Explain in detail various methods of inventory valuation
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inventory valuation allows a company to provide a monetary value for items that make up their inventory. Inventories are usually the largest current asset of a business, and proper measurement of them is necessary to assure accurate financial statements. If inventory is not properly measured, expensesand revenues cannot be properly matched and a company could make poor business decisions.
Inventory accounting systemEdit
The two most widely used inventory accounting systems are the periodic and the perpetual.
Perpetual: The perpetual inventory system requires accounting records to show the amount of inventory on hand at all times. It maintains a separate account in the subsidiary ledger for each good in stock, and the account is updated each time a quantity is added or taken out.
Periodic: In the periodic inventory system, sales are recorded as they occur but the inventory is not updated. A physical inventory must be taken at the end of the year to determine the cost of goods
Regardless of what inventory accounting system is used, it is good practice to perform a physical inventory at least once a year.
Inventory valuation methods - perpetualEdit
The perpetual system records revenue each time a sale is made. Determining the cost of goods sold requires taking inventory. The most commonly used inventory valuation methods under a perpetual system are:
first-in first-out (FIFO)
last-in first-out (LIFO)
highest in, first out (HIFO)
average cost or weighted average cost
These methods produce different results because their flow of costs are based upon different assumptions. The FIFO method bases its cost flow on the chronological orderpurchases are made, while the LIFO method bases it cost flow in a reverse chronological order. The average cost method produces a cost flow based on a weighted average of goods.
Inventory accounting systemEdit
The two most widely used inventory accounting systems are the periodic and the perpetual.
Perpetual: The perpetual inventory system requires accounting records to show the amount of inventory on hand at all times. It maintains a separate account in the subsidiary ledger for each good in stock, and the account is updated each time a quantity is added or taken out.
Periodic: In the periodic inventory system, sales are recorded as they occur but the inventory is not updated. A physical inventory must be taken at the end of the year to determine the cost of goods
Regardless of what inventory accounting system is used, it is good practice to perform a physical inventory at least once a year.
Inventory valuation methods - perpetualEdit
The perpetual system records revenue each time a sale is made. Determining the cost of goods sold requires taking inventory. The most commonly used inventory valuation methods under a perpetual system are:
first-in first-out (FIFO)
last-in first-out (LIFO)
highest in, first out (HIFO)
average cost or weighted average cost
These methods produce different results because their flow of costs are based upon different assumptions. The FIFO method bases its cost flow on the chronological orderpurchases are made, while the LIFO method bases it cost flow in a reverse chronological order. The average cost method produces a cost flow based on a weighted average of goods.
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