# Accounting treatment of closing inventory (final accounts-scenario 2)

Closing inventory is the total number of units of goods purchased and not sold within the same period when they were acquired. The entrepreneur/learner need to note that, the cost incurred or paid to acquire those unsold goods does not form part of purchases cost for that year. Hence need to be deducted from the total cost of purchases for that year so as to determine the exact cost of goods sold.

## Illustration

Assume the facts in scenario one, that is the total units purchased are 1070 units amounting to \$107,000 and the total number of units sold were 1000 units translating to \$250,000 sales value at the end of the year.

Required;

Determine the gross profit/loss at the end of the year 31/12/18 showing at the same time the accounting treatment of the closing inventory

Extract the balance sheet as at that date.

Solution

Again, this tutorial has used two approaches to provide solution to this illustration. That is arithmetic and accounting approach. Before we consider the two approaches, we will first internalize the matter as follows; that is, the relevant units to consider when determining gross profit is 1000 and not the 1070. Although the total cost of purchases was for 1070 units, we cannot UNEQUALLY match such cost with sales value of 1000 units. This calls for an adjustment of the purchases cost to match the sales value of the actual units which were sold. In this case we determine the Cost of goods Sold (COS). To achieve this, the cost of closing inventory (of the 70 units not sold) need to be knocked out of the total cost for all the inventory bought as illustrated herein

Arithmetic Approach

Gross Profit=Sales-COS Accounting Approach  NB: If the learner/entrepreneur makes a mistake and considers the cost of all goods bought, the gross profit will be

GP= 250,000-107,000= \$143,000

Although \$143,000 apparently appears to be gross profit and not loss, the computation is a wrong one for the accountant/entrepreneur has breached the matching principle. About the Author - Dr Geoffrey Mbuva(PhD-Finance) is a lecturer of Finance and Accountancy at Kenyatta University, Kenya. He is an enthusiast of teaching and making accounting & research tutorials for his readers.