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Inventory and IAS 2 Valuation of Inventory – Example 5 – ACCA Financial Accounting (FA) lectures

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  1. Hello,

    thank you for amazing lectures but it seems I have a doubt in the example 5 with the Avco method.

    As you explained the the total of remaining inventory is calculated with the average cost from previous total of units.
    However, in the Kaplan study text they explained Avco as the remaining inventory is calculated by less the cost of recent sale at average cost from the previously held total cost.

    Both the approaches give different figures like lets see the ‘example 5 in your lecture’ first point of sale with your method and then Kaplan:

    Your method:
    – Total inventory till recent purchase i.e as of 10th Nov = opening inv(300 @ $12) + (400 @ $12.50) = 700 units with total cost of $ 8600
    – Less 500 units sold on 14th Nov = 200 units closing inventory( assuming accounting period ends here) total cost @ avco $12.29 is “$2458”

    Kaplan study text approach
    – Total inventory as of 10th Nov = same as above 700 units giving total cost $ 8600 however the next step closing inventory is slightly different.
    – Less cost of sale on 14th Nov of 500 units with Avco from the total cost rather than evaluating the balance units total cost i.e
    500 units @ $12.29 = $ 6145 less total cost $ 8600 giving the total closing inventory of 200 units valued “$ 2455″(8600-6145)

    Both method give of separate answers relating to valuation of closing inventory. I understand the reason is calculation method being slightly different, but my doubt is which method should give the accurate answer as this will lead to confusion and can not spend time doing both ways.

    • The difference is purely due to rounding the unit cost to the nearest cent. In both real life and in exams the difference is irrelevant and nobody is worried about just $3. In exams, the way the ‘problem’ is avoided is either by the question making sure that things divide exactly (so no rounding problem) or by asking for answers to (for example) the nearest $10.

      • Thank you so much Professor, I take it that also means either way of calculation does not make a difference then. You are the best!!

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  3. Unit costs are common if you sell high value items, like “aston martin” cars, for example. Then dealer knows for sure how much he/she had paid car manufacturer for each and every unit in stock. For low value items, like pencils, no point to keep such records.

  4. Hello Sir,

    While I was solving inventory questions from Kaplan exam kit, I found out slightly different Average cost method over there.
    Question was to compare inventory value using “FIFO” with “periodic weighted average” method.
    If I use their Average cost method for Example 5 then it will be like

    =>300+400+400+400 = 1500 units
    =>(300×12)+(400×12.50)+(400×14)+(400×15) = 20200
    =>20200/1500 = $13.46
    =>So value of the closing inventory = 500 x 13.46 = 6733.33

    Please could you explain which method should be used in exams ?

    Many thanks,

    • By all means do that if you want and you will end up with the same answer. If it is FIFO then we are always selling the oldest first, and therefore the inventory remaining must always be the most recent purchases. It is nothing like LIFO (which is not allowed in financial accounting anyway).

  6. Hello John,

    I need to ask that suppose if we have 500 closing inventory in which 300 bought at 28th Oct $15 each and 200 bought at 30th Oct $14 each. When we get the most recent inventory cost, don’t you think that due to valuing inventory at low cost the balance sheet will be gone understated and the due to not take actual prices may be SPL makes low profit?

  9. Hi John,

    Just a quick question regarding FIFO as I do not undarstand why units bought on the 25th & 20th November have been used rather than the ones bought first i.e on the 10th & 20th of November.

    Can you please advise?

    Many thanks

    • Hi Anya,

      Since the assumption is that those purchased first are also sold first, the remaining units in inventory will always be the most recently purchased, i.e. units will be valued at the cost of the latest purchase/s since these will be the unsold units.

      • Hi Maxcw,

        I thought that FIFO means first in first out and units purchased first i.e on the 10th November will be sold first but it seems that in the above exapmle units last bought i.e 25th November were sold first but this method is called LIFO as far as I remember.

      • Hi Anya,

        FIFO does mean first in, first out. So when an order is received and units are sold, the ‘first in’ are sold, leaving the ‘last in’ in inventory. Remember the purpose of the exercise is to value inventory remaining, not the units sold.

        Since the ‘last in’ are not being sold, they are valued as the remaining inventory.

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