Greenlight different to bpp textbook

zaf1987

Question 2

Insert the correct amounts into the sentence based on the following information, using the drop down options.

A business has inventories at the beginning of the year of £400,000 and at the end of the year of £450,000. During the year the business had sales revenue of £4,250,000 and cost of sales of £3,650,000, providing a gross profit of £600,000. The inventory holding period is days.

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Ive just done the above question in green light. In my textbook it gives me the calculation as

average inventory/cost of sales x 365.

Average inventory is opening inventory + closing inventory / 2.

this is what i did and i did 425000/3650000 = 42 days.

However The GreenLight answer is

Inventory holding period (in days) = closing inventories / cost of sales x 365 days = (£450,000 / £3,650,000) x 365 days = 45 days.

In my text book by bpp it states only use closing inventory if we only have the closing inventory and not both closing and opening. if we have both it advises to use average inventory.


Not sure which is correct approach?

Thanks Zaf

CeeJaySix

They're both valid approaches. Which is of absolutely no help whatsoever when it comes to exams that are computer marked. I don't know what the AAT official answer is.

In the real world you really have to consider the reasons for inventory change. For example, a company may have ordered in a large amount of inventory for a one-off project which was present at the previous year-end; this inventory was used shortly into the current period, and inventory levels returned to normal for the remainder of the year. In this case using the closing inventory would give a truer figure (for the current period - not for the previous period!). A company whose inventory varies regularly up and down significantly, for example because they buy in large batches, would get a more accurate figure using the average. If inventory levels remain reasonably constant, there's not a lot to choose between them. Bearing in mind these figures are generated for use by the management, it is down to what the company deems most useful to them.

Rachetman

I can see the confusion. I've checked with Kaplan and Osborne, and they both say to use the closing inventory figure if the opening inventory figure is not known. This is because a business can be affected greatly by seasonal factors. So an average inventories figure wouldn't be so reliable. The answer provided by AAT to the greenlight question is wrong, as they have mentioned opening inventory. Had opening inventory not been mentioned, 45 days would be the correct answer. I don't know if the question was designed to trick you in some way. There is no other information pertaining to "the business", so your answer of 42 days is correct and AAT are wrong.

zaf1987

Thank you both, its just quite frustrating when you come across things like this. you start to doubt yourself.