Lecture Slides 4 Stock Valuation

8/10/2019 Lecture Slides 4 Stock Valuation

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Last Updated:31 October 2014 LMS SEGi education group 1

ACCOUNTING FOR BUSINESS

AND MANAGEMENT

WEEK 4

VALUATION (STOCK/INVENTORY)


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LEARNING OBJECTIVES

Examine different stock valuation policies and the

importance of valuing stock in hand.

Figure out the changes in Statement of ComprehensiveIncome and Statement of Financial Position arising from

usage of different valuation methods.


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LEARNING OUTCOMES

Explain and examine different stock valuation

policies.

Examine the valuation impacts on Statement of

Comprehensive Income and Statement of

Financial Position.


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Cost of Goods Sold and Its Determination

A trading firm is a business entity that purchases goods

for resale to its customers with the intent of earning a

profit.

The process of holding stock is to avoid a situation

where the business has no goods for sale when

customers want to buy them and thereby losing its

customers.

An accounting system for a trading business must

record, retain and report information about thepurchases and sales of its goods.


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Two Methods

(1) Cost of Goods Sold

using Perpetual Stock System

Used by firms selling goods that have a high individual

unit valuesuch motor vehicles, furniture and electrical

appliances.

It is a relatively easy task to maintain records of the cost

of each unit of goods and in this way determine the cost

of each unit sold.

The goods for resale records are designed and

maintained in such a way as to provide close control

over the actual goods on hand by showing exactly whatgoods should be on hand.


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Two Methods

(2) Cost of Goods Sold

using Periodic Stock System

Firms dealing in goods for resale that have a low value

per unit such as in a stationery business which has

numerous similar items, often finds that the extra cost of

record keeping under the perpetual system more than

outweighs the benefits derived.

Close control of such items is not necessary nor is it

economically sound. For these firms, the periodic stock

system should be used.


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Two Methods(2) Cost of Goods Sold


Under the periodic stock system the stock account is not

adjusted after each purchase or sale.

Adjustment is made only at the end of the accounting

period when preparing the Trading Account. At the end

of the accounting period, when the physical count of

stock in hand is taken, there is no account balance

against which the physical count can be checked. The

stock account does not show the cost of goods that

should be on hand. Under this system, no attempt is made to determine the

cost of goods sold for each sale at the time of the sale.





Instead, the cost of goods sold for all of the sales in a

period is determined at the end of the period. To do this

requires knowledge of the following:

the cost of goods on hand at the beginning of the

period (opening or beginning stock),

the cost of goods purchased during the period

(purchases), and

the cost of unsold goods on hand at the end of the

period (closing or ending stock).



Valuation of Stocks/Inventory

Business has bought goods at different prices.

Therefore, the stock valuation will therefore be based on

an accounting custom.

The threemain methodsof doing this are now shown.First In, First Out (FIFO)

Last In, First Out (LIFO)

Average Cost

Other method:Net realisable value


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First In, First Out (FIFO)

This method says that the first goods to be received arethe first to be issued. The closing figure of stock can be

calculated as follows:


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Last In, First Out (LIFO)

As each issue of goods is made they are said to be from

last lot of goods received before that date. Where there

is not enough left of the last of goods, then the balance

of goods needed is said to come from the previous lot

still unsold.


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Average Cost (AVCO)

With each receipt or goods, the average cost for each

item of stock is recalculated.

Further issues of goods are then at that figure, until

another receipt of goods means that another

recalculation is needed.


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Average Cost (AVCO)


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Net Realisable Value

In ensuring that stock is not overvalued or undervalued,

net realisable value is calculated. The net realisable

value of stock is calculated as follows:

Net realisable value = Saleable value (Selling value) -

Expenses needed before completion of sale (cost of

delivery to the sellers shops)

If the net realisable value of stock is less than the cost of

the stock, then the figure to be taken for the final

accounts is that of net realisable value.


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Assume that an art dealer has bought only two paintings

during the financial year ended 31 December 20X7. He

starts off the year without any stock, and then buys a

genuine masterpiece for RM6, 000, selling this later in

the year for RM11, 500.

The other is a fake, but he does not realise this when he

buys it for RM5, 100, only to discover during the year

that in fact he had made a terrible mistake and that the

net realisable value is RM100. The fake remains unsold

at the end of the year. The trading accounts wouldappear as below (a) if stock is valued at cost, and (b) if

stock is valued at net realisable value.


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Method (a) ignores the fact that the dealer had a bad

trading year owing to his skill being found wanting in

20X7.

If this method was used, then the loss on the fake would

reveal itself in the following year's trading account.

Method (b), however, realises that the loss really

occurred at the date of purchase rather than at the date

of sale.

Following the concept of prudence accounting practice

chooses method (b). At one time the terminology was`lower of cost or market value'. Changing it to `lower of

cost or net realisable value' gives a more precise

definition to the terms used.


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Stock Groups and Valuation

If there is only one sort of goods in stock, calculating the

lower of cost or net realisable value is easy.

If we have several or many types of goods in stock, we

can use one two ways of making the calculation.

From the information given in table below, we will

calculate the stock in two different ways; the category

and article method.


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Category Method

The same sorts of

items are put togetherin categories. Thus,

articles 1, 2 and 3

televisions and shown

as category A. Articles4, 5 and 6 are radios

and shown as category

B. Articles 7, 8 and 9

are videos and shown

as category C.

Calculation shown in

the next slide.

Stock as at 31 December 20X7

Article Different

categories

Cost (RM) Net

realisable

value (RM)

1

2

3

4

56

7

8

9

A

A

A

B

BB

C

C

C

100

120

300

180

150260

410

360

420

80

150

400

170

130210

540

410

310

2, 300 2, 400

Articles 1, 2 and 3 are televisions. Articles 4, 5 and

6 are radios. Articles 7, 8 and 9 are videos.


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Category Method


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Article Method

By this method, the lower of cost or net realisable value

for each article is compared and the lowest figure taken.

From the previous table, this gives us the following

valuation:

Articles Valuation

RM1 80

2 120

3 300

4 170

5 130

6 2107 410

8 360

9 310

2, 090

Stock as at 31 December 20X7

Article Differentcategories

Cost (RM) Netrealisable

value (RM)

1

2

3

4

56

7

8

9

A

A

A

B

BB

C

C

C

100

120

300

180

150260

410

360

420

80

150

400

170

130210

540

410

310

2, 300 2, 400


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Davies, T. and Pain, B., (2002), Business Accounting and Finance, 2002, McGraw

Hill (ISBN 0-07-709825-0).

Arnold, J., Hope, T. and Southworth, A., and Kirkham, L., (1994), Financial

Accounting, 2nd Edition, Prentice Hall International.

Berry, A. and Jarvis, R. (1999), Accounting in Business Context, 3rd Ed, ThompsonBusiness Press.

Berry, A. (1999), Accounting: an Introduction, 2nd Edition, Thompson Business Press.

Glautier, M.W.E and Underdown, B., (2001), Accounting Theory and Practice, 7th

Edition, Prentice Hall.

Holmes, G. and Sugden, A., (1999), Interpreting Company Reports and Accounts, 7th

Edition, Financial Times/Prentice Hall. Drury, C. (2001) Management Accounting for Business Decisions, International

Thomson Business Press.

Drury, C. (1998), Costing An Introduction, 4th Edition, International Thomson

Business Press.

Williamson, D., (1996), Cost and Management Accounting, Prentice Hall.

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Lecture Slides 4 Stock Valuation