Closing stock

Closing stock
Primary topic
Related topics
Methods and techniques

Closing stock is one of the types of calculating value of stock, the second one is opening stock. The closing stock value is goods that were unsold at the end of financial period. The value should be shown in credit side in trading account and as an asset in the balance sheet[1].

Methods of calculating the closing stock[edit]

Choosing the method of calculating closing stock is used later on in financial statements. It should not be changed without strong reason and be part of the financial policy. It has influence on calculations of profits and values in the balance sheet. There are two methods, first if FIFO (first in, first out) and second is AVCO (average). The company may choose one method for one type of stock and second one for different products. In long period of time results of both FIFO and AVCO will be the same as closing stock of one period stands for opening stock of next period. Method of calculation does not influence psychical movement of products or cash generated. The only difference is that profit is allocated differently (to different periods) depending on the method. Closing stock value is generally calculated as below[2][3]:

Opening stock + receipts (purchases) - issues (sales) = Closing stock

FIFO method for closing stock (first in, first out)[edit]

Stock value is based on the recent costs of goods received[4]:

  • Advantages are:
    • realistic method (issuing goods in order of receipts),
    • easy calculations,
    • valuation of stock takes actual costs (buying costs),
    • acceptable for tax purposes.
  • Disadvantages are:
    • calculations of cost are not necessarily based on the latest prices,
    • calculations might not represent current prices,
  • When prices are rising:
    • FIFO method will report higher profit,
    • there is more tax to pay in specific period of time,
    • will result in higher value of closing stock,
    • reported cost of sales are lower.

AVCO method for closing stock (average cost)[edit]

Stock value is based on average costs[5]:

  • Advantages are:
    • profits are smoothed out in all periods (both high and low profits),
    • purchase costs are smoothed out,
    • cost per unit do not vary greatly,
    • logical method (cost of unit is the same no matter of time),
    • stock value is similar as current market value,
    • calculations possible to be computerised so job is much easier,
    • acceptable for tax purposes.
  • Disadvantages are:
    • new average has to be calculated immediately, after each receipt with accuracy to several decimal places,
    • due to using average values, stock values are at costs level that has never existed,
    • when prices will increase, average will be shown inaccurate prices.
  • When prices are rising:
    • AVCO method will report lower profit,
    • there is less tax to pay in specific period of time,
    • will result in lower value of closing stock,
    • reported cost of sales are higher.

Footnotes[edit]

  1. Reddy M. K., Saraswathi S. (2007) p. 375
  2. Cox D., Fardon M. (2009), p.206-207
  3. Kelly J. E., Barrow P., Epstein L. (2016), p.170
  4. Cox D., Fardon M. (2009), p.206-207
  5. Cox D., Fardon M. (2009), p.206-207

References[edit]

Author: Anna Bodura