Valuation of Inventories

Inventory or Stock

Inventories
 Are unconsumed and unsold goods purchased or
manufactured.
 Are held for Resale in the ordinary course of business.
 Nature of Enterprises

• Manufacturing
Converts Raw material to finished product
• Merchandising
Sells goods in same form of being bought
• Service
Provide intangible services
For a Manufacturing Enterprise
Inventory can be

Raw material
or Components

Work in Progress

Finished Goods
Valuation of Inventory
has a significant bearing on the
Financial Statements .

Objectives:
1. Income Determination
2. Ascertainment of Financial
Position
3. Liquidity Analysis
4. Legal Compliance
 Cost of Goods
available for Sale
(100XRs.20)

Cost of
Closing
Goods
Inventory
Sold
(20XRs.20)
(80XRs.20)

INCOME
STATEMEN BALANCE
T SHEET
(Rs.1600) (Rs.400)
 Income Estimate

Sales Revenue
Less : Cost of Goods Sold
Opening Inventory
+Purchases
- Closing Inventory
Gross Profit / Loss
Impact of Inventory Valuation

= Opening Stock
Cost of + Purchases
Goods
Sold
+ Direct Expenses
– Closing Stock
 Inventory Valuation
and Income Determination

Closing Inventory is overstated,

net income is overstated

Closing Inventory is understated,

net income is understated

Opening Inventory is overstated,

net income is understated

Opening Inventory is understated,

net income is overstated
Methods of Inventory Valuation

• First in First Out • Standard Cost

• Last in First Out
• Next in First Out
• Highest in First Out
• Specific Identification
Method
• Adjusted Selling Price
• Latest Purchase price
• Next in First Out
• Highest in First Out
Inventory Valuation
 FIFO & LIFO Methods

FIFO Assumption
Goods bought First are issued First.
Thus, latest bought are part of closing inventory

LIFO Assumption
Goods bought Last are issued First.
Thus, earliest bought are part of closing inventory
Akash Company purchases following:
1. One item on 2/2/10 for Rs.10
2. One item on 15/2/10 for Rs.15
3. One item on 25/2/10 for Rs.20
Company sells one item on 28/2/10 for Rs.90. What
would be the balance of ending inventory and cost of
goods sold for the month ended Feb. 2010, assuming the
company used the FIFO& LIFO.
Inventory Balance Given
= Rs.45 Akash Company
Income Statement
For Feb. 2010

Purchase Sales Rs. 00

25/2/10 for Rs.20 COGS 0
Gross profit 00
Expenses: 00
Purchase
Income 00
15/2/10 for Rs.15

Purchase
2/2/10 for Rs.10
 First-In-First-Out (FIFO)
Inventory Balance
Akash Company
= Rs.35
Income Statement
For Feb. 2010

Sales Rs. 90
Purchase COGS 10
on 25/2/10 for Rs.20
Gross profit 80
Expenses: 30
Income 50
Purchase
on 15/2/10 for Rs.15

Purchase
on 2/2/10 for Rs.10
 Last-In-First-Out (FIFO)

Inventory Balance = Rs.25

Akash Company
Income Statement
For Feb. 2010

Sales Rs. 90
Purchase COGS 20
25/2/10 for Rs.20 Gross profit 70
Expenses: 30
Income 40
Purchase
15/2/10 for Rs.15

Purchase
2/2/10 for Rs.10
Question:
A Cotton Mill provided the following
information
1.1.08 Opening Stock 100 units @ Rs.2
2.1.08 Purchased 400 units @ Rs .1.50
3.1.08 Issued 450 units
4.1.08 Purchased 500 units @ Rs. 2.50
5.1.08 Issued 300 units .
Compute Value of Inventory on FIFO ,
LIFO.
Date Receipt Issued Balance
Q R A Q R A Q R A FIFO
1 100 2 200
2 400 1.5 600 100 2 200
400 1.5 600
3 100 2 200
350 1.5 525 50 1.5 75
4 500 2.5 1250 50 1.5 75
500 2.5 1250
5 50 1.5 75
250 2.5 625
250 2.5 625
Date Receipt Issued Balance
Q R A Q R A Q R A LIFO
1 100 2 200
2 400 1.5 600 100 2 200
400 1.5 600
3 400 1.5 600
50 2 100 50 2 100
4 500 2.5 1250 50 2 100
500 2.5 1250
5 300 2.5 750
50 2 100
200 2.5 500
Difference FIFO LIFO
Goods Received First Received Last
Received Issued First Issued First

COGS Cost of Earlier Cost of Recent

Represent Purchases Purchases

Stock Recent Purchases Earlier Purchases

Consists of
Inflation & Higher Lower
Income
 Average Price Method

Assumption:
Each issue of goods consists of a due proportion of the
earlier lots and is valued at Average Price.

P1+P2+P3
AP = 3
 Average Price Method
Inventory Balance Akash Company
Income Statement
= Rs.30 For Feb. 2010

Sales Rs. 90
Purchase 25/2/10 for COGS 15
Rs.20 Gross profit 75
Expenses: 30
Income 45
Purchase 20+15+10= 45/3 = Rs.15
15/2/10 for Rs.15
Both COGS & inventory
is valued at AP

Purchase
2/2/10 for Rs.10
 Weighted Average Price Method

Assumption:
Each issue of goods consists of a due proportion
of the earlier lots and is valued at Weighted
Average Price.

Total Cost of Goods in Stock

WAP = Total Quantity of Goods in Stock
 Date Quantity Rate Rs. Cost Rs.

June ,1 100 2 200

June, 5 200 2.5 500
June ,10 200 3 600

Total 500 2.60 1300

June ,11 200 2.60 520
Stock 300 2.60 780

UED WAP = 1300 / 500 = Rs.2.60

I SS
Advantage of WAP Method

It Average outs the effect of price fluctuations

But fails to work for job order industry.

 Inventory Record Systems

Periodic Inventory
Perpetual Inventory
Value of inventory is found Inventory is recorded after
out only at the end of the every Receipt & Issue
accounting period after
physical verification.
 Periodic Perpetual
Ascertaining inventory by Recording inventory after each
actual counting on a receipt and issue.
particular date. Closing Stock
COGS=OS =OS
+Purchases +Purchases
- Closing Stock -COGS
 Periodic
• COGS Include Losses
• Inventory through
actual count.
• Does not facilitates
continuous stock checking
Perpetual
• Inventory includes Loss of
goods
• Inventory as per Records.
• Facilitates continuous stock
checking.
Question:
X ltd. maintains inventory records under
Periodic System of inventory .
Consider the following data for the month of
March 2006.
Date Particulars Quantity Cost per Unit
1 Op. Bal 15 Rs. 400
4 Purchases 20 Rs. 450
6 Purchases 10 Rs. 460
Find value of inventory
under FIFO & LIFO Methods if 32 units
are sold during the month of March.
Total Goods available for Sale during MARCH

Quantity Unit price Total (Rs.)

15 X 400 6000
20 X 450 9000
10 X 460 4600
45 19600
Inventory 45 – 32 = 13 units

FIFO 10 X 460 = 4600

3 X 450 = 1350 = Rs.5950
Total Goods available for Sale during MARCH

Quantity Unit price Total (Rs.)

15 X 400 6000
20 X 450 9000
10 X 460 4600
45 19600
Inventory 45 – 32 = 13 units

LIFO 13 X 400 = Rs. 5200

 Special Considerations

When physical inventory is taken on a date prior to the date of

Balance Sheet

Value of physical inventory taken

+ Purchases
- Sales Returns
= Value of inventory on the date of
Balance Sheet
When physical inventory is taken on a date after the
date of Balance Sheet

Value of physical inventory taken

- Purchases
+ Sales
= Value of inventory on date of
Balance Sheet
Reasons for difference in stock as per books & as
per physical verification

 Goods sold but not delivered

or vice versa
 Goods bought but not received
or vice versa
 Returns inward received but not recorded
or vice versa
 Returns outward sent but not recorded
or vice versa
 Accounting Standard -2

Inventories are Tangible Assets

held for sale in the ordinary course
of business
 in the process of production for
such sale ,or
 to be consumed in the production
of goods or services for sale.
 Other terms as Per AS-2

Net Realisable Value

Estimated Selling Price in the ordinary course of

business less estimated cost of completion and the
estimated cost necessary to make the sale.
 Cost of Inventory

Cost of Purchase
+ Cost of conversion
+other cost incurred in bringing
the inventories to their present
location and condition.
 AS-2 Requirements

Goods or Services which can be segregated for specific

projects should be assigned with specific identification
of their individual Costs.
For other, FIFO or Weighted Average Cost

Formula used should reflect the fairest possible

approximation to the cost.

Disclosure of Accounting Policy.

Basis of Inventory Valuation

Cost or Net Realisable Value

Which ever is less.

Cost : Expenditure incurred on
Acquisition of goods.
NRV : Estimated Selling Price
MINUS
Estimated expenses to make the sale.