CHAPTER

INVENTORIES

LEARNING OUTCOMES

After studying this chapter, you will be able to:

♦ Understand the meaning of term 'Inventory'.

♦ Learn the technique of Specific Identification Method, FIFO, Average
Price, Weighted Average Price and Adjusted Selling Price methods
of inventory valuation.
♦ Understand the methods of inventory record keeping and
comprehend the intricacies relating to Inventory taking.

© The Institute of Chartered Accountants of India

 1.2 ACCOUNTING
4.2

CHAPTER OVERVIEW

Types of Inventory

In case of Manufacturing concerns In case of Trading concerns

Raw Work -in- Finished Stores and Packing Traded

Materials progress Goods Spares Material Goods

Methods for Determining Cost of Inventory

Inventory Valuation Techniques

Historical Cost Non-Historical

Methods Cost Methods

Inventory, not ordinarily Inventory, ordinarily Adjusted

Interchangeable Interchangeable Selling Price

Specific Identificaion Weighted

FIFO LIFO
Method Average Price

Basis of Inventory Valuation

Cost Net realisation Value

Whichever is less

© The Institute of Chartered Accountants of India

 INVENTORIES 4.3

1. MEANING
Inventory can be defined as assets held
♦ for sale in the ordinary course of business, or
♦ in the process of production for such sale, or
♦ for consumption in the production of goods or services for sale, including maintenance
supplies and consumables other than machinery spares, servicing equipment and
standby equipment.
There can be different types of inventory based on nature of business of an enterprise. The
inventories of a trading concern consist primarily of products purchased for resale in their
existing form. It may also have an inventory of supplies such as wrapping paper, cartons, and
stationery. The inventories of manufacturing concern consist of several types of inventories:
raw material (which will become part of the goods to be produced), work-in-process (partially
completed products in the factory) and finished products. In manufacturing concerns
inventories will also include maintenance supplies, consumables, loose tools and spare parts.
However, inventories do not include spare parts, servicing equipment and standby equipment
which can be used only in connection with an item of fixed asset and whose use is expected
to be irregular; such machinery spares are generally accounted for as fixed assets. Similarly, in
an enterprise engaged in construction business, projects under construction are also
considered as inventory.
At the year-end (or any period for which books are closed) every business entity needs to
ascertain the closing balance of Inventory which comprise of Inventory of raw material, work-
in-progress, finished goods and other consumable items. Value of closing Inventory is put at
the credit side of the Trading Account and asset side of the Balance Sheet. So, before
preparation of final accounts, the accountant should know the value of Inventory of the
business entity. However, we shall restrict our discussion on inventory valuation of a
manufacturing concern and goods of a trading concern.

2. INVENTORY VALUATION
A primary issue in accounting for inventories is the determination of the value at which
inventories are carried in the financial statements until the related revenues are recognized.
Inventory is generally the most significant component of the current assets held by a trading
or manufacturing enterprise. It is widely recognized that inventory is one of the major assets
that affects efficiency of operations. Both excess of inventory and its shortage affects the
production activity, and the profitability of the enterprise whether it is a manufacturing or a
trading business. Proper valuation of inventory has a very significant bearing on the

© The Institute of Chartered Accountants of India

 1.4 ACCOUNTING
4.4

authenticity of the financial statements. The significance of inventory valuation arises due to
various reasons as explained in the following points:
(i) Determination of Income
The valuation of inventory is necessary for determining the true income earned by a
business entity during a particular period. To determine gross profit, cost of goods
sold is matched with revenue of the accounting period. Cost of goods sold is calculated
as follows:
Cost of goods sold = Opening inventory + Purchases + Direct expenses - Closing
inventory.
Inventory valuation will have a major impact on the income determination if
merchandise cost is large fraction of sales price. The effect of any over or under
statement of inventory may be explained as:

If the value of…… Then net income will be…..

Closing inventory overstated Overstated

Opening inventory overstated Understated

Closing inventory understated Understated

Opening inventory understated Overstated

The effect of misstatement of inventory figure on the net income is always through
cost of goods sold. Thus, proper calculation of cost of goods sold and for that matter,
proper valuation of inventory is necessary for determination of correct income.
(ii) Ascertainment of Financial Position
Inventories are classified as current assets. The value of inventory on the date of
balance sheet is required to determine the financial position of the business. In case
the inventory is not properly valued, the balance sheet will not disclose the truthful
financial position of the business.
Usually, slow-moving or non-moving inventory is the basic reason for poor financial
performance as well as financial position of an enterprise. To identify such items, the
first step is to value the inventory in the appropriate manner.
(iii) Liquidity Analysis
Inventory is classified as a current asset, it is one of the components of net working
capital which reveals the liquidity position of the business. Current ratio which studies
the relationship between current assets and current liabilities is significantly affected
by the value of inventory. Bankers rely on the current ratio which is denoted as current

© The Institute of Chartered Accountants of India

 INVENTORIES 4.5

assets divided by current liabilities. If inventory is a major part of the current assets
then, naturally, the next set of questions that arise would be:
a) Whether the inventory is properly valued based on consistently applied
principles?

b) Are there any items of inventory that are either slow-moving or non-moving ?
c) How often an external auditor has verified the inventories to make the valuation
reliable?
Studies have shown that poor management of inventories, is one of the reasons of
losses of small manufacturing enterprises which eventually leads to shutting down of
such business units.
(iv) Statutory Compliance
Schedule III to the Companies Act, 2013 requires valuation of each class of goods
i.e. raw material, work-in-progress and finished goods under broad head to be
disclosed in the financial statements. As per the requirements of the Accounting
Standards, the financial statements should disclose:
(a) the accounting policies adopted in measuring inventories, including the cost
formula used, and
(b) the total carrying amount of inventories and its classification appropriate to the
enterprise.
The common classification of inventories are raw materials; work-in-progress; finished
goods; stores-in-trade (in respect of goods acquired for trading) and spares and loose
tools.

3. BASIS OF INVENTORY VALUATION

Inventories should be generally valued at the lower of cost or net realizable value. This
principle is governed by ‘Principle of Conservative Accounting’ under which any expenses or
losses from transactions entered or event occurred are to be recognized immediately,
however, any gains or profits are not recognized until it becomes due or are actually realized.
Under the principle of ‘lower of cost or net realizable value’ any loss due to decrease in sales
price of the inventory below its cost is recognized immediately as it is anticipated that the
enterprise will make losses whenever it will sell.

© The Institute of Chartered Accountants of India

 1.6 ACCOUNTING
4.6

Cost: As per Accounting Standards, Cost of inventories should comprise

1. all cost of purchase,
2. costs of conversion (primarily for finished goods and work - in progress) and
3. other costs incurred in bringing the inventories to their present location and condition.
Cost of purchase consist of purchase price including duties and taxes (other than those
subsequently recoverable by the enterprise from the taxing authorities), freight inwards and
other expenditure directly attributable to the acquisition. Trade discounts, rebates, duty
drawbacks and other similar items are deducted in determining costs of purchase. In other
words, cost includes any amount paid to the seller reduced by any discounts/rebates given by
the seller. Similarly, any duties paid to the supplier will be part of cost of the inventory unless
the enterprises can recover these taxes duties from the authorities.

For example- Raw material required for making a product is bought at `100 per unit plus GST
at 18%. 100 units of raw material are bought.
So, the amount that needs to be paid is `100 x 100 units = `10,000+GST at 18% = `11,800/-
However, since the GST on purchase is available as credit, it won’t be counted as the cost of
purchase. Hence, the cost of purchase will be `10,000 only and not `11,800/-
Costs of conversion of inventories include costs directly related to the units of production,
such as direct labour. They also include a systematic allocation of fixed and variable overheads.
Continuing the above example – for the conversion of 100 units of raw material into finished
goods, direct labour cost incurred is `3,000. Then, the cost of conversion will be `3,000 and
thus the value of inventory at this stage is `13,000 (for 100 units)
Other Costs may include administrative overheads incurred to bring the inventory into
present location and condition or any cost specifically incurred on inventory of a specified
customer. Interest and other borrowing costs are generally not included in the cost of
inventory. However, in some circumstances where production process is longer and it is
required to carry inventory for a long period e.g. wine, rice and timber it may be appropriate
to consider interest and other borrowing cost also part of cost of inventory.
In the same example let us assume that `200 is paid as unloading charges for the raw material
from the truck to the storage place in the factory, in that case `200 shall NOT be accounted
as unloading charges separately as expenses, but shall be accounted as other costs to bring
the inventory to present location. And hence the cost of inventory of 100 units at this stage
shall be `13,200/-

© The Institute of Chartered Accountants of India

 INVENTORIES 4.7

Exclusions from cost of inventories: Following expenses are generally not included in the
costs of inventories:

(a) abnormal amounts of wasted materials, labour or other production overheads:

(b) storage costs, unless those costs are necessary in the production process prior to
further production stage;

(c) administrative overheads that do not contribute to bringing the inventories to their
present location and condition; and
(d) selling and distribution costs

Brief explanation about the exclusions from the cost of inventories:

(a) Normal wastage of material or labour cost is included in the cost of inventory.
However, abnormal wastage is excluded for the reason that it occurs either due to
inefficiency or abnormal factors that won’t justify considering those wastages as part
of inventory cost.
(b) Storage costs are normally the cost of doing business. For example, rent of warehouse
or storage area is considered as overheads already and hence not considered as cost
of inventory. However, if special storage is required as part of the production process,
then such storage cost is considered as cost of inventory. For example, in wine making
process, requires the raw material is stored in a particular condition for fermentation
for a long time (usually years together), such cost of storage is accounted as cost of
inventory.
(c) Administrative overheads do not usually add any specific value to inventories and
hence excluded.
(d) Selling and distribution costs are part of selling and general administration costs and
hence excluded.
Net realizable value: This is the estimated selling price in the ordinary course of business less
the estimated costs of completion and the estimated costs necessary to make the sale. In case
of finished goods and traded goods net realizable value will generally mean selling price which
is reduced by selling and distribution expenses. In case of work in progress, expenses and
overheads required to be incurred to convert work -in progress into finished goods and
making it ready for sale will also be reduced from selling price. In case of raw materials,
replacement cost is generally considered as net realizable value.
An assessment is made of as at each balance sheet date. Inventories are usually written down
to net realizable value on an item-by-item basis. In some circumstances, however, it may be
appropriate to group similar or related items e.g. in case of interchangeable items it may not
be possible to identify cost and net realizable value of each item separately.

© The Institute of Chartered Accountants of India

 1.8 ACCOUNTING
4.8

4. INVENTORY RECORD SYSTEMS

There are two principal systems of determining the physical quantities and monetary value of
inventories sold and in hand. One system is known as ‘Periodic Inventory System’ and the
other as the ‘Perpetual Inventory System’. The periodic system is less expensive to use than
the perpetual method. But the useful information obtained from perpetual system is more
than cost incurred on it. These systems are distinguished on the basis of the actual records
kept to ascertain the cost of goods sold and the closing inventory valuations.

4.1 Periodic Inventory System

Periodic inventory system is a method of ascertaining inventory by taking an actual physical
count (or measure or weight) of all the inventory items on hand at a particular date on
which inventory is valued. It is because of actual physical count that the system is also called
physical inventory system. The cost of goods sold is determined as shown below:

Closing Cost of
Opening
Purchases inventory
inventory
(known) (physically
goods
(known) sold.
counted)

Periodic inventory system is simple and less expensive than the perpetual system. In this
system, inventory account is adjusted at the end of the accounting period to determine cost
of goods sold. This system suffers from various limitations:
(i) Physical inventory taking is required more than once a year for preparation of quarterly
or half yearly financial statements thereby making this system more expensive.
(ii) Physical count of goods requires closure of normal operations of business.
(iii) As cost of goods sold is taken as residual figure, it is not possible to identify loss of
goods due to pilferage, damage or even fraud.
(iv) Inventory control is not possible under this system.
(v) Books of accounts does not reflect inventory in hand and its value therefore, it is
difficult to plan operations e.g. how much or when to order/manufacture.
This system is used by small enterprises where it is easy to control physical inventory. This
system is not considered suitable for medium or larger enterprises which generally use
Perpetual Inventory system.

© The Institute of Chartered Accountants of India

 INVENTORIES 4.9

4.2 Perpetual Inventory System

Perpetual inventory system is a system of recording inventory balances after each receipt
and issue. In order to ensure accuracy of perpetual inventory records, physical inventory
should be checked and compared with recorded balances. Under this system, cost of goods
issued is directly determined and inventory of goods is taken as residual figure with the help
of inventory ledger in which flow of goods is recorded on continuous basis. The basic feature
of this system is the maintenance of inventory ledger to have records of goods on continuous
basis. Under perpetual inventory system, closing inventory is determined as follows:

Purchases Cost of Closing

opening
during Goods Stock(bal
inventory(
known)
the period Sold ancing
(known) (Known) figure)

Perpetual inventory system helps to overcome the limitations of periodic system. As inventory
is taken as residual figure, it includes loss of goods. However, the main limiting factor is the
high cost of using this system.

4.3 Distinction between Periodic Inventory System and Perpetual

Inventory System
Both the systems - Periodic Inventory System and Perpetual Inventory System are not mutually
exclusive and complementary in nature. Distinction between both the systems can be
explained as follows:

S. Periodic Inventory System Perpetual Inventory System

No.
1. This system is based on physical It is based on book records.
verification.
2. This system provides information It provides continuous information about
about inventory and cost of goods inventory and cost of sales.
sold at a particular date.
3. This system determines inventory and It directly determines cost of goods sold
takes cost of goods sold as residual and computes inventory as balancing
figure. figure.

© The Institute of Chartered Accountants of India

 1.10 ACCOUNTING
4.10

4. Cost of goods sold includes loss of Closing inventory includes loss of goods as
goods as goods not in inventory are all unsold goods are assumed to be in
assumed to be sold. Inventory.
5. Under this method, inventory control Inventory control can be exercised under
is not possible. this system.
6. This system is simple and less It is costlier method.
expensive.
7. Periodic system requires closure of Inventory can be determined without
business for counting of inventory. affecting the operations of the business.

5. FORMULAE/METHODS TO DETERMINE COST OF

INVENTORY
5.1 Historical Cost Methods
There is no unique formula for determination of historical cost of inventories. The different
techniques for valuation of inventory have been discussed below:
(i) Specific Identification Method
Pricing under this method is based on actual physical flow of goods. It attributes specific costs
to identified goods and requires keeping different lots purchased separately to identify the
lot out of which units in inventories are left. The historical costs of such specific purpose
inventories may be determined on the basis of their specific purchase price or production
cost.
This method is generally used to ascertain the cost of inventories of items that are not
ordinarily interchangeable and their value is high like expensive medical equipment, otherwise
it requires the use of FIFO (First in first out) or weighted average price/average price formula.
ILLUSTRATION 1
Surekha Ltd deals in 3 products P, Q & R, which are neither similar nor interchangeable. At the
end of a financial year, the Historical Cost and NRV of items of Closing Stock are given below.
Determine the value of Closing Stock.

Items Historical Cost (in ` Lakhs) Net Realisable Value (in `

Lakhs)
P 38 42
Q 29 29
R 17 14

© The Institute of Chartered Accountants of India

 INVENTORIES 4.11

SOLUTION
Inventories are to be valued at the lower of cost and Net Realisable Value (NRV). Inventories
are usually written down to NRV on an item-by-item basis. The Value of Closing Stocks is
determined as under:

Items Historical Cost Net Realisable Value Valuation = Least of

(in ` Lakhs) (in ` Lakhs) Cost or NRV

P 38 42 38

Q 29 29 29

R 17 14 14

Total 81

(ii) FIFO (First in first out) Method

This method is based on the assumption that cost should be charged to revenue in the order
in which they are incurred, that is, it is assumed that the issue of goods is usually from the
earliest lot on hand. The inventory of goods on hand therefore, consists of the latest
consignments. Thus, the closing inventory is valued at the price paid for such consignments.

The FIFO formula assumes that the items of inventories which were purchased or produced
first are consumed or sold first and consequently items remaining in the inventory at the end
of the period are those most recently purchased or produced. This assumption is in line with
the good business practice to disposing goods in the order of their acquisition especially in
the case of perishable goods and items with frequent technological changes. It must be kept
in mind that this assumption of cost flow or goods flow need not be true as a physical fact i.e.
not necessary goods are physically also sold or issued in the chronological order of their
purchase or production. It relates only to the method of accounting and not to the actual
physical movement of goods.
Now, let us take an example to understand the application of FIFO method.
ILLUSTRATION 2
A manufacturer has the following record of purchases of a condenser, which he uses while
manufacturing radio sets:

Date Quantity (units) Price per unit

Dec. 4 900 50
Dec. 10 400 55

© The Institute of Chartered Accountants of India

 1.12 ACCOUNTING
4.12

Dec. 11 300 55
Dec. 19 200 60
Dec. 28 800 47
2,600

1,600 units were issued during the month of December till 18th December. Calculate the value
of closing inventory.
SOLUTION
The closing inventory is 1,000 units and would consist of:
800 units received on 28th December; and
200 units received on 19th December as per FIFO

The value of 800 units @ ` 47 37,600

The value of 200 units @ ` 60 12,000

Total 49,600

(iii) LIFO (Last in first out) Method

As the name suggests, the LIFO formula assigns to cost of goods sold, the cost of goods that
have been purchased last though the actual issues may be made out of the earliest lot on
hand to prevent unnecessary deterioration in value. The closing inventory then is assumed to
consist of earlier consignments and its value is then calculated according to such
consignments. Under this basis, goods issued are valued at the price paid for the latest lot of
goods on hand which means inventory of goods in hand is valued at price paid for the earlier
lot of goods. In the absence of details of issue, the price paid for the earliest consignments is
used for valuing closing inventory. LIFO method is based on the principle of matching current
cost with current revenue as cost of recently purchased or produced goods are charged to
cost against each sale. The cost of goods sold under this method represents the cost of recent
purchases resulting that there is better matching of current costs with current sales.

© The Institute of Chartered Accountants of India

 INVENTORIES 4.13

ILLUSTRATION 3
In the previous example assume that following issues were made during the month of December:
Record of issues

Date Quantity (units)

Dec. 5 500
Dec. 20 600
Dec. 29 500
Total 1,600

SOLUTION
Computation of closing stock under perpetual inventory system
Using LIFO method, following will be stock ledger:

Date Receipts Issues Balance inventory

Dec. Qty. Rate Amount Qty Rate Amount Qty. Rate Amount
4 900 50 45,000 - - - 900 50 45,000
5 - - - 500 50 25,000 400 50 20,000
10 400 55 22,000 - - - 400 50 20,000
400 55 22,000
11 300 55 16,500 - - - 400 50 20,000
400 55 22,000
300 55 16,500
19 200 60 12,000 - - - 400 50 20,000
400 55 22,000
300 55 16,500
200 60 12,000
20 - - - 200 60 12,000
- - - 300 55 16,500
- - - 100 55 5,500 400 50 20,000
300 55 16,500
28 800 47 37,600 - - - 400 50 20,000
300 55 16,500

© The Institute of Chartered Accountants of India

 1.14 ACCOUNTING
4.14

28 800 47 37,600
29 - - - 500 47 23,500 400 50 20,000
300 55 16,500
300 47 14,100

Therefore, cost of closing inventory of 1,000 pcs will be ` 50,600.

Computation under periodic inventory system
In the above example, if the entity followed periodic inventory valuation, closing inventory of
1,000 pcs. will be valued as follows:
800 pcs. @ ` 47 each (purchased on Dec. 28th) = ` 37,600
200 pcs. @ ` 60 each (purchased on Dec. 19th) = ` 12,000
Total 1,000 pcs. = ` 49,600
We can see that cost of closing inventory has changed following LIFO method based on
perpetual inventory method and periodic inventory method.
"LIFO method is based on an irrational assumption that inventories entering last in the stores
are issued or consumed first. However, the flow of goods which is generally observed in
business entities is contradictory to this assumption. It should be noted that while applying
LIFO, there will be difference in cost of goods sold and value of closing inventory, if the entity
follows periodic as against perpetual method of inventory valuation. (Periodic and Perpetual
methods have been explained later in this chapter). Therefore, LIFO method is no longer
adopted for valuing inventories. Accounting Standards also does not permit the usage of LIFO
Method. Generally, in practice, FIFO and Weighted Average Price Method are popular among
the business entities and both these methods are also permitted by Accounting Standards."

(iv) Simple Average Price Method

Simple Average price for computing value of inventory is a very simple approach. All the
different prices are added together and then divided by the number of prices. The closing
inventory is then valued according to the price ascertained. This method is generally followed
by the entities using periodic inventory method as it does not require efforts of identifying
that closing inventory belongs to which consignments or lots.
ILLUSTRATION 4
In the same example of a manufacturer of radio sets given earlier, let us calculate the value of
closing inventory using Average Price Method:

© The Institute of Chartered Accountants of India

 INVENTORIES 4.15

SOLUTION
The simple average in this question is:
[(50 + 55 + 55 + 60 + 47)/5] = 267/5 = ` 53.4

1,000 units valued at ` 53.4 would be ` 53,400

Let us try to analyse the impact of FIFO, LIFO and Simple Average Price Method with the help
of the following chart:

Units Received Units Issued

10 Jan – 500 units at ` 50
th
20 Jan – 500 units
th
15th Jan – 500 units at ` 60

FIFO LIFO Simple Average Method

Closing Stock Closing Stock Closing Stock

500 units at ` 60 = 500 units at ` 50 = 500 units at ` 55 =
` 30,000 ` 25,000 ` 27,500

Thus, we see that value of inventories changes based on different cost formula used.
(v) Weighted Average Price Method

Simple average price does not consider quantities purchased in various lots. However, it is
more logical to compute weighted average price using the quantities purchased in a lot as
weights. Under weighted average price method, cost of goods available for sale during the
period is aggregated and then divided by number of units available for sale during the period
to calculate weighted average price per unit. Thus

Total cost of goods available for sale during the period

Weighted average price per unit =
Total number of units available for sale during the period
Closing inventory = No. of units in inventory × Weighted average price per unit
Cost of goods sold = No. of units sold × Weighted average price per unit.
ILLUSTRATION 5
On the basis of the data given in illustration 2 and 3, calculate the weighted average price and
also the value of closing inventory by weighted average price method.

© The Institute of Chartered Accountants of India

 1.16 ACCOUNTING
4.16

SOLUTION
The computation of weighted average price in the referred example is shown below:
A new average rate would be calculated on receiving a fresh consignment. Answer on that
basis would be as under:

Date Receipts Issues Balance inventory

Qty Rate Amount Qty Rate Amount Qty Rate Amount
Dec. 4 900 50 45,000 - - - 900 50 45,000
Dec. 5 - - - 500 50 25,000 400 50 20,000
Dec. 10 400 55 22,000 - - - 800 52.5 42,000
Dec. 11 300 55 16,500 - - - 1,100 53.18 58,500
Dec. 19 200 60 12,000 - - - 1,300 54.23 70,500
Dec. 20 - - - 600 54.23 32,538 700 54.23 37,962
Dec. 28 800 47 37,600 - - - 1,500 50.37 75,562
Dec. 29 - - - 500 50.37 25,185 1,000 50.37 50,377

Perpetual and Periodic Inventory System and Average Methods of Cost of Inventory
Both Simple Average Method and Weighted Average Method are applied differently in case
the entity uses periodic inventory taking or Perpetual inventory taking. In case of periodic
inventory, taking inventory available for sale during the period is considered together and an
average rate is computed and closing inventory is valued using that rate. In case perpetual
inventory records, average rate of inventory is computed on each new purchase and next issue
is recorded using new average rate.
Illustration 5 above is an example of Weighted average method used in perpetual inventory
recording system. In case the entity would have been using periodic inventory recording system,
closing inventory would have been valued as below:

Details of purchases/receipt during the period

Date Qty. Rate Value

Dec. 4 900 50 45,000
Dec. 10 400 55 22,000
Dec. 11 300 55 16,500
Dec. 19 200 60 12,000
Dec. 28 800 47 37,600
Total 2,600 51.19 133,100

Accordingly, closing stock of 1,000 pcs. would have been valued at 51,190 @ ` 51.19 per unit.

© The Institute of Chartered Accountants of India

 INVENTORIES 4.17

5.2 Non-Historical Cost Methods

Non-historical cost methods do not consider the historical cost incurred to acquire the goods.
Non- historical cost methods include Adjusted Selling Price method and Standard Cost
method. Adjusted Selling Price method can be explained as follows:
(i) Adjusted selling price method
This method is also called retail inventory method. It is used widely in retail business or in
business where the inventory comprises of items, the individual costs of which are not readily
ascertainable. The use of this method is appropriate for measuring inventories of large
numbers of rapidly changing items that have similar margins and for which it is impracticable
to use other costing methods. The cost of the inventory is determined by reducing from the
sales value of the inventory an appropriate percentage of gross margin. The percentage used
takes into consideration inventory which has been marked below its original selling price. An
average percentage for each retail department is often used. The calculation of the estimated
gross margin of profit may be made for individual items or groups of items or by departments,
as may be appropriate to the circumstances.
ILLUSTRATION 6
M/s X, Y and Z are in retail business, following information are obtained from their records for
the year ended 31st March, 2022:
Goods received from suppliers
(subject to trade discount and taxes) ` 15,75,500
Trade discount 3% and GST 11%
Packaging and transportation charges ` 87,500
Sales during the year ` 22,45,500
Sales price of closing inventories ` 2,35,000
Find out the non-historical cost of inventories using adjusted selling price method.
SOLUTION
Determination of cost of purchases:

Goods received from suppliers 15,75,500

Less: Trade discount 3% (47,265)

15,28,235

© The Institute of Chartered Accountants of India

 1.18 ACCOUNTING
4.18

Add: GST 11% ` 1,68,106

` 16,96,341
Add: Packaging and transportation charges ` 87,500
` 17,83,841

Determination of estimated gross profit margin:

Sales during the year ` 22,45,500

Closing inventory at the selling price ` 2,35,000
24,80,500
Less: Purchases ` (17,83,841)
Gross profit ` 6,96,659
Gross profit margin 28.09%
Inventory valuation:
Selling price of closing inventories ` 2,35,000
Less: Gross profit margin 28.09% ` (66,012)
` 1,68,988

ILLUSTRATION 7
From the following information, calculate the non historical cost of closing inventories using
adjusted selling price method:
`
Sales during the year 2,00,000
Cost of purchases 2,00,000
Opening inventory Nil
Closing inventory at selling price 50,000

SOLUTION

Calculation of gross margin of profit:

`
Sales 2,00,000
Add: Closing inventory (at selling price) 50,000
Selling price of goods available for sale: 2,50,000
Less: Cost of goods available for sale 2,00,000
Gross margin 50,000

© The Institute of Chartered Accountants of India

 INVENTORIES 4.19

50,000
Rate of gross margin = × 100 = 20%
2,50,000

Cost of closing inventory = 50,000 less 20% on ` 50,000 = ` 40,000

(ii) Standard cost method
This method is used when there is frequent change in the price per unit of the goods and
goods are purchased frequently by the business e.g. crude oil. Based on the experience a
standard cost is determined on the basis of frequent changes in prices and inventory is valued
on that price per unit.

6. INVENTORIES TAKING
Normally all operations are suspended for one or two days during the financial year and
physical inventory is taken for everything in the godown or the store periodically. For the year-
end inventory valuation, physical inventory taking is done during the last week of the financial
year or during the first week of next financial year. If inventory taking is finished on 26th
March, whereas accounting year ends on 31st March purchases and sales between 26th and
31st March are then separately adjusted. Later, a value is put on each item. The principle of
cost or Net realizable value, whichever is lower, is applied either for the inventory as a whole
or item by item.
Normally, enterprises prefer to perform inventory taking on the closing day, however,
sometimes inventory taking cannot be carried out on the closing day. It is carried out a few
days later or sometimes even a few days earlier. In such a case, the actual value of the
inventory must be so adjusted as to relate it to the end of the year concerned. For doing so,
it will be necessary to take into account the goods that have come in (purchases and sales
returns) and those that have gone out (sales and purchase returns) during the interval between
the close of the year and the date of actual inventory taking.

Sale of Goods on approval or return basis

Goods are sometimes sent to the customers on sale or return basis. Here, goods sent on
‘approval’ or ‘on return’ basis means goods are delivered to the customers with the option to
retain or return them within a specified period.
Goods send on Consignment
Goods send on Consignment means a situation where one person (or firm) sends goods to
another person (or firm) with the understanding that the goods will be sold on behalf of and
at the risk of the former. The party which sends the goods (consignor) is called principal and
the party to whom goods are sent (consignee) is called agent. The consignor, also known as
the principal, retains ownership of the goods, even though the consignee holds them. The

© The Institute of Chartered Accountants of India

 1.20 ACCOUNTING
4.20

consignee acts as an agent and does not take ownership of the goods; they are simply
responsible for selling them. Once the goods are sold, ownership transfers to the buyer.

Further, the adjustment of all goods must be on the basis of cost or NRV whichever is lower.
Suppose, a firm that closes its books on 31st December, carried out the inventory taking on
the 7th January next year and actual inventory was of the cost of ` 7,85,000, during the period
January 1 to 7 purchases were ` 1,53,000 and sales ` 2,50,000, the mark up being 25% on cost.
The inventory on 31st December would be ` 8,32,000 as shown below:

Inventory ascertained on January 7 7,85,000

Less: Purchases during the period Jan. 1 to 7 1,53,000
6,32,000
Add: Cost of goods sold during the period:
2,50,000 × (100/125) 2,00,000
8,32,000

ILLUSTRATION 8
From the following particulars ascertain the value of Inventories as on 31st March, 2022:

`
Inventory as on 1.4.2021 1,42,500
Purchases 7,62,500
Manufacturing Expenses 1,50,000
Selling Expenses 60,500
Administrative Expenses 30,000
Financial Charges 21,500
Sales 12,45,000

At the time of valuing inventory as on 31st March, 2021, a sum of ` 17,500 was written off on a
particular item, which was originally purchased for ` 50,000 and was sold during the year for
` 45,000. Barring the transaction relating to this item, the gross profit earned during the year
was 20 % on sales.

© The Institute of Chartered Accountants of India

 INVENTORIES 4.21

SOLUTION
Statement of Inventory in trade as on 31st March, 2022

` `
Inventory as on 1st April, 2021 1,42,500
Less: Book value of abnormal inventory
(` 50,000 - ` 17,500) 32,500 1,10,000
Add: Purchases 7,62,500
Manufacturing Expenses 1,50,000
10,22,500
Less: Cost of goods sold:
Sales as per books 12,45,000
Less: Sales of abnormal item 45,000
12,00,000
Less: Gross Profit @ 20% 2,40,000 9,60,000
Inventory in trade as on 31st March, 2022 62,500

ILLUSTRATION 9
A trader prepared his accounts on 31 st March, each year. Due to some unavoidable reasons, no
stock taking could be possible till 15th April, 2022 on which date total cost of goods in his godown
came to ` 50,000. The following facts were established between 31st March and 15th April, 2022.
(i) Sales ` 41,000 (including cash sales ` 10,000).
(ii) Purchases ` 5,034 (including cash purchases ` 1,990).

(iii) Sales return ` 1,000.

(iv) On 15th March, goods of the sale value of ` 10,000 were sent on sale or return basis to a
customer, the period of approval being four weeks. He returned 40% of the goods on 10 th
April, approving the rest; the customer was billed on 16th April.
(v) The trader had also received goods costing ` 8,000 in March, for sale on consignment
basis. 20% of the goods had been sold by 31 st March, and another 50% by the
15th April. These sales are not included in above sales.
Goods are sold by the trader at a profit of 20% on sales.
You are required to ascertain the value of inventory as on 31st March, 2022.

© The Institute of Chartered Accountants of India

 1.22 ACCOUNTING
4.22

SOLUTION
Statement of Valuation of Stock on 31st March, 2022
` `
Value of stock as on 15th April, 2022 50,000
Add: Cost of sales during the period from 31st March, 2022 to 15 th

April, 2022:
Sales (` 41,000-` 1,000) 40,000
Less: Gross profit (20% of ` 40,000) 8,000 32,000
Cost of goods sent on approval basis (80% of ` 6,000) 4,800
86,800
Less: Purchases during the period from 31st March, 2022
to 15th April, 2022 5,034
Unsold stock out of goods received on consignment basis (30% of
` 8,000) 2,400 7,434
79,366

ILLUSTRATION 10

Inventory taking for the year ended 31st March, 2022 was completed by 10th April 2022, the
valuation of which showed a inventory figure of ` 16,75,000 at cost as on the completion date.
After the end of the accounting year and till the date of completion of inventory taking, sales
for the next year were made for ` 68,750, profit margin being 33.33 % on cost. Purchases for
the next year included in the inventory amounted to ` 90,000 at cost less trade discount 10 %.
During this period, goods were added to inventory at the mark up price of ` 3,000 in respect of
sales returns. After inventory taking it was found that there were certain very old slow-moving
items costing ` 11,250, which should be taken at ` 5,250 to ensure disposal to an interested
customer. Due to heavy flood, certain goods costing ` 15,500 were received from the supplier
beyond the delivery date of customer. As a result, the customer refused to take delivery and net
realizable value of the goods was estimated to be ` 12,500 on 31st March. Compute the value
of inventory for inclusion in the final accounts for the year ended 31st March, 2022.
SOLUTION
Statement showing the valuation of Inventory
as on 31st March, 2022
`
Value of Inventory as on 10th April 16,75,000
Add: Cost of goods sold after 31st March till Inventory taking 51,560
(` 68,750 – ` 17,190)

© The Institute of Chartered Accountants of India

 INVENTORIES 4.23

Less: Purchases for the next period (net) (81,000)

Less: Cost of Sales Returns (2,250)
Less: Loss on revaluation of slow-moving inventories (6,000)
Less: Reduction in value on account of default (3,000)
Value of Inventory on 31st March 16,34,310

Note: Profit margin of 33.33 % on cost means 25 % on sales price.

ILLUSTRATION 11
The following are the details of a spare part of Sriram mills:

1-1-2022 Opening Inventory Nil

1-1-2022 Purchases 100 units @ ` 30 per unit
15-1-2022 Issued for consumption 50 units
1-2-2022 Purchases 200 units @ ` 40 per unit
15-2-2022 Issued for consumption 100 units
20-2-2022 Issued for consumption 100 units

Find out the value of Inventory as on 31-3-2022 if the company follows First in first out basis.
SOLUTION
First-in-First out basis
Sriram Mills
Calculation of the value of Inventory as on 31-3-2022
Receipts Issues Balance
Date Units Rate Amount Units Rate Amount Units Rate Amount
` ` ` ` ` `
1-1-2022 Balance Nil
1-1-2022 100 30 3,000 100 30 3,000
15-1-2022 50 30 1,500 50 30 1,500
1-2-2022 200 40 8,000 50 30 1,500
200 40 8,000
15-2-2022 50 30 1,500
50 40 2,000 150 40 6,000
20-2-2022 100 40 4,000 50 40 2,000

Therefore, the value of Inventory as on 31-3-2022: 50 units @ ` 40 = ` 2,000

© The Institute of Chartered Accountants of India

 1.24 ACCOUNTING
4.24

ILLUSTRATION 12
Continuing with the information given in illustration 11, find out the value of Inventory as on
31-3-2022 if the company follows Weighted Average basis.
SOLUTION
Weighted Average basis
Sriram Mills
Calculation of the value of Inventory as on 31-3-2022
Receipts Issues Balance
Date Units Rate Amount Units Rate Amount Units Rate Amount
` ` ` ` ` `
1-1-2022 Balance Nil
1-1-2022 100 30 3,000 100 30 3,000
15-1-2022 50 30 1,500 50 30 1,500
1-2-2022 200 40 8,000 250 38 9,500
15-2-2022 100 38 3,800 150 38 5,700
20-2-2022 100 38 3,800 50 38 1,900

Therefore, the value of Inventory as on 31-3-2022 = 50 units @ ` 38 = ` 1,900

SUMMARY
♦ Inventory can be defined as assets held for sale in the ordinary course of business, or
in the process of production for such sale, or for consumption in the production of
goods or services for sale, including maintenance supplies and consumables other than
machinery spares.
♦ The inventories of manufacturing concern consist of several types of inventories: raw
material (which will become part of the goods to be produced), parts and factory
supplies, work-in-process (partially completed products in the factory) and, of course,
finished products.
♦ Proper valuation of inventory has a very significant bearing on the authenticity of the
financial statements.
♦ Cost of goods sold is calculated as follows:
Cost of goods sold = Opening Inventory + Purchases + Direct expenses - Closing
Inventory.
♦ Inventories should be generally valued at the lower of cost or net realizable value.
♦ Inventory Valuation Techniques:

© The Institute of Chartered Accountants of India

 INVENTORIES 4.25

Historical Cost Methods

 Specific Identification Method
 FIFO (First in first out) Method
 LIFO (Last in first out) Method
 Average Price Method
 Weighted Average Price Method
Non-Historical Cost Methods
 Adjusted selling price method
 Standard cost method
There are two principal systems of determining the physical quantities and monetary value of
inventories sold and in hand. One system is known as ‘Periodic Inventory System’ and the
other as the ‘Perpetual Inventory System’.

TEST YOUR KNOWLEDGE

True and False
1. Inventories are stocks of goods and materials that are maintained for mainly the purpose
of revenue generation.
2. A building is considered inventory in a construction business.
3. Inventory is valued as carrying cost less percentage decreases.
4. Management has daily information about the quantity and valuation of closing stock
under physical Inventory System.
5. Periodic Inventory System is more suitable for small enterprises.

6. When closing inventory is overstated, net income for the accounting period will be
understated.
7. Closing inventory = Opening inventory + Purchases + Direct expenses + Cost of goods
sold.
8. Cost of inventories should comprise all cost of purchase.
9. Inventory by-products, should be valued at net realisable value where cost of by products
can be separately determined.
10. Abnormal amounts of wasted materials, labour or other production overheads expenses
are included in the costs of inventories.

© The Institute of Chartered Accountants of India

 1.26 ACCOUNTING
4.26

11. Perpetual system requires closure of business for counting of inventory.

12. Periodic inventory system is a method of ascertaining inventory by taking an actual
physical count.
13. The value of closing inventory under simple average price method is realistic as compare
to LIFO.

14. The value of stock is shown on the assets side of the balance-sheet as fixed assets.
15. Under inflationary conditions, FIFO will not show lowest value of cost of goods sold.
16. Under LIFO, valuation of inventory is based on the assumption that costs are charged
against revenue in the order in which they occur.
17. Valuation of inventory, at cost or net realisable value, whichever less, is based on the
principle of Conservatism.

18. Finished goods are normally valued at cost or market price whichever is higher.

Multiple Choice Questions

1. The amount of purchase if
Cost of goods sold is ` 80,700
Opening Inventory ` 5,800
Closing Inventory ` 6,000

(a) ` 80,500
(b) ` 74,900
(c) ` 80,900.
2. Average Inventory = ` 12,000. Closing Inventory is ` 3,000 more than opening Inventory.
The value of closing Inventory = ______.
(a) ` 12,000
(b) ` 24,000
(c) ` 13,500.
3. While finalizing the current year’s profit, the company realized that there was an error
in the valuation of closing Inventory of the previous year. In the previous year, closing
Inventory was valued more by ` 50,000. As a result
(a) Previous year’s profit is overstated and current year’s profit is also overstated

© The Institute of Chartered Accountants of India

 INVENTORIES 4.27

(b) Previous year’s profit is overstated and current year’s profit is understated
(c) Previous year’s profit is understated and current year’s profit is also understated
4. Consider the following for Q Co. for the year 2021-22:
Cost of goods available for sale ` 1,00,000
Total sales ` 80,000
Opening inventory of goods ` 20,000
Gross profit margin on sales 25%
Closing inventory of goods for the year 2021-22 as

(a) ` 80,000
(b) ` 60,000
(c) ` 40,000

5. If the profit is 25% of the cost price then it is

(a) 25% of the sales price
(b) 33% of the sales price
(c) 20% of the sales price
6. Goods purchased ` 1,00,000. Sales ` 90,000. Margin 20% on cost. Closing Inventory =?
(a) ` 20,000
(b) ` 10,000
(c) ` 25,000
7. A company is following weighted average cost method for valuing its inventory. The
details of its purchase and issue of raw-materials during the week are as follows:
1.12.2022 opening Inventory 50 units value ` 2,200.
2.12.2022 purchased 100 units @ `47.

4.12.2022 issued 50 units.

5.12.2022 purchased 200 units @ ` 48.
The value of inventory at the end of the week and the unit weighted average costs is
(a) ` 14,200 – ` 47.33
(b) ` 14,300 – ` 47.67
(c) ` 14,000 – ` 46.66

© The Institute of Chartered Accountants of India

 1.28 ACCOUNTING
4.28

8. The cost of sales is equal to

(a) Opening stock plus purchases
(b) Purchases minus Closing stock
(c) Opening stock plus purchases minus closing stock
9. Inventory is disclosed in financial statements under:
(a) Fixed Assets
(b) Current Assets
(c) Current Liabilities
10. Accounting Standards do not permit following method of inventory valuation
(a) FIFO
(b) Average cost
(c) LIFO
11. Which inventory costing formula calculates value of closing inventory considering that
inventory most recently purchased has not been sold?
(a) FIFO
(b) LIFO
(c) Weighted average cost
12. Valuing inventory at cost or net releasable value is based on which principle
(a) Consistency
(b) Conservatism

(c) Going concern

13. Under inflationary trend, which of the methods will show highest value of inventory?
(a) FIFO

(b) Weighted average

(c) LIFO
14. Which of the following methods does not consider historical cost of inventory?
(a) Weighted average
(b) FIFO
(c) Retail price method

© The Institute of Chartered Accountants of India

 INVENTORIES 4.29

Theory Questions
1. Write short notes on:
(i) Adjusted Selling Price method of determining cost of stock.
(ii) Principal methods of ascertainment of cost of inventory.

2. Distinguish between:
(i) LIFO and FIFO basis of costing of stock.
(ii) FIFO and weighted average price method of stock costing.

3. Define inventory. Explain the importance of proper valuation of inventory in the

preparation of statements of the business entity.

Practical Questions
1. X who was closing his books on 31.3.2022 failed to take the actual stock which he did
only on 9th April, 2022, when it was ascertained by him to be worth ` 2,50,000.
It was found that sales are entered in the sales book on the same day of dispatch and
return inwards in the returns book as and when the goods are received back. Purchases
are entered in the purchases day book once the invoices are received.
It was found that sales between 31.3.2022 and 9.4.2022 as per the sales day book are
` 17,200. Purchases between 31.3.2022 and 9.4.2022 as per purchases day book are ` 1,200,
out of these goods amounting to ` 500 were not received until after the stock was taken.
Goods invoiced during the month of March, 2022 but goods received only on 4th April,
2022 amounted to ` 1,000. Rate of gross profit is 33-1/3% on cost.
Ascertain the value of physical stock as on 31.3.2022.
2. From the following information, ascertain the value of stock as on 31.3.2022:
`
Value of stock on 1.4.2021 7,00,000
Purchases during the period from 1.4.2021 to 31.3.2022 34,60,000
Manufacturing expenses during the above period 7,00,000
Sales during the same period 52,20,000

At the time of valuing stock on 31.3.2021 a sum of ` 60,000 was written off a particular
item which was originally purchased for ` 2,00,000 and was sold for ` 1,60,000. But for
the above transaction the gross profit earned during the year was 25% on cost.

© The Institute of Chartered Accountants of India

 1.30 ACCOUNTING
4.30

3. The Profit and loss account of Hanuman showed a net profit of ` 6,00,000, after
considering the closing stock of ` 3,75,000 on 31st March, 2022. Subsequently the
following information was obtained from scrutiny of the books:
(i) Purchases for the year included ` 15,000 paid for new electric fittings for the shop.
(ii) Hanuman gave away goods valued at ` 40,000 as free samples for which no entry
was made in the books of accounts.
(iii) Invoices for goods amounting to ` 2,50,000 have been entered on 27th March,
2022, but the goods were not included in stock.

(iv) In March, 2022 goods of ` 2,00,000 sold and delivered, were taken in the sales for
April, 2022.
(v) Goods costing ` 75,000 were sent on sale or return in March, 2022 at a margin
of profit of 33-1/3% on cost. Though approval was given in April, 2022 these were
taken as sales for March, 2022.
Calculate the value of stock on 31st March, 2022 and the adjusted net profit for the year
ended on that date.
4. Physical verification of stock in a business was done on 23rd June, 2022. The value of the
stock was ` 48,00,000. The following transactions took place between 23rd June to 30th
June, 2022:
(i) Out of the goods sent on consignment, goods at cost worth ` 2,40,000 were
unsold.
(ii) Purchases of ` 4,00,000 were made out of which goods worth ` 1,60,000 were
delivered on 5th July, 2022.
(iii) Sales were ` 13,60,000, which include goods worth ` 3,20,000 sent on approval.
Half of these goods were returned before 30th June, 2022.
(iv) Goods are sold at cost plus 25%. However, goods costing ` 2,40,000 had been
sold for ` 1,20,000.
Determine the value of stock on 30th June, 2022.

ANSWERS / HINTS
True and False
1. True: Inventories refers to stocks of goods and materials that are maintained in
business for revenue generation.

© The Institute of Chartered Accountants of India

 INVENTORIES 4.31

2. True: For a construction business, a building under construction will be inventory.

The building is being built in the normal course of business and will eventually be
sold as inventory.

3. False: Inventory is valued at lower of cost or net realizable value.

4. False: Under Perpetual Inventory System management have daily information of

closing stock.

5. True: A periodic inventory system is suitable to small and micro enterprises, where
physical counting of inventory is not a tedious process.

6. False: When closing inventory is overstated, net income for the accounting period
will be overstated.

7. False: Closing stock = Cost of goods sold - (Opening inventory + Purchases + Direct
expenses).

8. False: Cost of inventories should comprise all cost of purchase, costs of conversion
and other costs incurred in bringing the inventories to their present location and
condition.

9. False: Inventory by-products, should be valued at net realisable value where cost of
by products cannot be separately determined . .

10. False: Abnormal amounts of wasted materials, labour or other production overheads
expenses are generally not included in the costs of inventories.

11. False: Periodic system requires closure of business for counting of inventory.

12. True: Under Periodic inventory system actual physical count of inventory is taken of
all the inventory on hand at a particular date.

13. True: Value of Closing stock as per average method is more realistic then LIFO.

14. False: The value of stock is shown on the assets side of the balance-sheet as current
assets. As it is realisable within 12 months.

15. False: Under inflationary conditions, LIFO and weighted average will not show lowest
value of cost of goods sold.

16. False: Under FIFO, valuation of inventory is based on the assumption that costs are
charged against revenue in the order in which they occur.

© The Institute of Chartered Accountants of India

 1.32 ACCOUNTING
4.32

17. True: The conservatism concept states that one shall not account for anticipated
profits but shall provide all prospective losses. Valuing inventory at cost or net
realisable value whichever is less, therefore is based on principle of Conservatism.

18. False: Finished goods are normally valued at cost or market price whichever is lower.

Multiple Choice Questions

1. (c) 2. (c) 3. (b) 4. (c) 5. (c) 6. (c)

7. (a) 8. (c) 9. (b) 10. (c) 11. (a) 12. (b)

13. (a) 14. (c)

Theoretical Questions
1 (i) Adjusted selling method is also called retail inventory method. It is used widely
in retail business or in business where the inventory comprises of items, the
individual costs of which are not readily ascertainable. The historical cost of
inventory is estimated by calculating it in the first instance at selling price and
then deducting an amount equal to the estimated gross margin of profit on
such stocks.

(ii) The specific identification method, First-In–First-Out (FIFO) and weighted

average cost formulae are the principal methods of ascertaining the cost of
inventory. The cost of inventories of items that are not ordinarily
interchangeable and goods or services produced and segregated for specific
projects should be assigned by specific identification of their individual costs
under the specific identification method.

2. (i) Under FIFO method of inventory valuation, inventories purchased first are
issued first. The closing inventories are valued at latest purchase prices and
inventory issues are valued at corresponding old purchase prices. In other
words, under FIFO method, costs are assigned to the units issued in the same
order as the costs entered in the inventory. During periods of rising prices, cost
of goods sold are valued at older and lower prices if FIFO is followed and
consequently reported profits rise due to lower cost of goods sold.

On the other hand, under LIFO method of inventory valuation, units of

inventories issued should be valued at the prices paid for the latest purchases
and closing inventories should be valued at the prices paid for earlier purchases.

© The Institute of Chartered Accountants of India

 INVENTORIES 4.33

In other words, closing inventories are valued at old purchase prices and issues
are valued at corresponding latest purchase prices.

(ii) Under the First-In-First-Out (FIFO) method of valuation of stock, the actual issue
of goods is usually the earliest lot on hand. Hence, the stock in hand will
therefore consist of the latest consignments. The closing stock is valued at the
price paid for such consignments.

The weighted average price method is not a simple average price method.
Under this method of valuation of stock, a stock ledger is maintained, recording
receipts and issues on daily basis. A new average would be calculated on
receiving fresh consignment. The average price thus calculated after
considering arrival of new consignment with the previous value of stock and
dividing the preceding stock value and the cost of new arrival with the total
units of preceding and new arrival will give the weighted average price.

3. Inventory can be defined as assets held

 for sale in the ordinary course of business, or

 in the process of production for such sale, or

 for consumption in the production of goods or services for sale, including

maintenance supplies and consumables other than machinery spares.

The significance of inventory valuation arises due to the following reasons:

(i) Determination of Income

(ii) Ascertainment of Financial Position

(iii) Liquidity Analysis

(iv) Statutory Compliance

Practical Questions
1. Statement of Valuation of Physical Stock as on 31st March, 2022

Value of stock as on 9th April, 2022 2,50,000

Add: Cost of sales during the intervening period

Sales made between 31.3.2022 and 9.4.2022 17,200

© The Institute of Chartered Accountants of India

 1.34 ACCOUNTING
4.34

Less: Gross profit @25% on sales (4,300) 12,900

2,62,900

Less: Purchases actually received during the intervening period:

Purchases from 1.4.2022 to 9.4.2022 1,200

Less: Goods not received upto 9.4.2022 (500) 700

2,62,200

Less: Purchases during March, 2022 received on 4.4.2022 1,000

Value of physical stock as on 31.3.2022 2,61,200

2. Statement of Valuation of Stock as on 31st March, 2022

`
Value of stock as on 1st April, 2021 7,00,000
Add: Purchases during the period from 1.4.2021 to 31.3.2022 34,60,000
Add: Manufacturing expenses during the above period 7,00,000

48,60,000
Less: Cost of sales during the period:
Sales 52,20,000
Less: Gross profit 10,32,000 41,88,000
Value of stock as on 31.3.2022 6,72,000

Working Note:

`
Calculation of gross profit:
Gross profit on normal sales 20/100 x (52,20,000 -1,60,000) 10,12,000
Gross profit on the particular (abnormal) item 1,60,000 - (2,00,000 - 60,000) 20,000
10,32,000

Note: The value of closing stock on 31st March, 2022 may, alternatively, be found out by
preparing Trading Account for the year ended 31st March, 2022.

© The Institute of Chartered Accountants of India

 INVENTORIES 4.35

3. Profit and Loss Adjustment Account

Particulars ` Particulars `

To Advertisement (samples) 40,000 By Net profit 6,00,000

To Sales (goods approved in April 1,00,000 By Electric fittings 15,000
to be taken as April sales: (75,000
+ 25,000)
To Adjusted net profit 10,40,000 By Samples 40,000
By Stock (purchases of March 2,50,000
not included in stock)
By Sales (goods sold in March 2,00,000
wrongly taken as April sales)
By Stock (goods sent on 75,000
approval basis not included
in stock)
11,80,000 11,80,000

Calculation of value of inventory on 31st March, 2022

`

Stock on 31st March, 2022 (given) 3,75,000

Add: Purchases of March, 2022 not included in the stock 2,50,000

Goods lying with customers on approval basis 75,000

7,00,000

4. Statement of Valuation of Stock on 30th June, 2022

Value of stock as on 23rd June, 2022 48,00,000

Add: Unsold stock out of the goods sent on consignment 2,40,000

Purchases during the period from 23rd June, 2022 to 30th 2,40,000
June, 2022

Goods in transit on 30th June, 2022 1,60,000

Cost of goods sent on approval basis (80% of ` 1,60,000) 1,28,000 7,68,000

55,68,000

© The Institute of Chartered Accountants of India

 1.36 ACCOUNTING
4.36

Less: Cost of sales during the period from 23rd June, 2022 to 30th
June, 2022

Sales (` 13,60,000 - ` 1,60,000) 12,00,000

Less: Gross profit 96,000

11,04,000

Value of stock as on 30th June, 2022 44,64,000

Working Notes:

1. Calculation of normal sales:

Actual sales 13,60,000

Less: Abnormal sales 1,20,000

Return of goods sent on approval 1,60,000 2,80,000

10,80,000

2. Calculation of gross profit:

Gross profit or normal sales 20/100 x ` 10,80,000 2,16,000

Less: Loss on sale of particular (abnormal) goods 1,20,000

(` 2,40,000-` 1,20,000)

Gross profit 96,000

© The Institute of Chartered Accountants of India