Inventory Valuation

Objective:

A primary issue in accounting for inventories is the determination of the value at which inventories are carried in the financial statements.

What is Inventory?Inventory are the tangible property of a firm

Held for resale or to be consumed in the production of goods or services for sale.

Regular income is generated by selling of these inventories.

Their valuation and proper recording is important task.

Classification of Inventories

Raw Materials

Stores and Spares

Work in Progress

Finished Goods

Inventory Control

Procurement

Storage

Maintenance

Use

Handling

Aim of Inventory Control

Execution of production schedule

Timely availability of right kind of material

At right production location

Process of purchase

Setting the specification(Quality parameters)

Inviting Bids(selection of vendor)

Placing the order

Inventory Control ActivitiesReceiving

Quality Checking

Storage

Record Keeping

Issue

Stock audit

Steps in Physical Verification of InventoryPreparation of stock taking instruction (used by verification staff)

Sub division of inventory items into different groups

Preparation of inventory tags (with serial no.)

Name of inventory itemCode number of itemQuantity Location Verification dateVerifiers’ name Signature of verifier

Preparation of item wise consolidated inventory sheets

Reconciliation of physical count/quantity with the quantity disclosed by accounting records

Finding out the discrepancy, if any and recounting

If discrepancy still persist :Reporting discrepancy to higher management

Shortage as disclosed and untracked stock as either normal or abnormal wastage

Bases of Inventory ValuationValue of unsold stock – Cost or market Price whichever is less (Conservative Principle)

Different methods of valuation of Inventory.

One method suitable for a particular situation may not be suitable for another.

When a method is chosen, it is advisable to continue such method consistently from year to year.

System for Inventory Valuation

Perpetual /Continuous System

Periodic System

Continuous System

Stock register is maintained on an ongoing basis

Every purchase and issue/sales of the inventory - entered in this book as it takes place

Cost of items consumed/ sold, cost of remaining inventory.

Date Receipts Issues Balance Qty Rate Amt. Qty Rate Amt. Qty Rate Amt.

Periodic System

No stock register is maintained.

Valuation of closing inventory is done at the end of a particular period.

Entry of each and every receipt and issue is not maintained on ongoing basis.

Methods of Inventory Issue pricing

First In First Out Method

Last In First Out Method

Simple Average Method

Weighted Average Method

Scope of Accounting Standard – 2

Applies to all types of Inventories except:

Work in Progress arising out of construction contracts

Work in Progress arising in the ordinary course of business of service providers

Shares, debentures and other financial instruments

Live stock, agricultural and forest products.

Cost of inventory:

Cost of purchase

Cost of conversion/production

Any other cost incurred for bringing the inventories to the saleable condition

Cost of purchase:

Purchase cost includes :

Cost of inventory (R/M, WIP, Fin Goods)Purchase CommissionQuality testing costCarriage inwardTaxes levied on these items

Cost of Conversion/ Production:

Cost of converting Raw material into semi finished or finished goods

Direct and indirect cost factory levelDirect and indirect material costDirect and indirect labourFixed as well as variable overheads

Inventory valuation rules:

Finished goods - To be valued at lower of cost or market value

Raw Material - To be valued on FIFO or weighted average method

e.g.Date Purchased

QtyRate /unit Date Issue qty

02/01/07 10,000 100 15/01/07 8,500

21/01/07 7,000 95 28/01/07 3,500

31/01/07 2,200 96 21/02/07 7,000

10/0207 800 100 02/03/07 800

15/03/07 6,200 101 29/03/07 4,400