The Basis of the Valuation of Inventory (Cambridge International IGCSE Accounting)

Cost & net realisable value

What is the cost and net realisable value of inventory?

• The cost of inventory is the total cost to the business of obtaining goods

  • The purchase cost of the goods
  • Plus the cost for carriage inwards

• The net realisable value (NRV) of inventory is the net amount the business is likely to receive when selling the goods

  • The selling price of the inventory

  • Minus any selling expenses

    • Such as the cost of repairing damaged goods

What is the basis for the valuation of inventory?

• Inventory is valued at the lower value between:

  • The cost
  • The net realisable value

• This method of valuation complies with the accounting principle of prudence

  • The value of the inventory(asset) is not overstated
  • The **profit **is not overstated

• For most inventory, the** cost will be the lower of these values;** however, there are some exceptions

  • Damaged goods might need to be repaired before they can be sold
  • Goods that are close to their expiration date might need to be sold at a lower price
  • The business might use lower prices to promote new products

Worked Example Chen purchased an item of inventory for $15 and paid an extra $3 for delivery charges.

Chen accidentally damages the item. If he spent $8, he could sell it for $24.

What is the value of the item of inventory?

Answer:

• Find the total cost of the item by adding the delivery charge to the purchase cost

$15 + $3 = $18

• Find the net realisable value by subtracting the repair cost from the selling price

$24 - $8 = $16

Inventory is valued at the lower value between cost and net realisable value

Final answer: The inventory is valued at $16

Inventory valuation statements

What is an inventory valuation statement?

• An inventory valuation statement shows the total valuation for the inventory of a business

• These are useful when a business sells different types of goods

• There is no fixed format, however, a table is normally used

• The statement should show:

  • The name of each type of good
  • The cost of each item
  • The net realisable value of each item
  • The quantity of each type of goods
  • The total value of each type of goods
  • The overall value of the goods

Exam Hint Use a table structure to make your workings clear to an examiner. This means that you might get follow-through marks if you make an arithmetic mistake but follow the correct process.

Worked Example Mei is a trader who sells art supplies. Mei provides the following information about her inventory at 29 February 2024.

Item	Number of units	Cost per unit $	Carriage inwards per unit $	Selling price per unit $	Selling expenses per unit $
Paintbrushes	50	2	-	4	-
Packs of Paint	80	25	2	30	1
Easels	5	30	5	40	8

Calculate the value of the inventory at 29 February 2024.

Answer:

• Find the total cost per unit by adding together the cost per unit and the carriage inwards per unit
• Find the net realisable value per unit by subtracting the selling expenses per unit from the selling price per unit
• Value each unit at the lower of the cost and the net realisable value
• Multiply the value per unit by the number of units to find the total value for each item
• Add together the total values for each item

Item	Number of units	Cost $	Net realisable value $	Value per unit $	Valuation $
Paintbrushes	50	2	4	2	50 × 2 = 100
Packs of Paint	80	25 + 2 = 27	30 - 1 = 29	27	80 × 27 = 2 160
Easels	5	30 + 5 = 35	40 - 8 = 32	32	5 × 32 = 160
Total					2 420

Final answer: The total valuation of the inventory is $2 420