The inventory cost flow assumption is the concept that the cost of an inventory item changes between the time it is acquired or built and the time when it is sold. Because of this cost differential, a company needs to adopt a cost flow assumption regarding how it treats the cost of goods as they move through the company.
There are a multitude of possible ways to interpret the cost flow assumption. For example:
§ FIFO cost flow assumption. Under thefirst in, first out method, you assume that the first item purchased is also the first one sold. Thus, the cost of goods sold would be $50. Since this is the lowest-cost item in the example, profits would be highest under FIFO.
§ LIFO cost flow assumption. Under thelast in, first out method, you assume that the last item purchased is also the first one sold. Thus, the cost of goods sold would be $90. Since this is the highest-cost item in the example, profits would be lowest under LIFO.
§ Specific identification method. Under thespecific identification method, you can physically identify which specific items are purchased and then sold, so the cost flow moves with the actual item sold. This is a rare situation, since most items are not individually identifiable.
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