ACCOUNTANCY FORM SIX TOPIC 4: STOCK VALUATION

 

TOPIC 4: STOCK VALUATION

Concept;

Stock/inventory;

The Tanzania statement of Accounting Guidelines No 2 which deals with the valuation of inventories in the context of the historical cost system states that the term stock/inventories include the following;

1. Goods or other assets purchased
2. Consumable stores/consumer goods
3. Raw materials and components purchased for incorporation in its products for sale
4. Products and services in intermediate stages of completion
5. Finished goods
6. Long-term contract balance
7. Farms crops
8. Livestock

CLASSIFICATION AND COST

• Stock taking; Is the process of determining the quantities of all items of merchandize owned by the business firm at the certain date, usually at the end of accounting period. This involves the actual accounting, measure and weighing of all items of unsold merchandize (stock) in the store.
• Inventories/stock is classified as assets (currents) in the balance sheet as it is expected that this stock will be sold and be replaced within one accounting period.
• Accounting for inventories normally follows the cost concept which means stocks are recorded at acquisition cost or whichever is lower.

NOTE;

1. All items of due stock belonging to the business even those in transit have been included in the inventory figure.
2. All items of merchandize (stock) recorded in the inventory list are legally owned by the business.

STOCK COSTING METHOD

After determining the quantity of merchandize stock at the end of the accounting period, (the balance sheet date) the next step is to assign a cost to each item of merchandize in order to arrive at the value of the ending inventory to be presented in the financial statement

There are two stock/inventory systems which are;

1. Perpetual stock system
2. Periodic stock system

Certain assumptions are needed to be made on the flow of goods and their related costs.

1. First in first out (FIFO); the assumption is that the oldest items in the stock are the first ones sold. Under this method, the ending inventory is assumed to be comprised of the latest purchases. This is a logical assumption for businesses dealing in perishable goods; FIFO represents a natural flow of merchandize.
2. Last in first out (LIFO); the assumption is that, the most recent items in stock are the first ones sold. Example of these is fashionable goods. Under this method the ending stock is assumed to be comprised of the earliest purchases.
3. Average cost (AVCO), the stock items has been intermingled, so that the goods sold and the ending stock consists of mixed units. Under this method a weighted average unit cost is calculated for all stock items.

W.A.C= Weighted Average Cost

W.A.C =  (Total cost purchase +  opening stock)/(Total unit)

PERIODIC METHOD

EXAMPLE

Date:purchases

1/1 =   100 units   @ 30/=

5/1 =     50 units   @ 40/=

10/1 =   40 units     @ 50/=

Sales = 2/1 = 90 units @ 60/=

6/1 = 40 units @  70/=

11/1 = 30 units @ 50/=

Required: By using periodic method calculate the value of closing stock by FIFO and LIFO

FIFO; total amount of sales → 160=90+40+30

Amount of purchases =      190  units= 100+50+40
Closing stock=190-160=30 units

30 x 50 = 1500

;. Closing stock of FIFO = 1500
NOTE: Closing stock by FIFO will be valued by the last units value to be purchased.

LIFO; Total amount of sales = 160

Amount of purchases → last in first out  190 =100+ 50 + 40

Closing stock = 190-160

30 x 30 = 900

:. Closing stock of LIFO = 900.
NOTE: Closing stock  by LIFO will be valued at 30@, the value of list units to be purchased

Workings

Total purchase

1/1/   100 units @30=  3000

5/1     50 units @ 40=  2000

10/1    40 units @ 50=  2000

7000

Total sales

2/1   90 units @ 60 =  5400

6/1   40 units @70 =    2800

11/1  30  units 50 =       1500

9700

Prepare financial statement for the year/period ending 31Jan.

Note: Using periodic method by FIFO, LIFO and WAC

	FIFO	LIFO	WAC
Sales	9700	9700	9700
Less: LOGS
	7000 (1500)	7000 (900)	7000 (1105)
LOGS	5500	6100	5895
Gross profit	4200	3600	3805

=36.84
Closing stock value=30 unitsx36.84
=1105

ILLUSTRATION 2

Sinza wholesaler deals in locally made door mats. During 199x, its records show the following transactions related to this particular merchandize.

Stock on hand at 31.12.199x was 70 units (650-580)

Total sales for the year was Tshs.250,000

Using a period inventory system

1. First-in first-out (FIFO) method

The 70 units on hand will be assigned the following costs;

50 x 340 = 17,000 (Nov purchases).

20 x 330 =   6,600 (August purchases).

23,600

Note that in this method it is assumed that the ending inventory consists of units from the most recent purchases

The cost of goods sold will be calculated as follows;

Total purchases                             208,000

Less; ending inventory                   23,600

Cost of goods sold                        184,400

2. Last-in-first-out(LIFO) Method

The 70 units on hand will be assigned to the following costs;

60x 300 = 18,000 (Jan purchases)

10/70  x 310 = 3,100  (March purchases)

21,100

Note that in this method it is assumed that the ending inventory consists of units from the earliest

The cost of goods sold will be calculated as follows;

Total purchases                                          208,000

Less; Ending inventory                                 21,100

Cost of goods sold                                      186,900

3. Average cost (AVCO) method;

This method will use a weighted a average cost for the year calculated as follows;

Weighted Average cost = Total cost of purchases + opening stock

Tshs. 208,000/ =   320/=

650 units

The ending inventory will be assigned this cost which is 70 units @ shs. 320 = 22,400

The cost of goods sold will be;

Total purchases                                   208,000

Less; ending inventory                              22,400

185,600

-Note that the goods sold have the same shs. 320 unit cost (580 units. @ 320= 185,600).

COMPARISON OF INVENTORY COSTING METHOD UNDER PERIODIC SYSTEM

	FIFO	LIFO	AVCO
	shs	shs	shs
Sales	250,000	250,000	250,000
less ; cost of goods sold
Purchases	208,000	208,000	208,000
less ; Ending inventory	23,600	21,000	22,400
	184,400	186,900	185,600
	65,600	63,100	64,400

During the period of rising prices as in this illustration. The FIFO method results in the highest gross profit. This is due to assigning the most recent prices (Higher prices) to the ending inventory. This means the cost of goods sold is assumed to be from the earlier purchases (lower prices).

STOCK LEDGER CARD

1. PERPETUAL SYSTEM OF INVENTORY

-Physical movement of stock.

ILLUSTRATION 3

On 2^nd may, M.LTD received 500 units at 20/=

8^th may received; 300 units at 22/=

10^th issued 400 units at –

15^th issued 200 units at –

20^th received 600 units at 22/=

25^th issued 300 units at –

27^th received 200 units at 26/=

30^th issued 100 units at –

Standard price for each unit for the month of May was 24/= each, market price of these materials on 3^rd June is 27 per unit and 400 units were purchased on that day.

Calculate closing stock under periodic method applying FIFO, LIFO and Average cost (weighted average).

USING A PERPETUAL INVENTORY SYSTEM

1. First-in-first-out (FIFO)Method

A stock record card for the door mats will be maintained as in the next and page.

                                                   STOCK CARD

DATE	PURCHASES/ RECEIVED			SALES/ISSUED			BALANCE
	QTY	UNIT COST	TOTAL COST	QTY	UNIT COST	TOTAL COST	QTY	UNIT COST	TOTAL COST
2-May	500	20	10,000				500	20	10,000
8-May	300	22	6600				300	22	6600
			16,600				800		16,600
10-May	–	–	–	400	20	8000	100	20	2000
							300	22	6,600
							400		8600
15-May	–	–	–	100	20	2000	200	22	4,400
				100	22	2200
							200		4,400
20-May	600	25	15,000	–	–	–	200	22	4,400
							600	25	15,000
							800		19,400
25-May	–	–	–	200	22	4400
				100	25	2500	500	25	12,500
							500		12,500
27-May	200	26	5200	–	–	–	500	25	12,500
							200	26	5,200
							700		17,700
30-May	–	–	–	100	25	2500	400	25	10,000
							200	26	5,200
							600		15,200
		Purchases	36,800	COGS		21,600	600		15,200

2. By LIFO method (Last In First Out)

                                                  STOCK CARD

DATE	PURCHASES			SALES			BALANCE
	QTY	UNIT COST	TOTAL COST	QTY	UNIT COST	TOTAL COST	QTY	UNIT COST	TOTAL COST
2-May	500	20	10,000	–	–	–	500	20	10,000
8-May	300	22	6,600	–	–	–	300	22	6600
							800		16,600
10-May	–	–	–	300	22	6600
				100	20	2000	400	20	8,000
							400		8000
15-May	–	–	–	200	20	4000	200	20	4,000
20-May	600	25	15,000	–	–	–	200	20	4,000
							600	25	15,000
							800		19,000
25-May	–	–	–	300	25	7500	200	20	4,000
							300	25	7,500
							200	26	5,200
							700		16,700
30-May	–	–	–	100	26	2600	200	20	4,000
							300	25	7,500
							100	26	2,600
							600		14,100

3.By Average Method

Date	Purchases/Received			Sales/Issued		Unicost	Balance
	Cash	Unit cost	Cost	Q	R		Q	R	Cost
2 May 8 May	500 300	20 22	10,000 6,600				500 300	20 22	10,000 6,600
							800	20.75	16,600
10 May				400	20.75	8300	400	20.75	8300
15 May				200	20.75	4150	200 200	20.75 20.75	4150 4150
20 May	600	25	15,000				600	25	15,000
							800	24	19,150
25 July				300	24	7200
27 May	200	26	5200				500 200	24 26	11,950 5200
							700	24.5	17,150
31 May				100	24.5	2450
PURCHASES			36,000	Cost of goods sold		22,100	600	24.5	14,700

14,700= Closing stock

ESTIMATING STOCK

When a business firm does not maintain a perpetual inventory system, It has no way of determining the actual stock or inventory on hand unless the physical stock taking is done on a particular date. This will cumbersome and costly if it has to be done several times during an accounting period.

In order to avoid these inconveniences, the business will use an estimated figures its ending inventory.

There are occasions when it is necessary to estimate inventory. For-example when goods are lost or due to theft, a brokerage or natural deterioration or evaporation.

There are two common approaches to estimate stock;

1. Gross profit method
2. Retail method

1. GROSS PROFIT METHOD

This method of estimation uses Gross profit margin or average mark up in order to determine the cost of goods sold (cost of sales).

*Margin = profit/selling price.

* Mark up = profit/cost price.

ILLUSTRATION 1

ABC LTD TRADING A/C FOR THE YEAR ENDED 30/06/2009

Sales	780,000
less; Return inwards	30,000	750,000
less; cost of goods sold
opening stock	120,000
Add; purchases	660,000	780,000
less; closing stock	180,000	600,000
Gross profit		150,000

Calculate;

1. Gross margin in percentage
2. Average mark up in percentage

Solution;

1. Gross profit margin = profit/selling price x 100%

=     25%

ILLUSTRATION 2

Assume in illustration (i.) in the previous page during July, August, September ABC has made;

Purchases                                               240,000

Net sales                                                 350,000

Calculate inventory on 30^th September, use gross profit method to estimate the

Given data;-

Stock as at 30^th/6                                     180,000

Purchases                                                 240,000

Sales                                                       350,’000

Margin                                                         20%

Calculate closing stock.

sales		350,000
Opening stock	180,000
Add ; purchases	240,000
cost of goods available for sale	420,000
less ; Closing stock	140,000
Cost of goods`sold
Gross profit		70,000

ILLUSTRATION 3

On 1^st January 2004, J.M valued his stock at cost, 12,300. During the first week of January 2004, his transactions in his stock were as follows;

Purchases                                                8,100

Sales                                                       13,600

Returns inwards                                       800

Returns outwards                                     300

He sells his goods at 25% above cost of goods available for sale.

Calculate the cost of his stock at 7^th January 2004

Sales		13,600
less ; Return inwards		800	12,800
less ; cost of goods sold
Opening stock	12300
Add ; purchases	8100
	20,400
less ; Returns outwards	300
Cost of goods available for sale	20100
less; closing stock	9860
Cost of goods sold.			10,240
Gross profit			2560

Gross profit P2?800x
Chane mark-up→Margin
25% →20%
20%x12,800→Gross profit Tshs 2560

RETAIL METHOD

• This estimation technique is employed to business with large amount of stocks of relatively low unit’s values.
• Usually all items are quoted at retail prices

Example of business using retail method is;

1. Large chain store
2. Supermarket

This method employs the following steps;

1. obtain the cost of goods available for sale
2. if sales figure is given taking the value of goods available for sale at retail the sales figure should give the value of closing stock at retail
3. the value of closing stock at retail can be converted to an approximate cost figure by using the ratio of cost retail value worked out at (a) above.

ILLUSTRATION

On 1^st June;                                                 COST                   RETAIL

Opening stock                                           180,000                   288,000

30^th; purchases                                         145,000                    212,000

30^th; sales                                                       ─                       170,000

Calculate;

1. cost retail ratio
2. closing stock at retail value
3. Conversion of closing stock at retail value to cost.

Solution

Cost to retail ratio

COST                     RETAIL

Opening stock                                     180,000                  288,000

Add; purchases                                   145,000                  212,000

325,000                 500,000

Ratio = cost/Retail x 100

= 325,000 x 100

500,000

= 65%

Closing stock at retail value

	COST	RETAIL
Opening stock	180,000	288,000
Add; purchases	145,000	212,000
	325,000	500,000
Less; Net sales		170,000
Closing stock		330,000

Conversion of closing stock at retail value to cost

Closing stock = 330,000

65    x 330,000

100

= 214,000

Conversion of closing stock = 214,000

WEAKNESS OF ESTIMATION METHOD

1. The stock estimation technique covered has assumed that the gross profit margin is stable in the period of estimation.
2. They also assume that closing stock will be representative of all items which were available for sale.
3. If these assumptions are not true, then misleading values will be produced.
4. These techniques have to take accounts of realities encountered if they are to yield/ to get/to gain acceptable approximation.

On 1^st April 2012; Stock at cost was                 30,000/=

Purchases           15,000/=

Sales                 10,000/=

The normal rate of Gross profit on cost price is 25% however it is known that allowances of 2,000/= have been made to customers.

Calculate;

– Closing stock estimate as at 30^th April 2012.

Exercise 2.

Due to administrative reasons W.mahwa, the wholesaler, had to take his stock on 28^th December 2004, on which date it was valued at cost at 73,260. The following transactions took place in the next 3 days.

1. Sales book                               3400
2. Cash sales                               1940
3. Purchases book total             2310
4. Returns inward book            220
5. Returns outward book        170
6. Carriage inward                    425

A detailed examination of the books also revealed the following information

1. Sales book includes one invoice for 280/= against which goods were delivered on 2^nd January 2005.
2. Cash sales includes sales of an item that had a cost value of 42/= but was sold for 36/= as it has been damaged in store
3. All purchases made had been dully received from supplier
4. A customer returned books that has been invoiced to him at 80/= on 29^th December 2004 but was issued with a credit loan on 3^rd January 2005
5. Carriage inward was paid in respect of goods bought in December 2004
6. Stock with a cost value of 295/= had stayed in store for too long and estimated to have realizable value of only 178/=.
7. Goods costing 126 were returned to a supplier on 30^th December 2004 but the credit note was received four days later.
8. No records have been made of drawings in the form of goods by the owner of this business, W. Mahwa of 203.
9. The usual gross profit margin is 33% on cost.

Calculate the cost, net realizable value whichever is the lowest of the stock of 31^st December 2004.

INSURANCE CLAIM

ILLUSTRATION 1

J.A has insured a stock for 10,000/=. On 31^st March 2008 when the total cost value of stock in his store was 12,000, his store caught fire, the value of stock salvaged from fire was 3,000/=. Calculate the amount he can claim from the insurance company.

NOTES

If stock is not fully insured, that is if the value of stock in store is more than the sum insured, insurance company paid the following portion of the value of stock destroyed from fire

Insurance claim = 10,000  x 9,000

12,000

Insurance claim = 7,500

• Owner J.A of the go down should claim 7,500 before his insurance company.

ILLUSTRATION 2

Stock on 31^st March 2005 (last year end)        6200/=

Debtors on 31^st March 2005 was                     4600/=

Creditors on 31^st March 2005 was 5400

Receipt from debtors (1^st April to 5^th May) was  5700/=

Discount allowed to debtors                               100/=

Discount received from creditors                        180/=

Payment to creditors                                       5120/=

Stock donated to a charity (cost value)              340/=

Stock salvaged from fire                                   600/=

Gross profit margin 25% cost

Calculate;

1. The cost value of stock in store on 5^th May 2005 considering that on that day debtors amounted to 6500 and creditors to 4900.
2. The amount to be claimed from insurance company

Solution; Exercise 2.

STOCK AS AT 28^TH DECEMBER 2004

WORKINGS

• NOTE (i)

Sort out all items concerning with sales

Cash sales                         1940

Credit sales                       3400

5340

Less; goods not delivered           280

5060

Less; damaged value                      36

Net sales                   5024

5024 x 75% =                 3768

Add; cost before damage         42

           COGS                             3810

NOTE (ii)

Stock with a cost value =       295

Less; Realizable value         =     (178)

Loss in value of stock                   117

ESTIMATION OF STOCK

Stock as at 28th December 2004		73,200
Add; purchases	2310
Carriage inwards	425
(80 x 75%)	60
Cost of value of Return inwards
(220 x 75%)	165	2960
		76,160
Less; cost of goods sold .(note (i))	3810
Return outwards	126
Return outward book value	170
Drawings	203
Loss value in stock (note (ii))	117	-4426
Closingstock		71743

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