LIFO stands for last in first out and under this method of inventory valuation, the inventory that
was bought last will be utilized first. For example, if I purchase 50 units of stock on the 3rd
January, 60 units of stock on the 25th January, and further 100 units of stock on the 16th
February, the first stock to be utilized under the LIFO method would be the 100 units of stock I
purchased on the February 16th since it was the last to be purchased.
The main differences between the two methods of valuation are the effect that they have on the
firm’s income statements and balance sheet. In times of inflation, if the LIFO method of
valuation is used, the stock that is sold will cost higher than the stock that remains. This will
result in a higher COGS and lower inventory value in the balance sheet. If the FIFO method is
used during inflation, the stock that is sold will cost lower than the stock held, which will lower
the COGS and increase the inventory value in the firm’s balance sheet. The other difference
between the two is in how they impact tax. LIFO method will result in higher COGS and will
result in lower tax (since earnings are lower when cost of goods are high), and the FIFO method
will result in higher tax since COGS is lower (earnings will be higher).
Principles of Accunting Vol. 1.