Calculating product costs for Amazon sales can be challenging, especially when dealing with complex first-mile fee allocations. Which costing method most accurately reflects true costs and helps maximize profits? This analysis examines three common inventory costing approaches—FIFO, weighted average, and moving average—to help sellers select the optimal strategy for their business.
Method 1: First-In, First-Out (FIFO)
The FIFO method assumes that the oldest inventory items are sold first. This approach tracks each purchase batch's cost and assigns expenses chronologically. Consider this example:
Product A purchase history:
- Jan 1: 10 units at $10.30 each
- Jan 8: 30 units at $11.00 each
- Jan 15: 50 units at $12.00 each
- Jan 22: 10 units at $7.00 each
- Jan 29: 70 units at $9.00 each
For 100 units sold in January, FIFO calculates cost as:
(10 × $10.30) + (30 × $11.00) + (50 × $12.00) + (10 × $7.00) = $1,103
FIFO advantages:
- Real-time tracking: Provides current inventory valuation at any moment
FIFO disadvantages:
- Calculation complexity: Becomes cumbersome with frequent transactions and price fluctuations
- Profit inflation: During inflationary periods, may overstate profits and inventory value, increasing tax liabilities
Method 2: Weighted Average Costing
This method calculates a single average cost at month-end using this formula:
Weighted Average = (Beginning Inventory + Total Purchases) ÷ (Beginning Quantity + Total Purchased Quantity)
Using Product A's data:
[(10 × $10.30) + (30 × $11.00) + (50 × $12.00) + (10 × $7.00) + (70 × $9.00)] ÷ (10 + 30 + 50 + 10 + 70) = $9.58/unit
Cost for 100 units sold: 100 × $9.58 = $958
Weighted average advantages:
- Simplified calculations: Reduces accounting workload
Weighted average disadvantages:
- Delayed information: Lacks real-time cost visibility, hindering daily inventory management
Method 3: Moving Average Costing
This approach recalculates the average cost after each purchase:
Moving Average = (Existing Inventory Value + New Purchase Cost) ÷ (Existing Quantity + New Purchase Quantity)
Moving average advantages:
- Timely data: Offers relatively current cost information
Moving average disadvantages:
- Processing intensity: Requires frequent recalculations for high-volume sellers
Selecting Your Optimal Costing Method
Amazon sellers should consider these factors when choosing a costing approach:
- Business scale: Smaller sellers may prefer weighted average for simplicity, while larger operations might need FIFO or moving average for precision
- Inventory systems: Available accounting software or ERP capabilities may dictate method selection
- Cost control needs: Businesses requiring tight cost management benefit from FIFO or moving average's real-time data
- Tax implications: Different methods affect taxable income—consult a tax professional for optimization
The optimal costing method depends entirely on your specific business requirements. By understanding these approaches' strengths and limitations, Amazon sellers can make informed decisions to enhance operational efficiency and profitability.