The Role of FIFO, LIFO, or FEFO in Pharmacy: Benefits and Features

Introduction

In the world of pharmacy, inventory management plays a vital role in ensuring the availability of medications and maintaining the financial health of the business. Pertinent stock rotation are essential for reducing waste, managing costs, and make sure that patients receive safe, effective medications. Three primary inventory management methods are used in the industry: FIFO (First In, First Out), LIFO (Last In, First Out), and FEFO (First Expired, First Out). Each method has distinct benefits and challenges, making it essential for pharmacy managers to understand these systems and select the one that best suits their operational needs.

What is FIFO (First In, First Out)

FIFO is one of the most commonly used inventory management methods, particularly in industries where product expiration is a concern, such as pharmaceuticals. Under the FIFO system, the oldest inventory is sold first. This approach ensures that older products are used before they expire, reducing waste and ensuring that customers receive the freshest possible items.

The benefits of FIFO for pharmacies are numerous. Firstly, FIFO provides a more accurate reflection of current market conditions on financial statements. Based on an evaluation of the oldest items' cost, pharmacies can avoid overstating profits during times of rising prices. This method also helps in maintaining a more accurate view of inventory costs and profitability. Secondly, FIFO reduces the risk of inventory obsolescence and spoilage, which is crucial for pharmaceuticals with strict expiration dates.

For example, consider a pharmacy that buys 100 units of a medication at $10 each in January, 150 units at $12 each in February, and 150 units at $14 each in March. If the pharmacy sells 300 units by March, using FIFO, the cost of goods sold would be calculated using the older prices first, resulting in a more realistic profit margin.

However, FIFO is not without its challenges. In periods of inflation, FIFO can result in higher taxable income, as older, lower-cost inventory is used to calculate cost of goods sold, leaving the higher-cost inventory on the balance sheet. This can increase the tax burden on the pharmacy, potentially affecting its financial stability.

What is LIFO (Last In, First Out)

LIFO, or Last In, First Out, is another inventory management method where the most recently purchased items are sold first. This method is less common in the pharmacy industry but can offer significant tax advantages, particularly in times of inflation.

One of the primary benefits of LIFO is its ability to lower taxable income. By using the cost of the most recent, often higher-priced inventory, LIFO can show higher costs of goods sold and lower profits on paper, reducing the amount of income subject to taxation. For instance, using the same pharmacy scenario, if the pharmacy uses LIFO, the cost of goods sold would be calculated using the newer, more expensive inventory first, resulting in lower reported profits and, consequently, lower taxes.

However, LIFO has significant disadvantages, especially in the healthcare sector. The primary drawback is that it can lead to an inaccurate representation of a pharmacy’s inventory value and profitability. Since the older, often less expensive items remain on the balance sheet, this method can distort financial statements, making it difficult for pharmacy managers to get a true picture of their financial health.

Additionally, LIFO is not recommended for businesses dealing with perishable goods, as it can lead to stock obsolescence. For pharmacies, this risk is particularly high, given the strict expiration dates of many medications. Implementing LIFO requires careful consideration of these factors to ensure it aligns with the pharmacy’s operational and financial goals.

What is FEFO (First Expired, First Out)

FEFO, or First Expired, First Out, is a variation of FIFO tailored to industries with products that have expiration dates. Under FEFO, inventory is prioritized based on expiration dates rather than the order of purchase. This method is particularly beneficial for pharmacies, as it ensures that medications are used before they expire, reducing waste and ensuring patient safety.

The importance of FEFO in managing perishable items cannot be overstated. By focusing on expiration dates, pharmacies can minimize the costs associated with expired inventory and ensure that patients receive effective, safe medications. For example, in a pharmacy using FEFO, medications with the earliest expiration dates are sold first, regardless of when they were purchased. This approach helps maintain a fresh stock and reduces the risk of selling expired products.

Implementing FEFO can be challenging, as it requires robust inventory tracking systems to monitor expiration dates accurately. Pharmacies must invest in software that can alert staff to upcoming expiration dates and facilitate efficient stock rotation. Despite these challenges, the benefits of FEFO in ensuring medication safety and reducing waste make it a valuable method for pharmacies.

Key Factors in Choosing an Inventory Management Method

Selecting the right inventory management method for a pharmacy involves considering several factors. The primary considerations include the impact on financial reporting, tax implications, stock management efficiency, and patient safety.

1. Financial Reporting: Accurate financial statements are crucial for assessing a pharmacy’s profitability and financial health. FIFO provides a realistic view of inventory costs, whereas LIFO can distort financial statements by leaving older, less expensive inventory on the books.
2. Tax Implications: Tax strategies can significantly impact a pharmacy’s bottom line. LIFO offers tax advantages by reducing taxable income, but it may not be suitable for all pharmacies, especially those dealing with perishable goods.
3. Stock Management Efficiency: Efficient stock management ensures that medications are available when needed and reduces waste. FEFO is particularly effective in managing perishable items, while FIFO helps maintain a consistent stock rotation.
4. Patient Safety: Ensuring that patients receive safe, effective medications is the top priority for pharmacies. FEFO is the best method for managing medications with strict expiration dates, ensuring that expired products do not reach patients.

In addition, Technology plays a crucial role in enhancing inventory management. inventory management software (WMS/WCS) can provide real-time data on stock levels and expiration dates.

Each inventory management method—FIFO, LIFO, and FEFO—offers distinct benefits and challenges for pharmacies. FIFO provides accurate financial reporting and reduces waste, but may increase taxable income. LIFO offers tax advantages but can distort financial statements and is not suitable for perishable goods. FEFO ensures patient safety and minimizes waste, but requires robust inventory management systems like WMS warehouse management software.

Pharmacies must carefully evaluate their unique needs and operational goals when selecting an inventory management method. If you would like to explore your unique warehouse storage solution for your storage facility with our experts, Inquire now for a free consultation.