Stock Valuation 23

7/31/2019 Stock Valuation 23

1/20

STOCK

VALUATION


2/20

STOCK

Stock (which is also known as inventory)consists of :- Raw materials-goods not yet processed

- Work-in progress-partly completed goods

- Finished goods- ready for sale

The relative proportion's of each time of stock will vary with the

type of enterprise.

Retailers stock consists mainly or even exclusively of finishing

goods.

Firms that manufacturer to order will carry little in the way of

some finished goods.

Where the production is short , there will be little work in

progress.


3/20

WHYVALUE STOCK?

Stock needs to be valued for- Costing purpose

- To calculate cost of sales and therefore profit- For the construction of a balance sheet in which

stock features as a current asset.

The overriding principle is that stock

should be valued at the lower of cost of

acquisition or net realizable value.


4/20

STOCKSANDTHEBALANCESHEET

The balance sheet records the value of stocks at the timethe balance sheet was drawn up

The problem is that the stock was bought in batches over

time and probably at different prices

Which value should we use? The choice of method will affect the value of stock

recorded in the balance sheet

It will also affect the following aggregates in the balance

sheet : current assets , net current assets net assets


5/20

STOCKSANDTHE P&L ACCOUNT

The cost of sales is a negative item on the P&L

Account

Cost of sales is equal to

- Opening stock

- Plus purchases

- Less closing stock

Again the problem is what value to place on the

stock when it is purchased at different prices over

year.

The choice of method will affect the firms declared

profits.


6/20

METHODSOFSTOCKVALUATION

These are methods used to ascertain the year end

valuation of stocks:

- FIFO :- first in first out

- LIFO :- last in first out

- AVCO:- weighted average cost

If stock is bought in at the same price throughout

the year the choice of method is immaterial.

In practice , stock is likely to be bought in at

different prices over the year.


7/20

FIFOFIRSTIN , FIRSOUT

This assume that stock is issued in the order in which it

is delivered so that remaining stock is valued at the

most recent prices.

Stock is valued in terms of the earliest batch until all that

batch has been used up then it will be valued at heprice of the next batch and so on.

Issues of stock (cost of good sold ) are based on the

cost of oldest remaining stock at the time of issue.

This means that closing stock value is based on themost recent stock.

This is acceptable to tax authorities because cost are

related to those actually incurred and closing stock

value is close to current market price.


8/20

LIFOLASTIN , FIRSTOUT

Assumes is valued that the more recent deliveries areissued first so that closing stock is values at olderpurchase prices.

As the most recent stock is used up , the remainingstock is made up earlier purchases made at older

prices. Cost of good sold (issues from stock) is based on the

cost of the most recent purchases.

Issues are valued at the latest stock price it is all usedup - then valuation is based on the next earliest batch .

Closing stock is valued on the cost of the oldest goodsavailable.

LIFO is not acceptable for tax purpose because itunderstates profitability.


9/20

AVCO-AVERAGECOST

This is the method of stock valuation based on a

weighted average of values of stock received over

the account period

It involves calculating and re-calculating the

average cost of total stock every time a new deliver

is received

Average cost =total stock value/no. units in stock

Weighting the average mean taking into account

the relative quantities involved

Because issues are at average cost, it follow the

closing stock should be valued on the same

average cost basis


10/20

HOW DO WE CALCULATE THE VALUE

OF THE CLOSING BALENCE

March Receipts Issues Balance

1st 50 @ 5 50units

10th 25units 25units

19th 60@ 6 85units

22nd 40units 45units

25th 60@ 7 105units

27th 55units 50units


11/20

USINGON FIFO

The last stock figure is 50 units-the value of this 50

units will be recorded in an end of the period

balance sheet and will be closing balance in the

calculation cost of sales

What value should we place on the 50 units?

On the FIFO principle we assume that the whole of

the march 1st and march 19th batches have been

used up in the three stock issues recorded

The closing balance consist of 50 units of the final

batch

Valuation :50*7=350


12/20

USING LIFO

Half the first batch of the 50 units had been used up on the10th march

40 out of 60 from the second batch was use up on the 22nd

All but 5 units of the final batch was used up on 27th march

The closing balance consist of the residue from-march 1st -25 units @5

-march 19th -20 units @6

-march 27th -5 units @7

On the principle of the valuing of the oldest remaining stock

we conclude that the value of the closing balance is125+120+35=280

notice that the closing stock figure is lower than when usingFIFO


13/20

USING AVCO

AVCO calculation is more complex since they are

continually updated

Stock is issued At the weight average cost and this

impacts upon the weight average in the next round

of the calculations


14/20

USING AVCO

March receipts issues Balance

1st 50@ 5 50units

10th 25 25units

19th 60@ 6 85units

22nd 40 45units

25th 60@ 7 105units

27th 55 55units


15/20

USING AVCO

March1st

The first batch is value at 50@ 5=250

10th Half of the batch has issue to leaving 25 units in stock

valued at 5 per units

19th The second batch is purchased at 6 per units. The totalvalue of the stock is(6*60)+(5*25)=485 or 5.71 per

units

22nd 40 units are issued at the average price from 19th march.

This leave 45 units @ 5.71 or 256

25th A batch is purchased at 7 per units. Total value of stockis now 256+420=676 or 6.44 per units.

27th The final issue is made at the above average price per

units and it leaves 50 in stock. The total value= 50 *

6.44=322


16/20

COMPARING THE RESULTS

THE CLOSING BALANE WERE AS FALLOWS:

-FIFO -350

-LIFO -280

-AVCO-322

As it is based on an average its is not surprisingthat AVCO figures is between the other two.

Remember that the closing figure appears as acurrent balance on balance sheet and as a positive

item in the profit and loss account. The choice of the stock valuations method will

impact on the asset value in balance sheet and onthe profit figure in the profit and loss account


17/20

FIFO

Advantages Disadvantages

Realistic and logical

Assuming good and valued

in order of receipt

Easy to calculate closingstock

Closing valuation is at the

most recent price

Acceptable under SSAP 9

and for tax purposes

Ensures balance sheet and

stock valuation is more

accurate

Price at which good are

issued are not necessarily

the latest prices

The cost of production isrelated to out of date prices

In time of rising price profit

will be shown as being

higher

This goes against the

concept of prudence

And increase tax liability


18/20

LIFO

ADVANTAGES DISADVANTAGES

Goods are issue at most

recent prices

Production is charged with

costs that are close tocurrent economic values

Logical assume are issue in

reverse order from that in

which they are received

Closing stock not usually atthe most recent price-

closing valued at out of date

prices

Not acceptable for tax

purposes

When stock are being run

down, issues will dip into old

stock at out of date prices


19/20

AVCO

ADVANTAGES DISADVANTAGES

Smoothes profit over a number

of accounting period

Fluctuation in purchased price

are evened out

Logical same unit bought atdifferent time have the value

Closing stock valuation close to

current market value

Difficult to calculate

Issues and stock valuation may

be at prices which never existed

Issues may not be at current

prices ans in times of inflationwill be below current prices


20/20

INTIMEOFINFLATION

FIFO LIFO

Shows lower cost

Gives a higher value for closing

stock

Ensure that stock is value at

recent prices on the balancesheet

Shows higher cost.

Gives a lower value for closing

stock

Gives a lower value for profits

Undervalues stock on thebalance sheet

Documents

Stock Valuation 23