Inventory costing sounds like the kind of topic that only your most dedicated accountants get excited about. And honestly, it kind of is. But it matters a lot — because the same inventory, purchased on the same days, at the same prices, can produce wildly different numbers on your balance sheet depending on which method you're using. That's not a bug. That's just how it works. And if you don't understand why, you're going to have a very uncomfortable conversation with your auditors one day.
Let's walk through it together.
First, a quick vocabulary lesson
Before we get into the methods, there are three terms you'll see come up again and again:
Inventory recalculation is the periodic process that adjusts the costs associated with your transactions according to whichever costing method you've chosen. Think of it as a correction pass — the values are estimates until everything is settled.
Inventory close is the process that actually settles inventory receipts (things coming in) against inventory issues (things going out). Once a financial period is closed, no further value adjustments can be made for that period. It's done. Locked.
Value open describes inventory receipt or issue transactions that haven't yet been fully settled against each other. Until "value open" equals No and the period is closed, your costs are still estimates.
With that in your back pocket, let's meet the methods.
Meet the methods
FIFO — First In, First Out
The idea: The first items you received are treated as the first ones sold. When a sales order goes out the door, D365 F&O assumes it's pulling from your oldest stock first.
Example: You have 10 units at $10 (purchased Jan 1) and 10 units at $12 (purchased Jan 15). You sell 10 units → COGS = 10 × $10 = $100.
Who uses it: Pretty much everyone. FIFO is the default choice for a reason — it's intuitive, it aligns with how perishables actually move, and it's accepted under both GAAP and international accounting standards (IFRS). If you're selling something with a shelf life or want your balance sheet to reflect current market costs, FIFO is likely your friend.
LIFO — Last In, First Out
The idea: The last items you received are treated as the first ones sold. Flip FIFO around and you've got LIFO. Your most recent (often more expensive) purchases hit Cost of Goods Sold first.
Example: You have 10 units at $10 (received Oct 5) and 10 units at $12 (received Oct 20). You sell 10 units → COGS = 10 × $12 = $120.
Who uses it: Companies who want to minimize taxable income during periods of rising costs. If prices are going up, matching your newer (higher) purchase costs to sales keeps your reported profit lower — which can be strategically useful.
LIFO Date — Last In, First Out by Date
The idea: Same concept as LIFO, but the sequencing is based on the financial date of the inventory receipt rather than the transaction date as of the period end.
Same math as LIFO — the difference is which date determines "most recent." LIFO Date uses the invoice (financial) date; LIFO uses the transaction date.
Who uses it: Generally the same scenarios as LIFO.
Why it's different from LIFO (and why it matters): Here's where it gets interesting. Imagine you have three receipts in October:
| Transaction | Transaction Date | Financial Date |
|---|---|---|
| 1 | October 5th | October 15th |
| 2 | October 15th | October 6th |
| 3 | October 30th | October 20th |
- Under LIFO, the settlement order is 3 → 2 → 1, because it goes by transaction date.
- Under LIFO Date, the settlement order is 3 → 1 → 2, because it goes by financial (invoice) date.
LIFO Date is generally considered closer to what accountants actually intend — using the invoice date to determine "last in" rather than the order in which the transactions were created in the system.
Weighted Average
The idea: All inventory received during the period gets pooled together and averaged out. Every issue during the period ends up with the same average cost.
Example: $500 on-hand (50 units) + $300 in new receipts (25 units) → $800 ÷ 75 = $10.67 per unit.
Who uses it: Companies that want to smooth out cost fluctuations within a period. If your purchase prices bounce around and you don't want your COGS swinging wildly from week to week, Weighted Average levels the playing field.
Weighted Average Date
The idea: Same calculation as Weighted Average, but the period is always exactly one day. Every day is its own little universe.
Same calculation as Weighted Average — the only difference is the period is always exactly 1 day.
Who uses it: Companies that want more precision in how they track cost over time, especially when prices vary a lot throughout a month.
The practical difference — illustrated: Using three October purchases at $10, $11, and $13:
| Oct 5 | Oct 15 | Oct 30 | |
|---|---|---|---|
| Actual Cost | $10.00 | $11.00 | $13.00 |
| Weighted Average | $11.33 | $11.33 | $11.33 |
| Weighted Average Date | $10.00 | $10.50 | $12.67 |
Weighted Average smooths everything to the same number for the whole period. Weighted Average Date steps through each day using yesterday as the starting point — so it reflects cost changes as they happen rather than averaging them all together at the end.
Moving Average
The idea: This one plays by different rules. Moving Average is a perpetual method, meaning it updates in real time — and it's based on the purchase receipt, not the invoice like all the other methods.
Example: 50 units on hand at $10 ($500 total) + new receipt of 25 units at $13 ($325) → $825 ÷ 75 = $11.00 new moving average.
If there's a difference between the purchase receipt cost and the eventual invoice cost, D365 F&O will proportionally capitalize that difference across your current on-hand inventory — or expense any remainder that can't be capitalized.
Who uses it: Organizations that want a running, perpetual view of inventory cost and don't need period-end settlements. It keeps things simple on a day-to-day basis.
Standard Cost
The idea: You define a cost. That's the cost. Everything — receipts, issues, whatever — is valued at the active standard cost you've set, regardless of what you actually paid.
Example: Standard cost is set at $10.00. A purchase comes in at $11.50 → the transaction posts at $10.00, and the $1.50 variance is posted to a variance account.
Who uses it: Manufacturers and companies with relatively stable, predictable input costs. Standard Cost is the gold standard (no pun intended) for environments where you want maximum predictability and the cost of maintaining it is low.
Does every method need an inventory close?
Short answer: no. But you should probably run it anyway.
- Methods that require recalculation and close to work properly: FIFO, LIFO, LIFO Date, Weighted Average, and Weighted Average Date.
- Methods that don't require it: Moving Average and Standard Cost.
But here's the thing — even if your method doesn't need it, there are still good reasons to run inventory close regularly:
- Microsoft recommends running it at least once per ledger period.
- It locks the period, which means no one can sneak in a retroactive value adjustment after the fact.
- If you ever want to use D365 F&O's inventory archiving feature, inventory close is required.
Clients who skip regular recalculation often see dramatic, unexplained swings in GL balances mid-month. Not a fun situation to explain.
Same data, wildly different results
Here's the part that surprises people: the frequency of your recalculation can change what your GL looks like throughout the month — even though the ending inventory value at month-end will be the same regardless.
Think about it this way. If you're using Weighted Average and only running close once a month, your GL won't reflect any cost adjustments until the end of the period. Run it weekly, and you'll see incremental adjustments every Saturday. Run it daily, and your GL stays current all month long.
This matters because it forces two questions:
- How often do you want cost adjustments hitting the GL?
- How frequently does your on-hand quantity for a given item drop to zero?
That second one is surprisingly important. When an item's quantity hits zero, the settlement chain resets. If that happens often, your method and recalculation frequency work together to determine how your costs flow.
So… how do you actually pick?
Here's the honest answer: there's no universally "best" method. The right choice depends on your industry, your products, your regulatory environment, and your finance team's appetite for complexity. Here's how the seven stack up at a glance:
| Method | Sequencing / basis | Needs close? | Best fit |
|---|---|---|---|
| FIFO | Oldest first, by financial date | Yes | Perishables; GAAP & IFRS |
| LIFO | Newest first, by transaction date | Yes | Rising costs; U.S. GAAP only |
| LIFO Date | Newest first, by financial date | Yes | Like LIFO, invoice-accurate |
| Weighted Average | Period pool average | Yes | Smoothing volatile costs |
| Weighted Average Date | Daily pool average | Yes | Daily cost precision |
| Moving Average | Perpetual, receipt-based | No | Real-time, simple operations |
| Standard Cost | Fixed active cost + variance | No | Manufacturing; stable inputs |
A few guardrails as you think it through:
Switching methods later is painful. FIFO, LIFO, LIFO Date, Weighted Average, and Weighted Average Date can be converted to any of the others. But Moving Average can only convert to Standard Cost, and Standard Cost can only convert to Moving Average. If you start in one of those two camps, your future flexibility is limited.
Your finance team has to actually understand the method. This isn't a "set it and forget it" situation. If your accountants can't explain why the inventory value changed after a recalculation, that's a problem — especially when auditors come calling.
Talk to your auditors before you finalize anything. Seriously. This is one of those decisions that looks easy on the surface and has a lot of downstream accounting implications. Get an expert in the room who understands both D365 F&O and your specific business before you lock in.
The bottom line
Inventory costing in D365 F&O is one of those topics that rewards the people who take the time to really understand it. The differences between methods might seem subtle — but they show up in your balance sheet, your income statement, and your tax filings. And the further you get into an implementation without getting this right, the harder it is to change course.
Pick the method that fits how your business actually works. Make sure your finance team can explain it. Run your recalculation and close with intention. And when in doubt, ask someone who has done this before.
Frequently asked questions
What inventory costing methods does D365 F&O support?
Seven: FIFO, LIFO, LIFO Date, Weighted Average, Weighted Average Date, Moving Average, and Standard Cost. The first five are periodic methods that rely on inventory recalculation and close to settle correctly. Moving Average and Standard Cost are perpetual methods that value transactions in real time and don't require an inventory close to work.
What's the difference between LIFO and LIFO Date?
Both settle the most recent receipts against issues first, so the math is identical. The difference is which date defines "most recent." LIFO sequences by the transaction date as of period end; LIFO Date sequences by the financial (invoice) date of the receipt. LIFO Date is generally considered closer to what accountants intend, because it uses the invoice date rather than the order transactions were created in the system.
Does every D365 costing method require an inventory close?
No. FIFO, LIFO, LIFO Date, Weighted Average, and Weighted Average Date require recalculation and close to work properly; Moving Average and Standard Cost don't. Even so, Microsoft recommends running inventory close at least once per ledger period — it locks the period against retroactive adjustments and is required to use inventory archiving. Skipping regular recalculation often produces unexplained mid-month swings in GL balances.
Can I change my costing method later?
Switching is painful and constrained. FIFO, LIFO, LIFO Date, Weighted Average, and Weighted Average Date can be converted to any of the others. But Moving Average can only convert to Standard Cost, and Standard Cost can only convert to Moving Average. If you start in either of those two camps, your future flexibility is limited — choose with that constraint in mind.
What's the difference between Weighted Average and Moving Average?
Weighted Average is periodic: all receipts in the period are pooled and averaged, and every issue in the period ends up at the same average cost after recalculation and close. Moving Average is perpetual — it recalculates the average in real time on each receipt and is based on the purchase receipt rather than the invoice. Weighted Average needs a close to settle; Moving Average does not.
Caf2Code implements and tunes Dynamics 365 Finance & Operations inventory costing across manufacturing, distribution, and retail clients. If you're not sure your costing method fits your business — or your recalculation and close are producing numbers no one can explain — we can help you find out why.