Inventories:

• Inventories are assets:

• Held for sale in the ordinary courses of
business.
• In the process of production for such sale.
• In the form of material or supplies to be
consumed in the production process or in
rendering of services.
 Objective of IAS 2

• The objective of IAS 2 is to prescribe the

accounting treatment for inventories. It
provides guidance for determining the cost
of inventories and for subsequently
recognizing 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.
 Scope
• Inventories include assets held for sale in the ordinary course of business (finished
goods), assets in the production process for sale in the ordinary course of business (work
in process), and materials and supplies that are consumed in production (raw materials).
[IAS 2.6]
• However, IAS 2 excludes certain inventories from its scope: [IAS 2.2]
• work in process arising under construction contracts (see IAS 11, Construction Contracts
• financial instruments (see IAS 39, Financial Instruments)
• biological assets related to agricultural activity and agricultural produce at the point of
harvest (see IAS 41, Agriculture).
 Fundamental Principle of IAS 2
• Inventories are required to be stated at the lower of cost and
net realizable value (NRV). [IAS 2.9]
• Net realizable value: is the estimated selling price in the
ordinary course of business less estimated cost of
completion and the estimated cost necessary to make the
sale.
• Fair Value: Fair value reflects the amount for which the
same inventory could be exchanged between
knowledgeable and willing buyers and sellers in the
marketplace.
 Measurement of Inventories

• Cost should include all: [IAS 2.10]

• 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
 Cont..
• Inventory cost should not include: [IAS 2.16-2.18]
• 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
• interest cost when inventories are purchased with deferred
settlement terms.
 Cost Formula:
• For items of inventory that are not ordinarily
interchangeable, and goods or services produced and
segregated for specific projects, costs will assigned by
using specific identification of their individual cost.
• For items that are interchangeable, IAS 2 allows the FIFO
or weighted average cost formulas. [IAS 2.25] The LIFO
formula, which had been allowed prior to the 2003
revision of IAS 2, is no longer allowed.
• The same cost formula should be used for all inventories
with similar characteristics as to their nature and use to the
enterprise. For groups of inventories that have different
characteristics, different cost formulas may be justified.
[IAS 2.25]
 Expense Recognition

• IAS 18, Revenue, addresses revenue

recognition for the sale of goods. When
inventories are sold and revenue is
recognized, the carrying amount of those
inventories is recognized as an expense
(often called cost-of-goods-sold). Any
write-down to NRV and any inventory
losses are also recognized as an expense
when they occur. [IAS 2.34]
 Inventory Cost Flows

Merchandising Operations

Merchandise
Inventory
Purchases C/G/Sold
Cost of goods
sold
$$$
 Flow of Costs through
Manufacturing and
Merchandising Companies
 Inventory Control

Inventory control is important for:

1. Ensuring availability of inventory items
2. Preventing excessive accumulation of inventory
items
The perpetual system maintains a
continuous record of inventory changes
The periodic system updates inventory
records only periodically
 Inventory Systems

Perpetual Method Periodic Method

• Purchases are debited • Purchases are debited
to Inventory account to Purchases account.
• Freight-in, Purch. R & A • Freight-in, Purch. R & A
and Purch. Disc. are and Purch. Disc. are
recorded in their
recorded in Inventory respective accounts.
account.
• COGS is computed only
• Debit COGS and credit periodically:
Inventory account for COGAS
each sale. - Ending Inventory
COGS
 Effect of Inventory Errors

Error in Effect on Effect on

Ending Income Balance sheet
Inventory Items Items
Under- COGS (over) Inventory (under)
stated Net income (under) Retained Earn (under)

Over- C/G/sold (under) Inventory (over)

stated Net income (over) Retained Earn (over)
 Costs Included in Inventory

Generally accounted for on a cost

basis.
• Product costs are “inventoriable”
costs, whereas
• Period costs are not inventoriable
costs
– Abnormal inventory costs are accounted
for as period costs
 Cost Flow Assumptions

The objective is to most clearly reflect

periodic income.
Cost flow assumptions need not be
consistent with physical flow of goods.
The cost flow assumptions are:
1. First-in, first-out (FIFO) and
2. Last-in, first-out (LIFO)
3. Average cost
 Problem on Inventory
For ‘Hard & Soul’ Company, beginning inventory on June 01,
2011, is 8,000 units for tk.10 each. Other information is given
below:
Date Information Balance
5-Jun-11 Purchase 10,000 units for tk. 9 each 18,000 Units
8-Jun-11 Purchase 3,000 units for tk. 12 each 21,000 Units
10-Jun-11 Sold 12,000 units. 9,000 Units
15-Jun-11 Purchase 5,500 units for tk. 10.5 each 14,500 Units
20-Jun-11 Sold 10,000 units 4,500 Units
26-Jun-11 Purchase 2,500 units for tk. 12.5 each 7,000 Units

Requirement: Calculate ending inventory using both perpetual

& periodic inventory system under FIFO, LIFO & Average Cost
Method. 16