INVENTORY

Inventory valuation methods

Estimating ending inventory

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 INVENTORY
DEFINITION

IAS 2, [Paragraph 4]
Inventories are assets:
held for sale in the ordinary course of business;
in the process of production for such sale or;
in the form of material or supplies to be
consumed in the production process or in the
rendering of services

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 INVENTORY VALUATION METHODS
Specific identification method
(Weighted) average cost method
Fist-in, First-out [FIFO]
Last-in, First-out [LIFO]
Standard cost????

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 ILLUSTRATION

Number of Cost per Total

units unit cost
Beginning inventory, 1 Jan . 100 $ 80 $ 8,000
First purchase, 1 Mar ......... 50 90 4,500
Second purchase, 1 Jul........ 50 100 5,000
Third purchase, 1 Oct ......... 50 120 6,000
Fourth purchase, 1 Dec....... 50 130 6,500
Available for sale ............... 300 $30,000
Units sold ............................. 180
Units in ending inventory ... 120

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 INVENTORY VALUATION METHODS
SPECIFIC INDENTIFICATION

Application
Items with high price and traded in low volume
Each item is different from others
Characteristics
Purchase and sale is recorded separately for each item
Each item of inventory has its own value
Disadvantages
Not suitable for inventory with large volume of
identical items

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 SPECIFIC IDENTIFICATION
ILLUSTRATION

Assume that ending inventory includes items as below

50 units from the purchase of Mar. 1 @ $90 ............... $4,500
40 units from the purchase of Jul. 1 @ $100 ............... 4,000
30 units from the purchase of Dec. 1 @ $130 ............. 3,900
Ending inventory (specific identification) .............. $12,400

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 INVENTORY VALUATION METHODS
WEIGHTED AVERAGE COST

Simple; easy to apply

Suitable for inventory consists of physically
identical items

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 WEIGHTED AVERAGE COST
ILLUSTRATION

Cost of goods available for sale .................................. $30,000

Number of units available for sale .............................. 300

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 INVENTORY VALUATION METHODS
FIRST-IN, FIRST-OUT

Based on first acquired, first sold assumption

Characteristics
Inventory consists of the most currently bought goods
Inventory value is closest to the replacement cost
Flow of cost is parallel to the flow of physical
inventory
When prices rise FIFO leads to lower reported COGS
and higher reported net income
Suitable for goods easily deteriorate or become
obsolete
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 FIRST-IN, FIRST-OUT
ILLUSTRATION

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 INVENTORY VALUATION METHODS
LAST-IN, FIRST-OUT

Last purchased, first sold assumption

Characteristics
Inventory consists of the “oldest” items
COGS represents most closely current cost in the
market
In a period of rising price it leads to lowest
reported net income

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 LAST-IN, FIRST-OUT
ILLUSTRATION

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 BASES OF INVENTORY VALUATION
Acquisition [historical] cost
Current cost basis
Replacement cost [Entry value]
Net realizable value [Exit value]
Lower-of-Cost-or-Market basis
Standard cost

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LOWER-OF-COST-OR-MARKET VALUE RULE

Item Quantity Unit cost Total cost Lower of cost

Cost Market Cost Market or market
A 10 100 90 1,000 900 900
B 8 200 225 1,600 1,800 1,600
C 50 50 60 2,500 3,000 2,500
D 80 90 70 7,200 5,600 5,600
Total 12,000 11,300 10,600

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 INVENTORY VALUATION METHODS
PRACTICE

IAS 2
Benchmark treatment: FIFO or Weighted Average
Cost
Alternative treatment: LIFO, then the difference
should be disclosed
AASB 1019
LIFO is not allowed
ARB no.43 [chapter 4]
FIFO, Average, or LIFO

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 INVENTORY SYSTEMS
PERIODIC VS. PERPETUAL SYSTEMS

Affect the way the inventory being kept track

Affect the organization of accounting records
Do they come up with the same reported
information [Cost of goods sold, profit, etc.]

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 INVENTORY SYSTEMS
THE COMPARISON

Treatment of “Inventory account”

Accounts used?
Closing procedures and accounts?
Physical count?
Calculation of cost of goods sold
Application
Recording?
Information provided?
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 MYOB
PERIODIC OR PERPETUAL

Both possible under MYOB

Periodic
select I Sell this Item in Item List IS ENOUGH
use this for practice set ?
Perpetual
select I Buy, I Sell, I Inventory this Item in Item
List

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 MYOB
periodic vs. perpetual inventory system

How different are the two systems?

Accounts linked to “inventory account”
And the cost of sales?
Purchases affect inventory module?

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 M.Y.O.B – The Assignment
Inventory
Decide the Inventory system for the
assignment
What does your decision affect your work
Design of COA
Recording of transactions both daily and month-
end transactions

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 M.Y.O.B – The Assignment
Inventory
Inventory module
Register the stock items in
Notice for those who choose Perpetual
inventory system
Setup procedures?
Linked accounts?
Importance of setup opening balances of stock
items?

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 M.Y.O.B – The Assignment
sales module
Sales module
Links with other modules/accounts
Underlying procedures
Sale invoice
All sales either credit or cash sales need an
invoice
Underlying procedures in recording and
settlement of invoices

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 M.Y.O.B – The Assignment
Sales – setup of the system

COA design with different inventory systems

What accounts?
Treatment of sale discounts [discount] given
What are the effects of inventory setup upon
transactions in sales module?

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 M.Y.O.B – The Assignment
sales module
Recording of sales
Payment made by the customers
Sales module or checkbook?
Effect on the status of invoices

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 M.Y.O.B – The Assignment
GST – the tax component

The nature of GST

The effect of GST
Upon the recording of transactions
Underlying procedures

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 M.Y.O.B – The Assignment
sales module

Cash sales
Different from credit sales in recording?
Ways to record cash sales

Credit notes
Nature of issuing credit memo
Procedures in M.Y.O.B
• Accounts to allocate
• How about cash refund?
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 M.Y.O.B – The Assignment
purchase module

Most procedures are as the same in sales module

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