1.30 Query
(a) Valuation of Closing Stocks – 1.
The stocks at the close of the year are valued at or under cost or market value whichever is lower. There are different processes of manufacture up to the end-product. Certain types of waste products come out from different processes which have a definite value. Prior to the year 1965, in accordance with a set formula all such waste, lying in closing stock, used to be valued. No credit used to be given to the processes out of which such waste was recovered nor its value was added to the cost of the processes where it was used. In the year 1965, the corporation, in consultation with its Statutory Auditors Messrs. ABC & Co. and Branch Auditors Messrs. XYZ & Co., revised the formula according to which, besides valuing the waste in the closing stock, it was also decided to add its value to the cost of the processes where it was used, without however, giving any credit to the processes out of which it was recovered. This method of valuation continues till today. While finalising the Accounts for the year 1973, the Management of the Corporation felt that by not giving credit to the processes out of which the waste was recovered, but by charging its value to the processes where it was used, it amounted to double debit being made in the Accounts. It was also apparent that in the worsted process out of which the waste was recovered, the cost was being inflated by denying it the credit for the value of waste, as a result of which the prices of worsted remained high. On the other hand, in the case of woollen processes, where these wastes were being used, by adding its value to the cost, we were unnecessarily making our woollen products costlier. According to the Management, this was a big anomaly which required immediate rectification. The Management was of the view that either the value of the waste should not be charged to the processes where it was used or as an alternative, if we continue to charge it in the processes where it was used, we should give reciprocal credit to the worsted processes out of which it was recovered. As the Corporation proposed to revalue only the closing stocks, it was considered advisable to make full disclosure to that effect by giving a note in the financial notes in the Balance Sheet. In our view, it was not necessary to revalue the opening stocks. We would like to have your valued opinion on the following points:
(i) Is the revised system of valuation suggested by the Management better than the system evolved earlier by the Corporation?
(ii) In this a change in the accounting method or merely a refinement in the mode of valuation?
(iii) Is it necessary to revalue the opening stocks also, or will full disclosure made to this effect, including its full financial impact in the Balance Sheet, be deemed as sufficient compliance with the Law?
Opinion September 8, 1975
(i) The two alternative methods suggested by the Management are the correct ones. The method hitherto followed by the Corporation since 1965 is not in order as the financial results disclosed by adopting that method could not be correct. Even out of two alternative methods suggested by the Management, the second alternative is preferable as that would be the most scientific and correct procedure to adopt. (ii) The introduction of the new method of valuation of stocks will be tantamount to a change in the accounting method as this will result in changes in the cost items debited and credited to the various processes involved to determine the stock values. It cannot be viewed as a refinement. This would make difference only in the first year when a change is made. (iii) Full disclosure of the impact which revaluation of opening stocks will have on the financial results may be deemed to be sufficient. That the opening stocks have not been revalued on the revised basis should be clearly disclosed. When stock valuation method is changed, it is a generally accepted accounting practice to disclose the impact of the change on financial results. This disclosure is considered to be sufficient for the purposes of preparation of financial statements. Query
(b) Treatment of Unsettled claims in Accounts. The Woollen Branches of the Corporation entered into certain contracts with DGS & D, New Delhi, for supply of materials. The supplies under the contract were made during the year 1973. The contracts inter alia provided :
(a) Acceptance of Tender No. 572 : The price quoted is on the basis of 56s Combing wool at Rs. 15.47 per kg. C.I.F. and 56s Clothing wool at Rs. 12.03 per kg. C.I.F. The price will be adjusted if there is any increase or decrease in wool price as certified by AB Corporation.
(b) Acceptance of Tender No. 342 : The price of stores as given in the contract is based on the import C. & F. price of wool at Rs. 10.15 per Kg. The total value of the contract will be increased or decreased on the basis of the import C. & F. price of wool as certified by the AB Corporation and mentioned in the covering Import Licence.
During the year 1973, supplies against certain contracts were completed and even the raw material was purchased. A claim was also filed with DGS & D for the price difference. However, up to the close of the year on 31st December, the claim was neither accepted nor the amount determined. According to the procedure followed by DGS & D after all the formalities have been completed and they are satisfied in all respects, an amendment to the original (acceptance of Tender) is issued after which a formal invoice is raised on Pay and Accounts Officer. Moreover, when 5% bills of the supplies (bills for the supplies are sent in two parts—i.e., 95% which is paid on the basis of despatch documents and 5% which is paid after all the claims, disputes, or other matters concerning the supply are finally settled) were sent to the Pay and Accounts Officer, they were returned with the remarks that price was provisional and unless the price was finally determined such bills could not be paid.
As the claims were neither accepted by DGS & D nor the amount determined, the Management was of the view that no credit should be taken in the accounts for the year 1973. However, it was desired that a suitable financial note should be given in the accounts for the year 1973, explaining the position. It may be worthwhile mentioning that during the year 1972 also certain supplies to DGS & D were made against contracts which contained a price escalation clause. The approximate amount receivable on the supplies made in 1972 was adjusted in the accounts for 1972 even though the amount was not actually received in that year. Your valuable opinion is sought whether it would be correct for the Corporation to take credit for the said claims only after they have been finally settled by the DGS & D and make full disclosure to this effect in the Accounts for the year when such purchases were made and claims submitted.
Opinion September 8, 1975
According to the terms of tenders in question, the price to be charged to DGS & D was subject to “increase” or “decrease” depending upon the price fluctuations of the raw materials in question. However, it is clear that such prices have gone up and the Corporation had lodged claims for escalation of the prices with the DGS & D, although the same have not yet been finally settled. It may be true that the claims have neither been accepted by the DGS & D nor the final amount determined by them, but the fact remains that according to the Corporation, the prices of raw materials have gone up and accordingly it had lodged claims under terms of the tenders. It is quite possible that these claims are not fully entertained by the DGS & D and in case that happens, the amount ultimately found irrecoverable could be written off and charged to the Revenue Accounts. In the meanwhile, however, the correct procedure for the corporation to adopt is to debit the DGS & D with the amounts due to it under the terms of the tenders and give corresponding credit to appropriate accounts. __________________________ |