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I am a little confused about how inventory stolen and inventory written down is accounted for
is inventory stolen not included in cost of sales?
is inventory written down included in cost of sales?
since in bpp it is written If, at the end of an accounting period, a business still has goods in inventory which are either worthless or worth less than their original cost, the value of the inventories should be written down to that value and if we write down good to that value that means we are including that loss in cost of sales right?
somewhere else in bpp they had shown that if goods are stolen and destroyed then we should not include that goods cost in COS?
I can only explain with a simple example.
Suppose a business makes sales of $100,000. They make a profit of 20% on everything they sell. So the profit on the sales should be $20,000 and therefore the cost of sales should be $80,000.
Suppose they have no opening inventory and made purchases of $90,000. So the closing inventory should be $10,000.Suppose now that $2,000 of the inventory was lost or damaged (so the inventory left is only $8,000). If we change the inventory value in calculating the costs of sales (and therefore in calculating the gross profit), the cost of sales will be $82,000 and the gross profit will be $18,000. This is fine, except that it then looks at though they are making a profit of only 18% on what they sell. That is not true – they are making a profit of 20% on what they sell, but the other $2,000 is because of the loss.
So, neater presentation is to keep the inventory at $10,000 when calculating the cost of sales and gross profit – so the gross profit is $20,000. And then to subtract the $2,000 afterwards when arriving at the net profit.
So the end result is the same and there is no ‘rule’ as to which is better.
In the exam, the presentation will not be relevant. The questions asked to do with lost and damaged inventory are wanting to you to calculate ‘missing figures’.
To see the what I mean about questions in the exam that deal with this problem, watch my free lectures on mark-ups and margins.
yes sir understood your explanation but what if inventory wasn’t stolen or damaged but instead the value of closing inventory held decreases for some reason what happens then? then the decrease in the value of inventory how is that accounted for is the decreased value shown in the closing inventory or the original value
EXAMPLE – closing inventory worth 10000 was held by the business it was later found out inventory worth 2000 can only be sold for 500
So will 10000 be shown as closing inventory and 1500 be subtracted from gross profit
or is the 8500 shown as closing inventory?
It is the same as my previous reply. If it can be only sold for less than the cost it will be because it is damaged (or out of date, which is effectively the same).
Again, in the exam the presentation is not relevant. Have you watched my free lectures on mark-ups and margins as I suggested? The lectures are a complete free course for Paper FA and cover everything needed to be able to pass the exam well.
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