purchased @ $5.10/kg
June 17 50 kgs of material K5 were issued to factory.
June 19 25 kgs of material K5 were issued to factory.
June 23 50 kgs of material K5 were purchased @ $5.20/kg
June 26 60 kgs of material K5 were issued to factory.
June 30 5 kgs of material K5 were returned from factory to store room .

A perpetual inventory system is used to account for acquisition and issuance of direct materials.

Required: Compute the cost of material K5 issued to factory and the cost of material K5 at the end of June using last-in, first-out (LIFO) method.

Solution:

As the company uses perpetual inventory system, a materials ledger card would be prepared to compute the cost of materials issued to factory and the cost of materials on hand at the end of the month. Materials ledger card is similar to inventory card prepared above. Materials ledger card of Three Star company is give below:

(1). LIFO perpetual material card:

Date Purchases Issues Balance
June 01
Beginning inventory 50 kgs × $4.80 = $240
100
kgs × $5.00 = $500
”   05 *10 kgs × $5.00 = $50 50 kgs × $4.80 = $240
90
kgs × $5.00 = $450
”   09 35 kgs × $5.00 = $175 50 kgs × $4.80 = $240
55
kgs × $5.00 = $275
”   12 70 kgs × $5.10 = $357 50 kgs × $4.80 = $240
55
kgs × $5.00 = $275
70 kgs × $5.10 = $357
 ”   17 50 kgs × $5.10 = $255 50 kgs × $4.80 = $240
55
kgs × $5.00 = $275
2
0 kgs × $5.10 = $102
”   19
20 kgs × $5.10 = $102
5 kgs × $5.00 = $25
$127
50 kgs × $4.80 = $240
50
kgs × $5.00 = $250
”   23 50 kgs × $5.20 = $260 50 kgs × $4.80 = $240
50
kgs × $5.00 = $250
50 kgs × $5.20 = $260
”   26 50 kgs × $5.20 = $260
10 kgs × $5.00 = $50
$310
50 kgs × $4.80 = $240
40
kgs × $5.00 = $200
”   30 *5 kgs × $5.00 = $25 50 kgs × $4.80 = $240
45
kgs × $5.00 = $225
Total $867 $465

* Materials returned from store room to supplier is usually recorded in purchases column and materials returned from factory to store room is usually written in issues column. The returns are normally written in red ink to differentiate them from normal purchases and issues.

(2). Cost of material issued to factory:

= $175 + $255 + $127 + $310
= $867

(3). Cost of inventory on hand on  June 30th:

= $240 + $225
= $465