Inventory Value Study Sheet

Posted by Professor Cram in Inventory

Accounting Terms

  • Cost of Goods Sold is a measure of the direct cost involved in acquiring or producing goods that are, in turn, sold. The methods of measuring cost of goods sold are explained below, but a company's chosen method must be consistent with their method of measuring inventory value.
  • Inventory represents finished and unfinished goods which have not yet been sold by a company.
  • Inventory Valuation is a measure of the value of a comapny's unsold inventory. The methods of measuring inventory value are explained below, but a company's chosen method must be consistent with their method of measuring cost of goods sold.

Inventory Valuation

The value of a company's inventory can be calculated using one of the following methods:

Average Cost Method

  • Assumes an inventory of non-unique goods (that is, every one is similar to every other one)
  • Not generally recommended where prices are volatile
  • Tends to even out price fluctuations over time
  • Uses the average unit cost to calculate the value of current inventory:
  • Average Unit Cost = (Total Unit Cost)/(Total Quantity of Units)

    Inventory Value = (Average Unit Cost) x (Units of Current Inventory)

FIFO (First In, First Out) Method

  • Assumes an inventory of non-unique goods (that is, every one is similar to every other one)
  • Generally preferred inventory valuation method
  • Assumes inventory is sold in the order that it is stocked, with the oldest goods sold first and the newest goods sold last
  • Uses the unit cost per batch of acquired/produced goods, and counts the inventory backwards from the newest batch:
  • Unit Cost per batch = (Cost/Quantity) for each batch

    Inventory Value = (Unit Cost x Quantity) for each batch

LIFO (Last In, First Out) Method

  • Assumes an inventory of non-unique goods (that is, every one is similar to every other one)
  • Is highly regulated (or, in some cases, illegal) as a method for measuring inventory value
  • Assumes newest inventory is sold first, with the oldest goods sold last
  • Uses the unit cost per batch of acquired/produced goods, and counts the inventory forwards from the oldest batch:
  • Unit Cost per batch = (Cost/Quantity) for each batch

    Inventory Value = (Unit Cost x Quantity) for each batch

Inventory Rates and Ratios

These rates and ratios can be useful in analyzing a company's inventory levels:

Inventory Turnover Rate At Cost

  • Measures inventory turnover over a period of time, as defined by the starting and ending dates
  • Given the cost of goods sold, starting inventory value at cost, and the ending inventory value at cost (all from the balance sheet):

    Average Inventory Value at Cost = (Starting Inventory + Ending Inventory)/2

    Rate = (Cost of Goods Sold)/(Average Inventory Value at Cost)

Inventory Turnover Rate At Retail

  • Measures inventory turnover over a period of time, as defined by the starting and ending dates
  • Given the cost of goods sold, starting inventory value at cost, and the ending inventory value at cost:

    Average Inventory Value at Retail = (Starting Inventory + Ending Inventory)/2

    Rate = (Net Sales)/(Average Inventory Value at Retail)

Inventory Turnover Ratio

  • Demonstrates the company's ability to convert inventory into cash, and is one predictor of a company's liquidity
  • Generally a higher ratio is better, but values should be compared with industry averages for the best interpretation
  • Given a company's sales (from the income statement) and inventory value (from the balance sheet):
  • Inventory Turnover Ratio = (Sales)/(Inventory Value)

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One Response to “Inventory Value Study Sheet”

  1. aynie says:

    how can i compute the cost of unsold lots at the end of the year if i have the ff. information :

    landmark company purchased a tract of unimproved land for Php. 26, 850. the land was improves and subdivided into residential lots at a cost of Php. 43, 500. these lots were all of the same size but owing to differences in location were offered for sale at different prices as follows:

    group no. of lots sales price per lot
    1 20 3,000,000
    2 10 2,500,000
    3 10 2,000,000

    lots unsold at the end of the year

    group 1 5 lots
    group 2 4 lots
    group 3 3 lots

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