Item Valuation, FIFO and Moving Average
How are Items Valued?
One of the major features of any inventory system is that you can find out the value of any item based on its historic or average price. You can also find the value of all your items for your balance sheet.
Valuation is important because:
The buying price may fluctuate.
The value may change because of some process (value add).
The value may change because of decay, loss etc.
You may encounter these terms, so lets clarify:
Rate: Rate at which the transaction takes place.
Valuation Rate: Rate at which the items value is set for your valuation.
There are two major ways in which OneHash values your items.
FIFO (First In First Out): In this system, OneHash assumes that you will consume / sell those Items first which you bought first. For example, if you buy an Item at price X and then after a few days at price Y, whenever you sell your Item, OneHash will reduce the quantity of the Item priced at X first and then Y.
Moving Average: In this method, OneHash assumes that the value of the item at any point is the average price of the units of that Item in stock. For example, if the value of an Item is X in a Warehouse with quantity Y and another quantity Y1 is added to the Warehouse at cost X1, the new value X2 would be:
New Value X2 = (X Y + X1 Y1) / (Y + Y1)
Fifo And Moving Average
FIFO and Moving Average calculation difference
Valuation Rate of an item is calculated based on the total expense incurred to make the product available for sale like freight, labour, cost of raw materials, etc.
In ERPNext, Valuation Rate is calculated based on the valuation method selected for the particular item.
An item can have either FIFO or Moving Average selected as a valuation method.
Consider the following example to know how it impacts your stock:
Calculating Valuation Rate at the time of sale:
As per FIFO:
Since this is FIFO, we will consume quantities from the earliest transactions, therefore, to make a sale of 15 qty, we will take 10 qty from the first transaction and 5 qty from the second one.
(10 100) + (5 120) = 1600 which leaves us 15 qty in stock at cost of 120 amounting to 1800.
As per Moving Average:
In the Moving Average method, the value of an item is recalculated every time when an item is acquired. This is done by adding the cost of the newly acquired items to the existing inventory’s value and then dividing it by the total quantity available.
((10 100) + (20 120)) / 30 = 113.33
To make a sale of 15 qty, we will directly multiply it by the average value we received just now.
15 * 113.33 = 1700 which leaves us 15 qty in stock amounting to 1700.
If you check, even though the quantity is same the stock value is different but both amounts to a total of 3400 only.
Updated on: 14/01/2022