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# MGT 401 FINANCIAL ACCOUNTING II, GDB NO. 02 (FALL 2013), TOTAL MARKS: 05, DUE DATE: JANUARY 27, 2014

MGT 401

“Measurement of Inventories IAS-2”

SWAN Shoes Ltd. was established in 1980. Initially, company was engaged in leather processing, manufacturing of shoes and its trade in local market. In 1998, it expanded its business internationally & started exporting shoes. Main target of the company were European countries. In today’s competitive environment, companies across industries are emphasizing on inventory valuation. Management of the company is interested in changing its inventory valuation technique from FIFO to weighted average. Prices of leather are increasing day by day. Selection of method used for inventory valuation does not change the reality of economic transactions, that have occurred but it is taken into consideration for financial reporting propose.

Accountant of SWAN Shoes Ltd. reported following differences if company switches to weighted average method from First-In-First-Out method.

 Year Inventory First-In-First-Out (Rs.) Weighted Average Method (Rs.) 2002 Opening 34,000 30,000 2002 Closing 45,000 51,000 2003 Closing 65,000 60,000 2004 Closing 60,000 66,000

Requirements:

Q1. What will be the effects of above figures on the profits of the respective years due to change in the basis of valuation? Give arguments to justify your answer.    (Marks 4)

Q2. In the year 2004, 1/3rd of the inventory was damaged. It has been estimated that it will now be sold at 10% less than the normal selling price which is 25% above the weighted average cost. To fetch this sale, the company has to incur Rs. 1,500 on rework of the inventory. Determine the value of the damaged inventory to be presented in the balance sheet.(Mark 1)

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### Replies to This Discussion

The value of Closing stock always have a direct positive relation with Profits of any organization. The higher the value of Opening inventory, the lower will be the profit. and higher the closing inventory higher will be the profit of any organization. In 2002, for example, switching effect will be as under:
Decline in Opening stock will cause the COGS to decline and at the same time, Closing inventory is also increased, both (opening and closing) will affect the profit figure positively...

Q2:

= 0.25*60,000= Rs.15,000 (60,000 is the opening inventory 2004 for Weighted Avrg)
=75,000(60,000+15,000)
costs on rework= Rs.1500
value of damaged inventory @ 1/3 is 1/3 * 60,000= Rs. 20,000
the value of damaged inventory in blnce sheet wlb be: 75,000-20,000-1500= Rs.53,500

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Q2:

= 0.25*60,000= Rs.15,000 (60,000 is the opening inventory 2004 for Weighted Avrg)
=75,000(60,000+15,000)
costs on rework= Rs.1500
value of damaged inventory @ 1/3 is 1/3 * 60,000= Rs. 20,000
the value of damaged inventory in blnce sheet wlb be: 75,000-20,000-1500= Rs.53,500

or

Q2. In the year 2004, 1/3rd of the inventory was damaged. It has been estimated that it will now be sold at 10% less than the normal selling price which is 25% above the weighted average cost. To fetch this sale, the company has to incur Rs. 1,500 on rework of the inventory. Determine the value of the damaged inventory to be presented in the balance sheet. (Mark 1)

Solution
the Question is what amount of Damaged stock should be included in the balance sheet not the total closing stock value. As we changed the method From FIFO to Weighted, so we will take 1/3 of 66,000 = 22000 and then will compare this amount with NRV whichever is lower will be shown in the balance sheet for damaged goods
NRV = (22000*125/100)*90/100 LESS REWORK COST
= 24750 - 1500
= 23250

LOWER VALUE IS 22000 NOT 23250, SO VALUE OF DAMAGED STOCK WILL BE INCLUDED IN THE BALANCE SHEET 22000, IT MEANS NOT ADJUSTMENT IS REQURED TO ADJUST THE STOCK. IF NRV IS LOWER THAN THE 22000, THEN WE NEED TO TAKE NRV IN THE BALANCE SHEET AND NEED TO PASS ADDITONAL JOURNAL ENTRY PRORFIT AND LOSS A/C TO STOCK TO REDUDCE THE STOCK VALUE

Q1 Ans:

 Year Inventory First-In-First-Out (Rs.) Weighted Average Method (Rs.) 2002 Opening 34,000 30,000 Profit minimize 2002 Closing 45,000 51,000 Profit maximize 2003 Closing 65,000 60,000 Profit minimize 2004 Closing 60,000 66,000 Profit maximize

Q2 Ans:

= 0.25 x 60000 = 15000

60000 is the opening balance of 2004 in weighted avg. method.

60000 + 15000 = 75000

Cost on rework = 1500

Value of damage inventory is 1/3 x 60000 = 20000

The value of the damaged inventory to be presented in the balance sheet is:

75000 – 20000 – 1500 = 53500

Requirements:

Q2. In the year 2004, 1/3rd of the inventory was damaged. It has been estimated that it will now be sold at 10% less than the normal selling price which is 25% above the weighted average cost. To fetch this sale, the company has to incur Rs. 1,500 on rework of the inventory. Determine the value of the damaged inventory to be presented in the balance sheet. (Mark 1)

Solution
the Question is what amount of Damaged stock should be included in the balance sheet not the total closing stock value. As we changed the method From FIFO to Weighted, so we will take 1/3 of 66,000 = 22000 and then will compare this amount with NRV whichever is lower will be shown in the balance sheet for damaged goods
NRV = (22000*125/100)*90/100 LESS REWORK COST
= 24750 - 1500
= 23250

LOWER VALUE IS 22000 NOT 23250, SO VALUE OF DAMAGED STOCK WILL BE INCLUDED IN THE BALANCE SHEET 22000, IT MEANS NOT ADJUSTMENT IS REQURED TO ADJUST THE STOCK. IF NRV IS LOWER THAN THE 22000, THEN WE NEED TO TAKE NRV IN THE BALANCE SHEET AND NEED TO PASS ADDITONAL JOURNAL ENTRY PRORFIT AND LOSS A/C TO STOCK TO REDUDCE THE STOCK VALUE

I got Excellent Marks: 5.000

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