Valuation of closing stock of items handled on behalf of the Government

where the profits and/or losses are borne by the Government

1.The Government of India has entrusted a Government Company, in public interest, certain essential items to be purchased and sold on its behalf, periodically, with the stipulation that the profit and/ or loss on those items will be on the Government Account. While entrusting such items, the Government spells out, as the case may be, either the quantity to be purchased or quantity to be sold and/or quantity to be kept in stock. The procurement and/or issue prices for such items are also determined by the Government. According to the understanding, the profit/loss on such items will be paid/reimbursed after the disposal of the goods.

2.The company is handling export and import of sugar on behalf of the Government, the profit and/or loss on which is passed on to the Government. Accordingly, the company has valued its closing stock, since the year 1979-80, at cost, although the market price was lower. The accounting policy in this regard has been disclosed in the annual accounts for the year 1983-84, under “Accounting Policies”.

3. The company has now been advised that the said valuation policy is not in accordance with the relevant normally accepted accounting principle according to which inventories are valued at the lower of historical cost and net realisable value. The company however maintains that the said valuation policy is in accordance with the said accounting principle since the profit/loss is paid/reimbursed by the Government.

4. In this context, the querist has referred to para 26.5 of Accounting Standard 2 (AS-2) which states that the base stock method of valuation may be used in exceptional circumstances only. The querist is of the view that in the case of public sector undertakings, handling of items on behalf of the Government and profit or loss being entirely borne by the Government in the public interest are the exceptional circumstances. The querist further draws the attention of the Committee to para 30 of AS-2 which mentions that where the base stock method is used the difference between the value at which it is carried and the value by applying the method at which the stock in excess of the base stock is valued should be disclosed. The querist is however of the view that in the context of the query apparently it is not necessary to quantify the difference between the net realisable value and the value of stock based on base stock method under such circumstances in view of the following reasons:

(i) The procurement price and/or the release price is fixed by the Government.

(ii) If the company is allowed to sell the goods in the free market, the price of such goods will considerably increase or decrease depending on the market forces;

(iii) The profit/loss are being paid to/reimbursed by the Government only after disposal of such stocks. (No reimbursement takes place till the stock remains unsold.)

(iv) Government while entrusting to the agencies such commodities prescribes the minimum level of inventories to be held in stock and the period of stock holding and the agency cannot hold stocks beyond the limits prescribed by the Govt.

5.The querist, further draws the attention of the Committee to Para 10 of AS-2 which states that the base stock formula proceeds on the assumption that a minimum quantity of inventory (base stock must be held at all times in order to carry on business. Inventories upto this quantity are stated at the cost at which the base stock was acquired.

6. The querist has argued that in case the stocks are valued at net realisable value when the cost is more, the trading account will show a lower trading profit. To obviate this, an entry has to be passed in the accounts debiting the Government for the difference between the cost price and the net realisable value. In the view of the querist this entry is not authenticated by fact and does not represent the correct position of the state of affairs of the company because the Government does not reimburse losses when the goods are in stock; reimbursement takes place only when the goods are sold or disposed off.

7.The querist has sought the opinion of the Expert Advisory Committee whether the policy followed by the company with regard to valuation of sugar stock, the profit/loss in respect of which is paid to/reimbursed by the Government, is proper.

Opinion April 7, 1986

1.The Committee is of the view that, on the basis of the facts of the query, since the goods are in substance dealt with by the company on behalf of the Government in the ordinary course of business and the profit/loss thereon is paid to/ reimbursed by the Government, cost and net realisable value are in effect the same in this case.

2.On the basis of the above, the Committee is of the opinion that the said policy of valuation of inventories followed by the company is proper.

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