Accounting policy for inventories of Xeta Enterprises states that inventories are valued at the lower of cost determined on weighted average basis or net realizable value. Which accounting principle is followed in adopting the above policy? 

Solution

The principle of prudence requires that when making accounting estimates or determining the value of assets or liabilities, a degree of caution should be exercised. This means that potential losses should be recognized in the financial statements, even if they have not yet occurred, while potential gains should only be recognized when they are realized. In the case of inventories, the principle of prudence suggests that inventories should be valued at the lower of cost or net realizable value to ensure that the carrying amount of inventories in the financial statements is not overstated.