Bona fide change in closing stock valuation to direct cost upheld without reopening opening stock valuation.

A bona fide and permanent change in stock valuation from total cost to direct cost, adopted under recognised commercial practice and the mercantile system, could be applied to closing stock for the year of change without revaluing opening stock. The Court held that any temporary revenue impact from the first-year transition did not invalidate the method, because the distortion would adjust in later years and the revised basis remained sound accounting practice. The addition made by the Revenue on the valuation difference was therefore not sustainable.

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Issues: Whether the assessee, having bona fide changed the method of valuing closing stock from total cost to direct cost on a permanent basis, was entitled to have the closing stock for the relevant year valued on the new basis without revaluing the opening stock, and whether the addition made on account of the difference in valuation was sustainable.

Analysis: The assessee had consistently followed the mercantile system and altered only the basis of valuation of certain stock items from total cost to direct cost. The change was found to be bona fide, intended to operate permanently, and supported by recognised commercial practice. The Court accepted that, where a new valuation method is introduced for the first time and is to be followed in future years, the closing stock may be valued on the new basis even though the opening stock remains on the old basis. The fact that the change may cause a temporary distortion or be prejudicial to the Revenue in the first year was held not to be a valid ground to the change, since the effect would be adjusted in subsequent years and the method did not cease to be sound commercial accounting practice.

Conclusion: The assessee was entitled to adopt the direct cost method for the closing stock for the relevant year, and the addition made by the Revenue on account of revaluation was not sustainable.

Final Conclusion: The reference was answered in favour of the assessee, affirming that a bona fide and permanent change in stock valuation method can be applied to closing stock for the year of change without reopening the opening stock valuation.

Ratio Decidendi: A bona fide and permanent change in the method of valuing closing stock, if based on recognised commercial practice, may be applied from the year of change to closing stock alone, and a temporary effect on revenue cannot by itself justify rejection of the change.

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