IAS 2 –

Inventories
Agenda
Objective & Scope
Inventories
Cost of Inventories
Cost Formulas
Measurement of Inventories
Disclosures
Objective & Scope
 Objective & Scope
Objective sets out the accounting treatment for inventories.

Scope all inventories except:

• financial instruments (in the scope of IAS 32 or IFRS 9).
• biological assets related to agricultural activity and agricultural
produce till the point of harvest (in the scope of IAS 41).

Core the inventory should be recorded at the lower of cost and net
principle realisable value.

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Inventories
 Inventories
Inventories are assets:

• held for sale in the ordinary course of business

• in the process of production for such sale or
• in the form of materials or supplies to be consumed in the production process or in the
rendering of services.

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Initial recognition & Subsequent measurement

Initial Recognition

Inventories are initially recognised at cost.

Subsequent Measurement

Inventories are subsequently measured at lower of cost or Net Realisable Value.

Net realisable value (NRV) is the estimated selling price in ordinary course of business
less the estimated cost of completion and estimated costs necessary to make the sale.

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Cost of Inventories
 Cost of Inventories
Initial measurement of inventory should be at cost.

The cost of inventory includes:

1. all costs of purchase less trade discounts and rebates
2. costs of conversion and
3. other costs incurred in bringing the inventories to their present location and
condition.

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 Costs of Purchase
Costs of purchase of inventories include:

• the purchase price

• import duties
• other unrecoverable taxes
• transport costs
• handling costs
• other costs directly attributable to the acquisition of the inventory.
• Trade discounts, rebates and other similar items are deducted
Deferred settlement terms
Difference between purchase price for normal credit terms and amount paid
• recognised as interest expense over the period of financing

*Under IGAAP- Deferred settlement terms-The cost will be the purchase price under
deferred credit terms unless the contract states the interest payable for deferred terms.
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 Costs of conversion
Costs of conversion include:

• direct costs related to the production (e.g. materials and direct labour)
• indirect costs production overheads that are incurred in converting materials into
goods. Those costs can be:

– Fixed costs
indirect costs that remain relatively constant regardless of the volume of production, such as
depreciation, rent, property tax and factory management and administration costs

– Variable costs
indirect costs that vary directly/nearly directly, with the volume of production, such as
electricity, indirect materials and labour.

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Costs of conversion - Allocation of overheads
Fixed production overheads
the allocation should be based on the normal capacity of the production.

Normal capacity is the production expected to be achieved on average over a number of

periods in normal circumstances, taking into account the production loss due to planned
maintenance

Variable production overheads

the allocation to each unit is on the basis of the actual use of production facilities.

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 Other costs
Other costs incurred in bringing the inventories to their present location and
condition should be included in cost of inventory. For example storage in whiskey
distillers and specific design costs etc.

Examples of costs excluded from the cost of inventories and recognised as expense
when incurred:

• abnormal amounts of wasted materials, labour or other production costs

• storage costs, unless those costs are necessary in the production process before
a further production stage
• administrative overheads that do not contribute to bringing inventories to their
present location and condition
• selling costs.

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Cost Formulas
 Cost Formulas
• The cost of items that are not ordinarily interchangeable and goods or services produced and
segregated for specific projects should be assigned by using specific identification of their
individual costs
• otherwise, the entity should use:
– first in first out (FIFO) or
– weighted average cost (WAC).

Same cost formula for all Different cost formula may

inventories having similar be justified for inventories
nature and use with different nature or use

Apply treatment consistently once chosen

*Under IGAAP-Use of same cost formula consistently for all inventories that have a similar nature
is not mandatory. However, formula used should reflect fairest approximation of cost incurred.
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Measurement of Inventories
 Measurement of Inventories

Inventories should be measured at the lower of:

• cost
• net realisable value (NRV)

NRV is the estimated selling price less:

• the estimated costs of completion and
• the estimated cost necessary to make sale.

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Measurement techniques alternative to actual
cost
Example
ABC sells watches and its valuing its inventory at FIFO cost price at 31 st December.

Transactions held are given below:

Purchases:
March 10 x $15 each = $150
May 20 x $20 each = $400
November 15 x $25 each = $375
Sales:
April 8 x $30 each = $240
October 15 x $40 each = $600
Determine the value of closing inventory at 31st December 20x7.
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Measurement techniques alternative to actual
cost
Solution
Sales in April 8x15 = 120
Balance in April 2x15 = 30
Purchases in May 20x20 = 400
Balance in May 2x15 + 20x20 = 430

Sales in October:
From April Stock 2x15 = 30
From May Stock 13x20 = 260
Balance in October 7x20 = 140
Purchase in November 15x25 = 375
Balance in November 7x20 + 15x25 = 515

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 Net realisable value

Cost vs. NRV comparison done on item-by-item basis

When the NRV<cost, the excess is written off immediately in profit or loss

An assessment of NRV is made in each subsequent period. When there is clear evidence
of an increase in NRV, the amount of the write-down is reversed (ie the reversal is limited
to the amount of the original write-down) so that the new carrying amount is the lower of:
• cost
• the revised net realisable value.

*Under IGAAP-No specific guidance provided in AS 2 for reversal of write-down of

inventories

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 Net realisable value
Example
Company A, a cabinet manufacturer, has 100 units of raw material timber inventory on
hand at 31th December 2012 with a carrying amount of 100. The current market value of
that timber is 95.
A intends to use the timber to manufacture cabinets. A estimates costs to completion and
sale of 50 and a selling price for the cabinets of 160.
What is the Net realizable value of the inventory?

Solution
Net realizable value of timber = Sale price – cost to completion and sale
Net realizable value of timber = 160 – 50 = 110
Carrying value = 100
No loss. Inventory will be kept at 100
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 Recognition criteria

As an expense As an asset
• When inventories are sold, their • Inventory allocated to other asset,
carrying amount is recognised as an e.g., self-constructed PPE is
expense in the period in which related recognised as an expense during the
revenue is recognised. useful life of that asset
• Any write-down to NRV or reversal of
write-down is recognised as an
expense in the period in which they
occur

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Disclosures
 Disclosures

1. Accounting policies adopted, including cost formula used;

2. The total carrying amount of inventories and the entity's classifications of those carrying
amounts;
3. The carrying amount of inventories carried at fair value less costs to sell;
4. Inventories recognised as an expense during the period;
5. Amount of any write down or reversal that is recognised during the period;
6. Circumstances leading to any reversal of write down;
7. Carrying amount of inventories pledged as security for liabilities.

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Thank you for your attention
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