Factors influencing the choice of an inventory valuation model
The three commonly used inventory valuation models are a weighted average method, last-in-first-out (LIFO), and first-in-first-out (FIFO) (Warren, 2013). The type of inventory valuation model selected by the company affects the cost of sales and the balance of the inventory reported in the statement of financial position. There are several factors that companies take into account when selecting an inventory valuation model. The first factor is the product type. Products with short shelf life will require a valuation model that will take into account the life span of the products. Thus, FIFO is recommended for perishable products. On the other hand, LIFO is used for commodities that are bought based on the expiration date because consumers buy the most recent commodities.
The second factor is the product cost. Products that have volatile prices will require the use weighted average method because it will take into account the changes in price over a specific financial period. Secondly, companies that deal with high-value products may require a different policy for valuing inventory such as FIFO. The third factor is the lead time. The duration between the time an order is placed and the time the commodities are delivered affects the selection of the valuation model. A company will select the weighted average method if the lead time varies. The fourth factor is the tax savings that are likely to arise from the method of valuation selected. In this case, a company will select a valuation model that will result in a lower cost of ending inventory. LIFO method results in a low cost of ending inventory results in higher cost of sales, low profit, and low taxes (Weil, 2012).
Inventory valuation model used by Al Meera Consumer Goods Company Q.S.C.
Al Meera Consumer Goods Company is based in Qatar and it deals with consumer goods. The main operations of the company entail “wholesale and retail trading of a variety of consumer goods, owning and managing consumer outlets, and trading in foodstuffs and consumer goods” (The Financial Times LTD, 2013, p. 1). Further, the company operates three segments these are, “retail segment, investment segment, and leasing segment” (The Financial Times LTD, 2013, p. 1). Currently, the company owns nine subsidiaries (Al Meera Consumer Goods Company Q.S.C., 2013). Most of these subsidiaries are located within Qatar. The company is keen on increasing its global presence through expansion into global markets.
The inventories in the balance sheet are reported at the lower cost and net realizable value (Al Meera Consumer Goods Company Q.S.C., 2013, p. 29). The cost of the inventory reported include expenses such as the price of the commodities, import duties, transport costs, and handling cost (Al Meera Consumer Goods Company Q.S.C., 2013, p. 29). Further, the company makes use of the first-in-first-out method in estimating the cost of inventory. Further, net realizable value is calculated by the difference between the selling price and related variable selling expenses (Al Meera Consumer Goods Company Q.S.C., 2013, p. 29). Based on these policies, the balance of inventory reported in 2011 was QR87,702, 963 while in 2012 was QR116,018,879 (Al Meera Consumer Goods Company Q.S.C., 2013, p. 36). The balance reported comprised of the sum of finished goods, inventories consumable, and spare parts less allowance for slow-moving inventories (Al Meera Consumer Goods Company Q.S.C., 2013, p. 36).
References
Al Meera Consumer Goods Company Q.S.C. (2013). Annual report 2012. Web.
The Financial Times LTD. (2013). Al Meera Consumer Goods Co QSC.Web.
Warren, C. (2013). Financial and managerial accounting. USA: Cengage learning.
Weil, R. (2012). Financial accounting: An introduction to concept methods and uses. USA: Cengage Learning.