Financial Accounting · Sales and purchases

Inventory Valuation and Purchases Adjustments for ACCA Financial Accounting

Updated 11 October 2026 · Fact-checked

Cost of sales = opening inventory + purchases + carriage inwards − purchase returns − closing inventory. Carriage inwards is a cost of purchase, so it goes into cost of sales. Carriage outwards is a distribution expense. Closing inventory is valued at the lower of cost and net realisable value (IAS 2).

Understand Inventory Valuation and Purchases Adjustments

Cost of sales is the cost of the goods you actually sold in the period. You do not simply use purchases. Some goods bought are still on the shelf at the year end, and some goods sold came from last year's stock. So you adjust purchases for the movement in inventory.

Start with opening inventory, add everything it cost to buy and bring goods to their present location and condition, then take off closing inventory. What is left is the cost of the goods sold. Purchases are shown net of returns outwards (purchase returns) and trade discounts.

Carriage inwards is the cost of transporting goods you buy to your premises. It is part of the cost of getting the goods ready for sale, so you add it to purchases in cost of sales. Carriage outwards is the cost of delivering goods to customers. It is a selling and distribution expense and is not part of cost of sales.

Under IAS 2 Inventories, inventory is valued at the lower of cost and net realisable value (NRV). Cost includes purchase price, import duties and non-recoverable taxes, carriage inwards and other directly attributable costs, less trade discounts and rebates. NRV is the estimated selling price less estimated costs to complete and costs necessary to make the sale. Compare item by item (or by similar groups), not across the whole stock in one total.

When identical items are bought at different prices, you need a cost formula. IAS 2 permits FIFO (first in, first out) and weighted average cost (AVCO). It does not permit LIFO. FIFO assumes the oldest units are sold first, so closing inventory holds the latest prices. AVCO uses an average price per unit.

Key formulas to remember

Cost of sales: Opening inventory + Purchases + Carriage inwards − Returns outwards − Closing inventory; Purchases should be net of trade discounts. Carriage outwards is excluded.
Inventory valuation rule (IAS 2): Carrying amount = lower of cost and net realisable value; Apply per item or group of similar items, not to total inventory.
Net realisable value: NRV = Estimated selling price − Costs to complete − Selling costs; Selling costs include items such as commission and packaging needed to make the sale.
Gross profit: Gross profit = Revenue − Cost of sales; Errors in closing inventory change gross profit by the same amount.
AVCO unit cost: Weighted average cost per unit = Total cost of units held ÷ Total units held; Recalculate after each purchase if using the perpetual method.
Inventory error effect: Closing inventory overstated → cost of sales understated → profit overstated; The same error reverses next year as opening inventory.

How to solve Inventory Valuation and Purchases Adjustments questions

Use this order for any cost of sales or inventory valuation question.

1Read what the question asks for: cost of sales, closing inventory value, gross profit or a journal.
2List the figures: opening inventory, purchases, returns, discounts, carriage inwards and closing inventory.
3Sort carriage: inwards goes into cost of sales; outwards goes to distribution costs.
4If closing inventory must be valued, compare cost with NRV for each item and take the lower. Use the stated cost formula (FIFO or AVCO).
5Include only costs that bring the goods to their present location and condition. Exclude selling costs, general overheads and abnormal waste.
6Put the figures into the cost of sales layout and calculate.
7Check the direction: an increase in closing inventory should reduce cost of sales.
8If asked for gross profit, deduct cost of sales from revenue and sense-check the result.

Quickest way: Quick cost of sales and write-down check

When to use it: Use in objective tests when you are given a list of balances and must find cost of sales or a closing inventory value quickly.

Write: Opening + Purchases + Carriage in − Returns out − Closing.
Cross out any carriage outwards, discounts allowed and selling costs.
For each inventory item, write cost and NRV side by side and circle the lower.
Add the circled values for closing inventory.
For FIFO, closing units take the latest prices. For AVCO, use total cost ÷ total units.
Re-read the question to check the unit of the answer and whether it asks for a cost or a write-down.

Common mistakes in Inventory Valuation and Purchases Adjustments

Including carriage outwards in cost of sales
Both carriage items sound like part of buying and selling goods.
Fix: Ask who is being delivered to. Delivery to you (inwards) is cost of sales. Delivery to customers (outwards) is a distribution expense.
Comparing total cost with total NRV
It looks quicker than item-by-item comparison.
Fix: Compare each item or group of similar items. A gain on one item cannot offset a loss on another.
Adding closing inventory and deducting opening inventory
Students reverse the adjustment direction.
Fix: Remember: opening is added, closing is deducted, because closing stock is unsold.
Forgetting selling costs when finding NRV
Students use selling price as NRV.
Fix: Always deduct costs to complete and costs to sell from the expected selling price.
Using LIFO as an allowed method
LIFO is widely taught in other contexts.
Fix: IAS 2 permits FIFO and weighted average only. LIFO is not allowed.
Deducting returns outwards from sales
Returns inwards and outwards are confused.
Fix: Returns outwards go back to suppliers and reduce purchases. Returns inwards come from customers and reduce sales.

Worked examples

Example 1

For the year, a company has opening inventory $12,000, purchases $85,000, returns outwards $3,000, carriage inwards $2,500, carriage outwards $4,000 and closing inventory $15,500. Calculate cost of sales.

Show the solution

Start with opening inventory: $12,000.
Add purchases: 12,000 + 85,000 = 97,000.
Deduct returns outwards: 97,000 − 3,000 = 94,000.
Add carriage inwards: 94,000 + 2,500 = 96,500.
Ignore carriage outwards of $4,000, which is a distribution cost.
Deduct closing inventory: 96,500 − 15,500 = 81,000.

Answer: Cost of sales is $81,000.

Example 2

A business holds 100 units of product X at a cost of $20 each. The expected selling price is $26 each, with selling costs of $7 per unit. It also holds 50 units of product Y at cost $30 each and NRV $34 each. What is the closing inventory value under IAS 2?

Show the solution

Product X: NRV = 26 − 7 = $19 per unit.
Cost $20 is higher than NRV $19, so use $19.
Value of X = 100 × 19 = $1,900.
Product Y: cost $30 is lower than NRV $34, so use cost.
Value of Y = 50 × 30 = $1,500.
Total = 1,900 + 1,500 = $3,400.

Answer: Closing inventory is $3,400.

Exam tips

In multiple response questions, read how many options to select and check each carriage item against inwards or outwards.
In number entry questions, follow any rounding instruction and enter only the number, using the stated currency.
For FIFO and AVCO questions, list the purchases with dates first. Do not rely on memory of which units remain.
Look for hidden NRV information such as repair costs or commission. It usually signals a write-down question.
If the question asks for the write-down, subtract the NRV-based value from cost, not the total from the total.

Practice questions from Sales and purchases

Inventory Valuation and Purchases Adjustments: frequently asked questions

Is carriage inwards part of cost of sales?

Yes. Carriage inwards is a cost of bringing goods to their present location, so it is added to purchases and forms part of cost of sales. It is also part of the cost of inventory under IAS 2.

Where does carriage outwards go in the financial statements?

Carriage outwards is a selling and distribution expense in the statement of profit or loss. It is not included in cost of sales or inventory valuation.

Is LIFO allowed under IAS 2?

No. IAS 2 allows FIFO and weighted average cost. Specific identification applies to items that are not ordinarily interchangeable.

What happens if inventory is valued wrongly at the year end?

If closing inventory is overstated, cost of sales is understated and profit is overstated. Next year the same figure is opening inventory, so profit is understated by the same amount.