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INVENTORIES
Nature of Inventories
According to IAS 2 (PAS 2), Inventories are assets that are:
• 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.
Cost of Inventories
Cost should include all (Deloitte Global Services Limited, 2017):
• costs of purchase (including taxes, transport, and handling) net of trade discounts received;
• costs of conversion (including fixed and variable manufacturing overheads); and
• other costs incurred in bringing the inventories to their present location and condition
The cost of inventories is assigned by (International Financial Reporting Standards Foundation, 2018):
• specific identification of cost for items of inventory that are not ordinarily interchangeable; and
• the first-in, first-out or weighted average cost formula for items that are ordinarily interchangeable
(generally large quantities of individually insignificant items).
IAS 23 (PAS 23) Borrowing Costs identifies some limited circumstances where borrowing costs (interest) can
be included in the cost of inventories that meet the definition of a qualifying asset. Inventory cost should not
include (Deloitte Global Services Limited, 2017):
• abnormal waste;
• storage costs;
• administrative overheads unrelated to production;
• selling costs;
• foreign exchange differences arising directly on the recent acquisition of inventories invoiced in a foreign
currency; and
• interest cost when inventories are purchased with deferred settlement terms.
The same cost formula should be used for all inventories with similar characteristics as to their nature and use
to the entity. For groups of inventories that have different characteristics, different cost formulas may be justified
(Deloitte Global Services Limited, 2017).

Classification of Inventories
The classification of inventories usually varies depending on the type of business the firm is involved with. For
a merchandising type of business, its inventory usually comes from its purchases. This account is usually termed
as Merchandise Inventory which is the sole item of inventory appearing in the Financial Statement.
Manufacturing type of business, conversely, produce goods to sell to merchandising forms. Manufacturers
normally have three (3) inventory accounts (Kieso, 2016):
• Raw Materials Inventory – These are goods and materials on hand not yet placed into production.
• Work-in-process Inventory - The cost of the unfinished product or goods still under the production
process. The cost of these units also comprises the direct labor cost applied and the manufacturing
overhead cost.
• Finished Goods Inventory - It includes completed but unsold units on hand.
Goods included in Inventory
1. Goods in transit - Often, companies purchase merchandise that remains in transit at the end of the
fiscal period. Proper accounting for these goods depends on who has the control over the goods. The
passage of title rule is applicable in this situation (Kieso, 2016).
The following are the shipping terms essential in identifying the legal title over the goods (Kieso, 2016):
• FOB shipping point - The title passes to the buyer the moment the seller delivers the goods to the
common carrier, who acts as an agent for the buyer.
• FOB Destination – The title passes to the buyer only when it receives the goods from the common
carrier.

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• Free Alongside (FAS) - The risk of loss is transferred from the seller to the buyer at a named port
alongside a vessel designated by the buyer (Robles & Empleo, 2016).
• Cost, Insurance, and Freight - Under this shipping contract, the buyer agrees to pay all the cost of
goods, insurance cost, and freight. The risk of loss is transferred to the buyer upon delivery of goods
to the carrier (Valix, 2017).
Freight Terms
• Freight collect - This means that the carrier will collect the cost of transporting the goods to the
buyer.
• Freight prepaid - This means that the freight cost on the goods shipped is already paid by the seller.
2. Consigned goods - These are goods under consignment arrangement. Under this arrangement, a
company (the consignor) ships various art merchandise to another company (the consignee), who acts
as agent in selling the consigned goods. These goods remain the property of the consignor.
3. Segregated goods - These are specially ordered or manufactured goods based on the customer’s
preference. These types of goods, once completed, shall be considered sold and excluded from the
inventory of the seller.
4. Conditional sale and installment sale - The title has already passed to the buyer.
5. Goods sold with buyback agreement - The goods are still part of the inventory of the seller.
6. Goods Sold with refund offers - If returns are predictable, goods are excluded from the inventories of
the seller, if not, retained as part of the inventory.
Systems of Recording Inventories
Companies usually use one of the two (2) types of systems for maintaining inventory records for the cost of
inventories- the perpetual system or the periodic system (Kieso, 2016).

PERPETUAL INVENTORY SYSTEM PERIODIC INVENTORY SYSTEM

Recording Inventory records are updated regularly Inventory records are updated
periodically
Determination of ending Ending inventory is determined on the Ending inventory is determined on
inventory basis of inventory records the basis of physical stock count
Stock count Done to confirm if units held as per Done to determine the cost of goods
records sold
Control on inventory High level of control as management No control as management is
knows the quantity at any given time unaware of quantity until the end of
the period
Temporary accounts No temporary accounts are maintained. Temporary accounts like purchases,
Recording is done directly in inventory returns and sales are maintained
account. that are closed at the period end.
Cost Expensive to maintain. Need dedicated, Cheaper to maintain as it requires
trained personnel less work and workforce.
Table 1. Difference between Perpetual and Periodic Inventory System
Source: https://pakaccountants.com/courses/inventory/periodic-versus-perpetual-system

The following are the pro-forma entries to record the transactions using the two (2) systems (Robles & Empleo,
2016):
PERPETUAL INVENTORY SYSTEM PERIODIC INVENTORY SYSTEM
Purchase of Goods Merchandise Inventory xxx Purchases xxx
Accounts Payable/Cash xxx Accounts Payable/Cash xxx
Purchase returns Accounts Payable xxx Accounts Payable/Cash xxx
Merchandise Inventory xxx Purchase Returns xxx
Sale of goods Accounts Receivable/Cash xxx Accounts Receivable xxx
Sales xxx Sales xxx
Cost of Sales xxx
Merchandise Inventory xxx

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Sale returns Sales xxx Sales Returns xxx

Accounts Receivable/Cash xxx Accounts Receivable/ Cash xxx
Merchandise Inventory xxx
Cost of Sales xxx
Year-end entry to Not necessary Merchandise Inventory, end xxx
set up ending Income Summary xxx
inventory
Year-end entry to Not necessary Income Summary xxx
close beginning Merchandise Inventory, beg xxx
inventory
Table 2. Entries to record transaction using two (2) systems.
Source: Intermediate Accounting (Vol. 1), 2016

Inventory Costing Methods under Periodic and Perpetual Systems

• Specific Identification - It is a method of tracking inventory items by assigning a specific costs
associated to it from the point of purchase to the point of sale.
• FIFO Method - termed as first in, first out method. This method implies that the ending inventory
comprises the later purchases/production made by the company.
• LIFO Method - Although the IAS 2 does not permit the use of this method. This Last in, First Out method
implies that the ending inventory comprises the earlier purchases/ production.
• Weighted Average Method - uses the mixture of methods stated above.
Illustrative Problem: SPECIFIC IDENTIFICATION
JK Inc. had the following transactions in its first month of operations. (Kieso, 2016)
Date Purchased Sold or Issued Balance
March 2 4,000 @ P8 4,000 units
March 15 12,000 @ P8.80 16,000 units
March 19 8,000 units 8,000 units
March 30 4,000 @ P 9.50 12,000 units
Assume that JK Inc.’s 12,000 units of inventory consist of 2,000 units from the March 2 purchase, 6,000 from
the March 15 purchase, and 4,000 from the March 30 purchase. The ending inventory and cost of goods sold
are computed as follows:

Date No. of Units Unit Cost Total Cost

March 2
March 15
March 30
Ending Inventory

Cost of Goods Available for Sale (COGAS) [Sum of (No. of units purchased x Cost per unit) per transaction]

COGAS P
Deduct: Ending Inventory
Cost of Goods Sold P

Illustrative Problem: FIFO and WEIGHTED AVERAGE (Englard, 2007)

ABC Company has the following transactions during the year, 201A:
January 1 Beginning Balance 200 units @ P10
April 1 Purchase 400 units @ P12
May 1 Sale 250 units

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July 15 Purchase 500 units @P14

September 9 Sale 280 units
October 8 Purchase 140 units @P16
November 28 Sale 400 units
The inventory accountant needs to determine the cost of goods sold and the ending inventory balance. For
periodic system, all computations are done at the end of the period. Arrange the above information in the
following manner:
January 1 Beginning Balance 200 units
April 1 Purchase 400 units
July 15 Purchase 500 units
October 8 Purchase 140 units
Goods Available for sale 1240 units
Sold 930 units
Ending Inventory 310 units

Under the FIFO, the inventory accountant needed to account the sold items by using the earliest batches first.
Thus, the 930 units sold (cost of goods sold) consists of the 200 units at P10, the 400 units at P12, and another
330 units at P14 for a total of P11,420. The units remaining in ending inventory, therefore, consist of 170 units
(500 - 330 sold) at P14 and 140 units at P16, totaling P4,620.
Calculate the average price per unit using the formula given below:
Total cost (batch per unit x unit price)
= Average price per unit
Total units available

January 1 P
April 1
July 15
October 8
Total Cost P
Divided by units available
Average cost per unit (rounded) P

The cost of goods sold of ABC Company is P _________. (Round off to two [2] decimal places.)
Illustrative Problem: FIFO AND MOVING AVERAGE (Using the information of the previous example)
(Englard, 2007)
January 1 Beginning Balance 200 units @ P10
April 1 Purchase 400 units @ P12
May 1 Sale 250 units
July 15 Purchase 500 units @P14
September 9 Sale 280 units
October 8 Purchase 140 units @P16
November 28 Sale 400 units
Under the perpetual system, there is no need to rearrange the information in contrast to using the periodic
system. Under the FIFO method, earlier batches must be sold first before the latter batches. Therefore, the
sale of May 1 consists of the 200 units at P10 plus 50s units at P12.
So, for ease of computation, the table below shows the flow of the inventories adjusted by the effect of the May
1 sale:

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April 1 350 units (400 - 50) @ P12

July 15 500 units @ P14
September 9 280 units (sale)
October 8 140 units @ P16
November 28 400 units (sale)
As illustrated, units in April 1 purchase is decreased to 350 units. To reiterate, FIFO costing method allocates
the 250 units sold from the beginning inventory which is 200 units, and the remaining is to filled by the April 1
purchase.
Cost of Goods sold is computed using the data given below:
Cost of Goods Sold
200 units @ P10
50 units @ P12

For the sale of September 9, the 280 units are from April 1 batch of 350 units at P12. Then, the adjusted flow
of inventories affecting the September sale would appear as follows:
April 1 70 units (350-280) @ P12
July 15 500 units @ P14
October 8 140 units @ P16
November 28 400 units (sale)

The accumulated cost of goods sold as of September is as follows:

Cost of Goods Sold
200 units @ P10
50 units @ P12
280 unit @ P12

For the sale on November 28 of 400 units, 70 of these came from the April batch, while the remaining 330 came
from the July 15 batch.
Required: Using the concept learned from the previous consecutive months, answer the following questions:
1. How much is the cost of goods sold on December 31, 2018 statement of financial position? P ____________
2. What is the total ending inventory on December 31, 2018 statement of financial position? P ____________
Note: FIFO method under periodic and perpetual method will produce the same results.
Moving Average under Perpetual System using the same figures above (Englard, 2007):
January 1 Beginning Balance 200 units @ P10
April 1 Purchase 400 units @ P12
May 1 Sale 250 units
July 15 Purchase 500 units @P14
September 9 Sale 280 units
October 8 Purchase 140 units @P16
November 28 Sale 400 units

Under this method, there is a need to recalculate the average cost per unit after each new purchase. Thus, on
April 1, the average cost is calculated as follows:
200 units @ P10 = P 2,000
400 units @ P12 = 4,800
600 units P 6,800

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The total average cost (P6,800) divided by the total units (600 units) yields an average cost of P11.33. On May
1, the 250 units are sold by using this average cost.

So the cost of goods sold is computed as follows:

250 units x P11.33 = P 2,832.50
Hence, the remaining units are 350 units (600 - 250) at 11.33, totaling P3,965.5.
On July 15 the purchase of ABC Company of 500 units will require the recalculation of the average cost, as
follows:
350 units x P 11.33 = P 3,965.50
500 units x P 14 = 7,000.00
850 units P 10,965.50

The new average cost is P12.90 (P10,965.50/ 850 units).

Fill in the blanks: Complete the item on subsequent month using the previously learned concept.
On September 9, the 140 units sold used this cost, yielding the following cumulative cost of goods sold:
250 units x = P
280 units x =
P

So the remaining units are 570 units (850 - 280) on hand at P_______.
On October 8, the purchase of 140 units at P16 again requires the recalculation of average cost.
x = P
x =
P

Dividing the P______ by 710 units results in a new unit price of P____.
On November 28, 400 units of inventory was sold and the remaining inventory cost is P_______ (310 units x
P_____). The cumulative cost of goods sold is:
x = P
x =
P

Inventory Valuations
IAS 2 guides in determining the cost of inventories and the subsequent recognition of the cost as an expense,
including any write-down to net realizable value. It also provides guidance on the cost formulas that are used to
assign costs to inventories. Inventories are measured at the lower of cost and net realizable value (LCNRV).
Net realizable value is the estimated selling price in the ordinary course of business less the estimated costs
of completion and the estimated costs necessary to make the sale (International Financial Reporting Standards
Foundation, 2018).

The cost of inventories includes all costs of purchase, costs of conversion (direct labor and production
overhead) and other costs incurred in bringing the inventories to their present location and condition. When
inventories are sold, the carrying amount of those inventories is recognized as an expense in the period in which

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the related revenue is recognized. The amount of any write-down of inventories to net realizable value and all
losses of inventories are recognized as an expense in the period the write-down or loss occurs (International
Financial Reporting Standards Foundation, 2018).

Illustrative Problem. Net Realizable Value

Assume that Lorraine Corp. has unfinished inventory with a cost of P 1,900, a sales value of P2,000, estimated
cost of completion of P100, and estimated selling cost of P400. Her net realizable value is computed as follows:
P
Inventory value - unfinished
Less: Estimated cost of completion P
Estimated cost to sell
Net realizable value P

Illustrative Problem: LOWER OF COST AND NET REALIZABLE VALUE (Robles & Empleo, 2016):
The following are the major products of MS Supermarket:

Product Cost Sales Cost Units

price to sell
Carrot P 370 P 460 P 70 5,000
Meat 138 200 60 20,000
Stringed Beans 62 86 30 15,000
Squash 150 210 74 18,000

The total cost of inventory is determined as follows:

Carrot 5,000 units x P 370 P 1,850,000
Meat 20,000 units x P 138 2,760,000
Stringed Beans 15,000 units x P 62 930,000
Squash 18,000 units x P 150 2,700,000
Total P 8,240,000

The inventory value is determined as follows:

Product Cost NRV (SP Lower of Units Total
- selling cost and Inventory
expense) NRV Value
Carrot P 370 P 390 P 370 5,000 P
Meat 138 140 138 20,000
Stringed Beans 62 56 56 15,000
Squash 150 136 136 18,000
Total value of inventory P 7,898,000

Therefore, from the total cost of P 8,240,000 to total value of inventory using lower of cost and net realizable
value of P 7,898,000, there is inventory write-down amounting to P________.
Valuation Methods on Outflows of Inventories
The amount of any write-down of inventories to net realizable value should be recognized as an expense in the
period the write-down occurs. The write-down of inventory cost to lower of cost and net realizable value may be
recorded using either direct method or allowance method. (Robles & Empleo, 2016)

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Assume the following data for JK Merchandising. The company uses periodic system and first-in, first-out
method of cost allocation. (Robles & Empleo, 2016)
12/31/201A 12/31/201B
Cost P 250,000 P 260,000
Lower of cost and NRV 240,000 245,000

DIRECT METHOD ALLOWANCE METHOD

12/31/201A
Inventory 240,000 250,000
Income Summary 240,000 250,000
To record ending inventory

Loss from Decline in NRV of Inventory 10,000

Allowance to reduce inventory to NRV 10,000
To record inventory at LCNRV

12/31/201B
Income Summary
Inventory 240,000 250,000
To close beginning inventory 240,000 250,000

Inventory 245,000 260,000

Income Summary 245,000 260,000

Loss from Decline in NRV of Inventory 5,000

Allowance to reduce inventory to NRV 5,000
To record inventory at LCNRV

Assume that JK Merchandising uses the perpetual system in recording its inventories. The journal entries to
reflect valuation at the lower of cost and net realizable value are as follows (Robles & Empleo, 2016):
DIRECT METHOD ALLOWANCE METHOD
12/31/201A
Cost of Goods Sold 10,000
Inventory 10,000

Loss from Decline in NRV of Inventory 10,000

Allowance to reduce inventory to NRV 10,000

12/31/201B
Cost of Goods Sold 15,000
Inventory 15,000

Loss from Decline in NRV of Inventory 5,000

Allowance to reduce inventory to NRV 5,000

Other Estimation Methods

There are two (2) common methods in estimating the inventory value: the gross profit method and the retail
inventory method.

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Gross Profit Method

Companies take a physical inventory to verify the accuracy of the perpetual inventory records or, if no records
exist, to arrive at an inventory amount. Sometimes, taking a physical inventory is impractical. In such cases,
companies use substitute measurement to approximate inventory on hand. (Kieso, 2016)
The gross profit method of estimating inventory cost is based on an assumed relationship between gross profit
and sales or between gross profit and cost of sales. The gross profit method depends on the accuracy of the
gross profit percentage. That accuracy may be enhanced by adjustments for known changes in the relationship
between gross profit and sales or between gross profit and cost of sales and varying gross profit rates in different
departments or types of inventory. (Robles & Empleo, 2016)
The calculation of inventory under this method is as follows: (Robles & Empleo, 2016)
Beginning inventory P xxx
Add: net purchases xxx
Cost of goods available for sale P xxx

Less estimated cost of goods sold:

(a) Gross profit rate is based on sales
Net sales x (100% - gross
profit rate)
Or
(b) Gross profit rate is based on cost
Net sales/ (100% + gross xxx
profit rate)
Estimated cost of ending inventory P xxx

To illustrate, assume the following figures from Cristian Company for the six (6) months ended June 30, 201A:
(Robles & Empleo, 2016)
Inventory, January 1, 201A P 250,000
Purchases 1,000,000
Sales 1,500,000
Purchase returns 40,000
Purchase discounts 2,500
Sales returns 30,000
Sales discounts 2,000

Determine the estimated cost of inventory for June 30,201A, assuming that the company maintains a gross
profit rate of:
I. 25 % on sales; and
II. 25 % on cost of goods sold (COGS).
The cost of goods available for sale is determined as follows:
Inventory, January 1, 201A P
Add: Net Purchases
Purchases P
Purchase returns
Purchase discounts
Totals cost of goods available for sale P

Cost of ending inventory is computed as follows:

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I. 25 % on sales
Total cost of goods available for sale P
Less: Estimated Cost of Goods Sold
1,470,000 x 75%
Purchases P

II. 25 % on cost of goods sold

Total cost of goods available for sale P
Less: Estimated Cost of Goods Sold
1,470,000 /125%
Purchases P

Note: Both purchase returns, purchase discounts, and freight, are included in the computation for Cost of Goods
Sold. It lies in the context that these are actually incurred before setting up the sales price. On the other hand,
in computing for net sales using the gross profit method, only the sales return is allowed to be deducted in sales.
Sales discount and sales allowances are ignored, because they do not involve in physical flow of merchandise
back to the company. However, in rare cases, when sales discount is considered significant, sales discounts
may be considered. (Robles & Empleo, 2016)
In cases when there is undamaged or partially damaged merchandise, computation of inventory loss is further
continued as follows: (Robles & Empleo, 2016)
Estimated cost of ending inventory P xxx
Less: Cost of undamaged inventory
Realizable value of partially damaged P xxx
inventory (but not exceed cost)
Estimated inventory loss xxx xxx
xxx
Illustrative Problem: ADAPTED (Robles & Empleo, 2016)
On September 30, 201A, a Typhoon Ompong caused great damage on the warehouse of JKL Company. The
company incurred a great loss on its inventory. In estimating the damage caused by the typhoon, the accountant
gathered the following information:
January 1, 201B to the 201A
date of flood
Merchandise Inventory, beg. P 400,000 P -
Purchases 2,380,000 2,240,000
Purchase Returns 60,000 40,000
Sales 3,120,000 2,400,000

At the beginning of 201B, the company changed its policy on the selling prices of the merchandise to produce
a gross profit rate of 5% higher than the gross profit rate in 201A.
Undamaged merchandise marked to sell at P100,000 and damaged merchandise marked to sell at P30,000
were salvaged. The damaged merchandise had an estimated realizable value of P8,000.
Solution:
I. Compute the gross profit rate for year 201A, then followed by the gross profit rate for year 201B.
Cost of goods sold = __________ - _________ - _________= P 1,800,000
Gross profit = __________ - ___________ = P 600,000
Gross profit rate (201A) = ________ /_________= 25%

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The company increased its gross profit rate by 5% in 201B. Therefore, gross profit rate in 201B is 30%
(25% + 5%)
II. Compute the estimated cost of merchandise inventory at the time of typhoon.
Merchandise Inventory, January 1, 2016 P
Add net purchases (P2,380,000 - P 60,000)
Cost of goods available for sale P
Less: Estimated cost of goods sold
P 3,120,000 x (100-30%)
Estimated cost of inventory, September 30 P
III. Estimated cost of inventory lost from flood
Estimated cost of inventory, September 30 P 536,000
Less: Cost of undamaged merchandise
(P 100,000 x 70%)
Estimated realizable value of damaged
merchandise
Estimated cost of inventory, September 30 P

Retail Inventory Method

An alternative is to compile inventories at retail prices. For most retailers, an observable pattern between cost
and price exists. The retailer can then use a formula to convert retail prices to cost. This method is called the
retail inventory method. It requires that the retailer keep a record of (1) the total cost and retail value of goods
purchased, (2) the total cost and retail value of the goods available for sale, and (3) the sales for the period.
(Kieso, 2016)

Illustrative Problem
Cost Retail
Beginning Inventory P 28,000 P 40,000
Purchases 126,000 180,000
Goods available for sale 154,000 220,000
Deduct: Sales revenue 170,000
Ending Inventory, at retail 50,000

Cost-to-retail ratio (P154,000 /P 220,000) = 70%

Ending Inventory at cost (70% of P 50,000) = P 35,000

The amounts shown in the “Retail” column above represent original retail prices, assuming no price changes.
In practice, though, retailers frequently mark up or mark down the prices they charge buyers. (Kieso, 2016)
The term markup means an additional markup of the original retail price. Markup cancellations are decreases
in prices of merchandise that the retailer had marked up above the original retail price. (Kieso, 2016)
If the market is competitive, retailers often resort to use markdown, which are decreases in the original sales
price. Such cuts in sales price may be necessary because of a decrease in the general level of prices, special
sales, soiled or damaged goods, over-stocking, and market competition. Markdown cancellations occur when
the markdowns are later offset by increases in the prices of goods that the retailer had marked down - such as
after a one-day sale, for example. Neither a markup cancellation nor a markdown cancellation can exceed the
original markup or markdown. (Kieso, 2016)
To illustrate, assume that JK Company recently purchased 1,000 school shirts from Nice Corporation. The cost
of these apparels was P 150,000, or P150 per shirt. JK Company established the selling price on these shirts
at P300 a shirt. The shirts were selling quickly in anticipation of back to school day, so the manager added a
markup of P9 per shirt. This markup made the price too high for the customers, and sales slowed. The manager

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then reduced the price to P303. At this point, we would say that the shirts at JK Company have had a markup
of P9 and a markup cancellation of P6.
Right after the back to school day, the manager marked down the remaining shirts to a sale of P280. At this
point, an additional markup cancellation of P3 has taken place, and a P20 markdown has occurred. If the
manager later increases the price of the shirts to P285, a markdown cancellation of P5 would occur (Kieso,
2016).

Special Items Related to Retail Method

The retail inventory method becomes more complicated when considering such items as freight-in, purchase
returns and allowances, purchase discounts, etc. In the retail method, the treatment of such items are as follows
(Kieso, 2016):
• Freight costs are part of the purchase cost.
• Purchase returns are ordinarily considered as reduction of the price at both cost and retail.
• Purchase discounts and allowances are usually considered as a reduction of the cost of purchases.
• Transfers-in from another department are reported in the same way as purchases from an outside
company.
• Normal shortages (breakage, damage, theft, shrinkage) should reduce the retail column because
these goods are no longer available for sale. Such costs are reflected in the selling price because a
certain amount of shortage is considered normal in a retail enterprise. As a result, companies do not
consider this amount in computing the cost-to-retail percentage. Rather, to arrive at ending inventory at
retail, they show normal shortages as a deduction similar to sales.
• Abnormal shortage is deducted from both the cost and retail columns and reported as a special
inventory amount or as a loss. To do otherwise distorts the cost-to-retail ratio and overstates ending
inventory.
• Employee discounts are deducted from the retail column in the same way as sales. These discounts
should not be considered in the cost-to-retail percentage because they do not reflect an overall change
in the selling price.
The following illustrates the use of the retail inventory method (Approximating Average Cost) (Robles & Empleo,
2016):

Cost Retail
Beginning Inventory P 140,000 P 252,000
Purchases 680,000 876,000
Purchase Returns (40,000) (48,000)
Purchase allowances (4,000)
Purchase Discounts (2,400)
Freight-in 8,000
Additional Markups (net of cancellations) 48,000
Markdowns (net of cancellations) (20,000)
Abnormal Losses (36,000) (44,000)
Departmental Transfers-out (17,600) (24,000)
P 588,000 P 788,000
Goods available for sale P 728,000 P 1,040,000

Cost-to-retail ratio:

Goods available for sale, at cost P

= ____ %
Goods available for sale, at retail P

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Deduct:
Sales P 760,000
Sales Returns (30,000)
Employee Discounts 3,000
Normal Losses 5,000
Total P 738,000
Ending Inventory, at retail P 302,000

Ending Inventory, at estimated cost:

Ending Inventory at retail x cost percentage
_______ x ____% P

When the retail method assumes a FIFO cost flow, the cost and the retail value of beginning inventory are
excluded from the cost ratio computation. The cost percentage that is developed is the ratio of the current cost
of purchases to the current retail prices of these purchases (adjusted for net markups and net markdowns). The
approximated cost of the ending inventory is therefore based on the ratio of cost to retail on current period
purchases only (Robles & Empleo, 2016).
FIFO RETAIL
Cost Retail
Beginning Inventory P 140,000 P 252,000
Purchases 680,000 876,000
Purchase Returns (40,000) (48,000)
Purchase allowances (4,000)
Purchase Discounts (2,400)
Freight-in 8,000
Additional Markups (net of cancellations) 48,000
Markdowns (net of cancellations) (20,000)
Abnormal Losses (36,000) (44,000)
Departmental Transfers-out (17,600) (24,000)
P 588,000 P 788,000
Goods available for sale P 728,000 P 1,040,000

Cost-to-retail ratio:

Goods available for sale, at cost P

= ______ %
Goods available for sale, at retail P

Deduct:
Sales P 760,000
Sales Returns (30,000)
Employee Discounts 3,000
Normal Losses 5,000
Total P 738,000
Ending Inventory, at retail P 302,000

Ending Inventory, at estimated cost:

Ending Inventory at retail x cost percentage
______ x ____% P

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 BM1706

Disclosures in Inventory Valuations

Required disclosures under IAS2, par. 36 (Deloitte Global Services Limited, 2017):
• accounting policy for inventories;
• carrying amount, generally classified as merchandise, supplies, materials, work in progress, and
finished goods. The classifications depend on what is appropriate for the entity;
• carrying amount of any inventories carried at fair value less costs to sell;
• amount of any write-down of inventories recognized as an expense in the period;
• amount of any reversal of a write-down to NRV and the circumstances that led to such reversal;
• carrying amount of inventories pledged as security for liabilities; and
• cost of inventories recognized as expense (cost of goods sold).

IAS 2 acknowledges that some enterprises classify income statement expenses by nature (materials, labor, and
so on) rather than by function (cost of goods sold, selling expense, and so on). Accordingly, as an alternative
to disclosing the cost of goods sold expense, IAS 2 allows an entity to disclose operating costs recognized
during the period by nature of the cost (raw materials and consumables, labor costs, other operating costs) and
the amount of the net change in inventories for the period). This is consistent with IAS 1 Presentation of
Financial Statements, which allows presentation of expenses by function or nature.

References
Deloitte Global Services Limited. (2017, September 12). Deloitte. Retrieved from Deloitte Website:
https://www.iasplus.com
Englard, B. (2007). Intermediate accounting I. New York: McGraw-HILL.
International Financial Reporting Standards Foundation. (2018, September 13). IFRS. Retrieved from IFRS
Website: https://www.ifrs.org
Kieso, D. E. (2016). Intermediate accounting (16th ed.). New York: John Wiley & Sons.
Robles, N. S., & Empleo, P. M. (2016). Intermediate accounting (Vol. 1.). Mandaluyong: Millenium Books, Inc.
Valix, C. T. (2017). Financial accounting (Vol. 1.). Manila: GIC Enterprises & Co., Inc.

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