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  1. Sir,

    In the FIFO method,in the example 5 how can we identify that 500 units have been left and secondly at 28 Nov transaction shows the sell of 100 units, so that 100 units must have been sold from the recent purchase which is 25 Nov and then the cost must be of that date, then why we took 100 units cost from 20 Nov purchase?

    • Given that they started with 300, bought a total of 1200 and sold a total of 1000, then the inventory left must be 300 + 1200 – 1000 = 500 units.

      With FIFO it is always the oldest units that are sold first – not the most recent purchases.

      I do suggest that you watch the free lecture again, because I do explain all this in the lecture.

  3. Dear Sir,

    Can you please kindly help explain why Cost of materials is calculated by adding up Opening inventory and Purchases, and then less Closing inventory? Thank you!

    For you reference, I have this question from the latest PPB practice and revision kit:

    6.16 A company has decided to switch from using the FIFO method of inventory valuation to using the
    average cost method (AVCO).
    In the first accounting period where the change is made, opening inventory valued by the FIFO method
    was $53,200. Closing inventory valued by the AVCO method was $59,800.
    Total purchases and during the period were $136,500. Using the continuous AVCO method, opening
    inventory would have been valued at $56,200.
    What is the cost of materials that should be included in the statement of profit or loss for the period?
    A $129,900
    B $132,900
    C $135,900
    D $140,100

  5. Dear sir,

    Thank you very much for valuable lecture on valuing of inventory, can you just give brief idea or examples of what overhead expenses and replacement cost of an inventory is?

    and is it right to include depreciation expense (for financial year) in overall cost of inventory at end of year. If yes, then how to deal with depreciation expense for year in income statement and balance sheet.

    • Overheads are the extra costs over and above the costs of the materials and labour. For the valuation of inventory we only include production overheads, which are overheads in the factory (such as factory rent, electricity, depreciation of machines.)

      We do include depreciation in the cost of inventory (the calculation of how much to include is not relevant for Paper F3 – that is examined in Paper F2).

      The valuation of inventory has no effect on the depreciation charged in the Statement of profit or loss, or on the accumulated depreciation appearing in the Statement of financial position. The entries relating to this are dealt with in chapter 6 of the lecture notes (and the lectures that go with it) and are not affected by the valuation of inventory.

    • Replacement cost is the current cost of buying new. It is not relevant for IAS2 – we value at the lower of original cost and net realisable value. However it can be mentioned in questions in order to check that you know that it is not relevant.

      LIFO is not an allowable method in IAS2 (and this is mentioned in the lectures).

  8. Sir u didn’t explained some terms and concepts regarding Question 2 in test section??? Similarly for question 1 it was also not explained in double entry what we will debit and credit if owner with drawals inventory instead of cash.

    • If you have watched all of the previous lectures including all of the lectures on inventory, then of course I have explained all the terms and concepts! (The lectures are supposed to be watched in order – they are a complete course).

      Have you actually read section 5 of the Lecture Notes?

      Inventory should be valued at the lower of cost and net realisable value. Cost is the cost of actually producing the goods. Carriage inwards (as I explain in the lecture) is an extra cost of getting the material in order to produce the goods. Carriage outwards is a cost of delivering to customers and therefore not a cost of producing.
      Depreciation of plant in the factory is a cost of producing (the factory is where they are produced!)
      Administrative costs are not costs of actually producing.

      Every single question in the real exam is different – the examiner is checking that you understand and that you have not just learned rules. It is impossible therefore to teach an answer to every possible question (or to learn an answer to every possible question) – this is a professional exam!!!

      For question 1, you will know from the earlier lectures that any drawings means that there will be a debit to the drawings account
      You will know from the lectures on inventory, that the amount in the inventory account is the balance in inventory at the end of the year. (and the owner is certainly not going to wait until the inventory has been counted and then take some – they will obviously have taken it during the year!!)
      Whatever was bought would have been debited to purchases. If the owner took some of them then we need to credit purchases because only the remaining amount was actually used by the business.

      Again, the questions in the exam will be checking that you understand. You cannot simply learn rules 馃檪

    • 1. is correct (average cost and FIFO are both allowed)
      2. is not correct all production costs must be included
      3. is not correct (replacement cost is not allowed, even if it was lower)
      4. is correct – see the lecture. this is one of the methods allowed if the other methods are not practical.

      So the answer is C

  10. hi sir if i am correct any time you are give a value for closing inventory the value include closing inventory at cost
    so you need to subtract the cost and put the net relisable value if it is lower

      • I added up the total purchases and the total sales that are given in the question.

        (I assume that you do have the free lecture notes in front of you?)

      • sorry sir , i have a bit of confusion about this , so if i am correct , we only use one of the four policies of valuation , FIFO ,Average Cost .. etc if the cost is lower than NRV ? right

      • We always value at the lower of cost and net realisable value.

        To determine the cost we can use any of the four ways listed in the lecture notes (and explained in the lectures), although the idea of using selling price less a margin is only allowed if the other three are not possible.

  11. I’m sorry but in test 3 I don’t understand the logic.
    The FIRST IN were the 700 from last year. Then the next purchases were 500 engines July 1st 07. Then the LAST purchases were for 300 engines on 1st Feb 2008.
    So you seem to be taking the last in, then the previous in on july 1st 07 then finally the first in from last year.
    Please explain why your answer is correct when it seems like you are taking the latest purchases as your first calculation then finally taking 50 from last year’s (the first in) 700 at the end of your calculation.

    • FIFO assumes that whenever we sell any, that we always sell the oldest ones first.
      Therefore any inventory left at the end is always the most recent purchases.

      I do suggest that you watch the lecture again on FIFO.

      • Ah of course. I kept thinking in terms of what was sold rather then what was left in the closing inventory.
        This is why I saw everything in the opposite way.

        Thanks!

  12. in test 2, what does carriage inwards an outwards exactly mean?
    and is depreciation of the plant considered because it affects the manufacturing of the products and is part of the manufacturing cost?

    • carriage is another word for delivery.

      Carriage inwards is cost of delivery into the factory (i.e. an extra cost of getting the materials) therefore is included in the valuation of inventory.
      Carriage outwards is the cost of delivery out of the factory (i.e. to customers) – this is not a cost of production.

      Depreciation of plant is a cost of manufacturing (it is the machines in the factory)

    • As you will have seen in the lecture, the inventory figure in the statement is the amount actually counted at the end of the financial period. The owner is not going to have waited until it was counted and then decided to take some.
      So we do not change the final inventory figure but instead we remove it from the purchases figure. Every time the business buys any it will have been debited to purchases. If some of them are taken by the owner, we credit purchases (only the balance was actually used by the business) and debit drawings (to ‘charge’ the owner).

      • Thank very much, Ive reviewed the lecture and now understand the inventory is counted at the end of each period.

  14. please can you explain about first part of this vdieo ,talking about FIFO method or LIFO Method? why you use $15 first and second $14??? for FIFO METHOD

    [On 1 November 2002 a company held 300 units of finished goods valued at $12 each.
    During November the following purchases took place:
    Date Units purchased
    Cost per
    unit
    10 November 400 $12.50
    20 November 400 $14
    25 November 400 $15
    Goods sold during November were as follows:
    Date Units sold Sales price
    per unit
    14 November 500 $20
    21 November 400 $20
    28 November 100 $20]

  16. Hi John,

    Test question 2. Please could you explain why the depreciation is included is valuing in inventory when the depreciation will then be taken off the profit in the profit and loss account?

    Thanks Rich

    • It is for the same reason that materials and labour are included (even though they are expenses in the Statement of profit or loss).
      They are part of the costs of production. However, to calculate the profit we need the cost of the goods actually sold. So we subtract from the cost of production the cost of the goods that are not sold i.e. the closing inventory.

  17. Please can you explain how 2950 is the right answer for this question?

    An inventory record shows the following details for the month of February;

    Feb 1: 50 units in stock at a cost of $40 per unit.
    Feb 7: 100 units purchased at a cost of $45 per unit
    Feb 14: 80 units sold
    Feb 21: 50 units purchased at a cost of $50 dollars per unit
    Feb 28: 60 units sold.

    what is the value of closing inventory at 28 feb using the fifo method?

    • dreamer: you misread the question. 2950 was not given and you were not asked for cost of sales!

      Jide: if you count the units, there are 60 units left at the end (50 + 100 – 80 + 50 – 60)
      With FIFO these must be the most recent purchases, so 50 of them were bought on Feb 21 at $50 each, and the other 10 were bought on Feb 7 at $45 each. (50 x $50) + (10 x $45) = 2950.

      • It is applicable to question 3, and the answer is correct.

        There were 700 units at the start of the month. They bought 800 and sold 650, so at the end of the month there were 850 units.

        Using FIFO, 300 were bought on 1 Feb; 500 were bought on 1 July, and the remaining 50 must have been part of the inventory on 1 May.

      • Mr. John, your analysis above does note equal to 188,500. Besides, using Fifo, We have 700 engines in May 2007 @190 = 133,000, then 150 engines out of 500 in July 2007 I.e 150 * 220=33000, so total value of closing inventory is 166,000. Pls correct me

      • Of course it equals 188,500 – you have not costed out what I wrote!!!

        300 bought on 1 Feb at 230 = 69,000

        500 bought on 1 July at 220 = 110,000

        50 still there from 1 May at 190 = 9,500

        69,000 + 110,000 + 9,500 = 188,500.

        (Maybe you have not checked the dates properly – the year ends on 30 April 2008)

    • LIFO is not allowed (IAS 2)

      In example 5, I have calculated it using FIFO (first-in-first-out) and using average cost.
      Both methods are allowed by IAS 2, and in the exam you can be asked for calculations using either of the two ways.

      Have you downloaded the Course Notes that go with the lectures? There you will find headings for FIFO and for Average methods (and as well as going through them in the lecture, the answers are at the back of the Course Notes).

  19. I have a question plz.

    — if the closing inventory have been understated in the year by 22500, what will be the effect on the profit this year and next year ?

    a) the current year’s profit will be OVERSTATED and next years’ profit will be understated
    b) the current year’s profit will be UNDERSTATED and next years’s profit will be overstated

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