In the U.S. inventory valuation is the dollar amount associated with the items contained in a company's inventory. Initially the amount is the cost of the items defined as all of the costs necessary to get the inventory items in place and ready for sale. (The costs of selling and administration are not included in the cost of inventory.)
Since the inventory items are constantly being sold and restocked and since the costs of the items are constantly changing, a company must select a cost flow assumption. Cost flow assumptions include first-in, first-out; weighted average; and last-in, first out. The company is expected to be consistent in its application of the selected cost flow assumption.
A manufacturer's inventory valuation will include the costs of production, namely direct materials, direct labor, and manufacturing overhead. Manufacturers are also required to consistently follow their cost flow assumptions.
Inventory valuation is important in that it affects the cost of goods sold, a significant amount reported on the company's income statement. Inventory is also an important component of a company's current assets, working capital, and current ratio.
If the net realizable value of a company's inventory declines to a value which is less than its cost, the company is usually required to report the inventory at its net realizable value. (Net realizable value is the expected selling price minus the the costs of completion, disposal, and transportation.)