Item Model Group (Inventory costing)

 

Inventory costing

Inventory costing plays a significant role in knowing the true financials of an organization and is quite a comprehensive topic. This post is share knowledge about various costing options, however their

Fitment to the business model, industry vertical, compliance, etc. requires a detailed exercise, niche expertise and spans multiple domains cost accounting, financials, supply chain, etc.

Sharing insights on inventory costing models available in New Microsoft Dynamics AX and their behind the scenes calculations:

• FIFO
• LIFO
• LIFO dated
• Weighted average
• Weighted average dated
• Moving average
• Standard cost.

Let’s assume that a shopkeeper purchases 6 items for the cost of Rs 50 and 4 items for the cost of

Rs 55. So, the total items’ cost is 6*50 + 4*55. The company sells 4 items.

Now, there are 6 + 4- 4 = 6 items in the company warehouse.

So the possible cost of item remained in the warehouse are:

Possible Combinations:

1. (6 – 4) * 50 + 4 *55             = Rs 320 (The company has sold 4 items that cost Rs 50)
2. (6 – 2) * 50 + (4 – 2) *55    = Rs 310 (The company has sold 2 item that costs Rs 50 and 2 item that costs Rs 55)

There will other variants like 1 from Rs 50 and 3 from Rs 55, 3 from Rs 50 and 1 from Rs 55, etc.

We cannot come to the point exactly about the item’s cost that is remaining in the warehouse because we only know that there are 6 items remaining in the warehouse and we don’t know which items are sold.

 

We can set up the following rules for an inventory models to calculate item’s cost:
FIFO – First in First out.

Means that the first purchased item is first sold.

So in our case, shopkeeper has 6 items for the cost of Rs 50 first, so these items will be first sold. After the items are sold, the items’ cost in the warehouse will be (6 – 4) * 50 + 4 * 55 = Rs 320

LIFO – Last in First out.

Meaning that the first purchased item is last sold.

So in our case, shopkeeper has purchased 4 items for the cost of Rs 55 last, so these items will be first sold.

After the items are sold, the items’ cost in the warehouse will be 6 * 50 + (4 – 4) * 55 = Rs 300

 Weighted avg.

In this case, the average cost is calculated and subtracted from the warehouse items’ cost when the item is sold.

So in our case, shopkeeper has average cost is (6* 55 + 4 * 50) / 10 =Rs 53.

After the items are sold, the items’ cost in the warehouse will be (10 – 4) * 53 = Rs 318

Standard cost

This inventory model uses a specific price as cost. The price can be entered manually or calculated automatically. This price is used as cost for purchase and selling.

For example, if the shopkeeper has set the standard cost price of Rs 49. So, we purchase all items for this price Rs 49.

The total items’ cost before the selling is 6 * 49 + 4* 49 = 490. After 4 items are sold, the items’ cost in the warehouse will be (10 – 4) * 49 = 294.

LIFO date 

This model equals to LIFO with the only difference being that purchase and selling dates are taken into account.

For example, a company purchases four items for the cost of Rs 50 on 11th Jan, three items for the cost of Rs 55 on 11th Jan and two items for the cost of Rs 47 on 13th Jan.

The company sells two items on 11th Jan, but the Sales manager was out of office and didn’t post the sales. The Sales manager came back to the office on 13th Janand posted the sales backdate to 11th Jan.

The sales posting process will decrease the cost of items in the warehouse at 2 * 55 (item’s last cost as of 11th Jan).

If the LIFO inventory model is used, the sales process will decrease the cost of items in the warehouse to 2*47 (because 7$ is the last cost received into the warehouse).

Weighted avg. date.

This model equals to the Weighted avg with the only difference being that the average amount is calculated for a separate day.

For example, a company purchases four items for the cost of Rs 50 on 11th Jan, three items for the cost of Rs 55 on 13th Jan and two items for the cost of Rs 47 on 13th Jan.

The company sells two items on 13th Jan. The average cost price will be (3* 55 + 2 * 47) / (3 +2) = Rs 259.

Note: 4 items at the price of   Rs 50 are not included in the average cost price calculation because they have been purchased on another day.