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Inventory valuation is one of the most important task in the accounts finalization process. The difference in inventory valuation methods may sometimes lead to the distortions in the profits.  To overcome this problem,  ICAI had formulated Accounting Standard-2  (AS-2) for Valuation of Inventories. It mentions in nutshell about how to work out the cost of the products and realisable value for computing value of inventory.

This Standard deals with the determination of such value, including the ascertainment of cost of inventories and any write-down thereof to net realisable value.

AS-2 mentions that:

Inventories are assets:

(a) held for sale in the ordinary course of business;

(b) in the process of production for such sale; or

(c) in the form of materials or supplies to be consumed in the production process or in the rendering of services.

Net realizable value is the estimated selling price in the ordinary course of business less the estimated costs of completion and the estimated costs necessary to make the sale.

Normally, Inventories include:

a. Raw Materials

b. Work In Process

c. Finished Goods,

d. Consumables

e. Stores and Spares

and others

The most important part of AS-2 is

5. Inventories should be valued at the lower of cost and net realizable value."

AS-2 talks about cost and states that

The cost of inventories should comprise all costs of purchase, costs of conversion and other costs incurred in bringing the inventories to their present location and condition.”

AS-2 mentions about costs of purchase, costs of conversion and other costs but not in details. To work out the costs, Ministry of Corporate Affairs has issued nine Cost Accounting Record Rules (CARR)  (One Common CARR-2011 and eight other specific). Also (Institute of Cost And Works Accountants of India)  ICWAI has issued 13 Cost Accounting Standards and also Generally Accepted Cost Accounting Principles (GACAP)to facilitate computation of Cost of products. The compliance of  CAS and GACAP has already been mandated by companies falling under CARR. So the companies falling under CARR have to work out the cost of each of its products and margins also.

It means while working  out the cost for Inventory valuation purposes due consideration needs to be given to the cost of production being arrived at under statutory cost accounting record rules.

The attention of the readers is invited to the reconciliation statement prepared as part of annexure  to the compliance report under CARR-2011 which is given below:


Net Margin (Profit/Loss) as per Cost Accounts

(In Rupees)

A. From Produced / Manufactured Product Groups

B. From Services Groups

C. From Trading Activities

Total as per Cost Accounts

Add: Incomes not considered in Cost Accounts (if any)

Less: Expenses not considered in Cost Accounts (if any)

Add/Less: Difference in Stock Valuation

Profit/(Loss) as per Financial Accounts

Please note that this difference in stock valuation has to be approved by Board of Director’s as part of Compliance report and is to be filed with Ministry of Corporate Affairs.

CARR-2011 states that The Annexure prescribed with the compliance report, as certified by the cost accountant, shall be approved by the Board of Directors before submitting the same to the Central Government by the company

It means if any company is reporting different valuations  in Financials and Cost records, it must prepare and keep specific clarifications for that like inclusion of Excise duty in Financial Accounts or taking realisable value. The details should be maintained product wise to avoid any problems later during assessments in Income Tax.

In this article, we are restricting ourselves to the valuation of Inventories in the companies covered under Cost Accounting record Rules and practically maximum companies have been covered under the new costing regime from 3rd June 2011. All the inventory valuations for the year ending 31/03/2012 must take a note of it as now the Board of Directors has to approve the difference in Inventory Valuations in the Statutory Compliance Report to be filed with Ministry of Corporate Affairs

Earlier there were different notifications for each of the 44 industries for preparation of Cost records i.e. Cost Accounting Record Rules (CARR):

On June 3rd, 2011, Ministry of Corporate Affairs issued new notifications. With the new Cost Accounting Record Rules 2011 having been  notified by Ministry of Corporate Affairs, CARR      for 36 industries out of 44 industries have been superseded.

New Cost Accounting Record rules 2011 are applicable from year 2011-12 onwards

Now, all the companies including foreign companies which are engaged in the production, processing, manufacturing, or mining activities and which fulfill the following criteria have to mandatorily prepare Cost Records showing margin for each and every product manufactured/produced/constructed or services provided. Also the companies will be required to file Compliance Certificate with the MCA within 180 days of the close of financial year

a. wherein, the aggregate value of net worth as on the last date of the immediately preceding financial year exceeds five crores of rupees; or

b. wherein the aggregate value of the turnover made by the company from sale or supply of all products or activities during the immediately preceding financial year exceeds twenty crores of rupees; or

c.wherein the company’s equity or debt securities are listed or are in the process of listing on any stock exchange, whether in India or outside India

These rules shall not apply to the activities or products covered in any of the following rules :-

(a) Cost Accounting Records (Bulk Drugs) Rules, 1974

(b) Cost Accounting Records (Formulations) Rules, 1988

(c) Cost Accounting Records (Fertilizers) Rules, 1993

(d) Cost Accounting Records (Sugar) Rules, 1997

(e) Cost Accounting Records (Industrial Alcohol) Rules, 1997

(f) Cost Accounting Records (Electricity Industry) Rules, 2001

(g) Cost Accounting Records (Petroleum Industry) Rules, 2002

(h) Cost Accounting Records (Telecommunications) Rules, 2002

The Industries which have been kept out of the purview of CARR-2011 as given above now have come under compulsory cost audit apart from few more industries.

The Finalization of balance sheets for the year 2011-12 will start an era where Inventory Valuations will be on more scientific basis complying with Accounting Standard-2, various Cost Accounting Standards, GACAP. Also, now the responsibility of approval difference in inventory valuations as per financials and cost records has been entrusted  on  Board of Directors.

In case of any further clarifications, please feel free to contact us at navneetic@yahoo.com.

Navneet Kumar Jain


Published by

CMA Navneet Kr Jain
(cost consulting)
Category Audit   Report

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