IAS 2 INVENTORIES

S T U D Y U N I T 3 PA RT A
 • This unit deals with the recognition, measurement
and disclosure of inventories with regard to the
following:
• First in First Out and Weighted Average method,
UNIT
OVERVIEW • Inventory costs (Including Manufacturing cost:
T- accounts/statement),
• Net realisable value (NRV), & Disclosure.
 UNIT-SPECIFIC LEARNING OUTCOMES

At the end of this learning unit, a student should be able to:

 Understand the basic principles of inventories.
 Understand what is included in the cost price of inventories.
 Be able to discern what expenditure in respect of inventories should
be expensed in the statement of profit or loss.
UNIT-SPECIFIC LEARNING OUTCOMES
Be able to calculate the cost price of inventories using two different methods
(FIFO – First in First Out and Weighted Average method.)
 Compile a manufacturing cost statement & T-Accounts
 Know what the disclosure requirements are and be able to apply your knowledge
to practical examples.
 To be able to do disclose inventories in the financial statements in accordance
with IAS 2.
UNIT-SPECIFIC STUDY MATERIAL
• Class notes/Study guide notes
• Questions in the study guide for unit 5
• • Chapter 10 of Introduction to Financial Accounting textbook(10thEdition)
• Introduction to IFRS, 9th Edition Chapter 3, Sections 2-5; 6 (excluding 6.1.2,
6.2.1, 6.2.2), 7.3, 8, 9 (excluding 9.2, 9.3), 10, 11
INTRODUCTION
• An entity is established with the process of making profit.
• Trading entities purchase merchandise to sell at a profit. The difference between the
proceeds from sales and cost of the goods sold is gross profit.
• To enable the entity to fulfil the demand for merchandise , the trading entity carries
inventories , which are replenished from time to time.
• The amount spent on purchasing merchandise during a period may not be the amount
that it is sold at.
• Therefore one important element in calculating profit is calculation of COST OF SALES
INTRODUCTION
• Sales – cost of sales = Gross profit
• Sales = is the price at which you sell your products.
• Cost of sales= is the price at which you purchase your products.
Gross profit is either expressed as a percentage of :
• Selling price : Gross profit * 100
Selling price
• Cost (markup) : Gross profit *100
Cost
INTRODUCTION
• The following factors play a role in the determination of gross profit :
• Actual selling price and discounts allowed
• Actual costs
• Loss of goods
• Accuracy of physical inventory count.
INVENTORIES AND COST OF SALES
• Inventories are current assets that are :
• Held for sale in the ordinary course of business.
• In the process of production of such sales.
• In the form of materials or supplies to be consumed in the production process or
in the rendering of services
MEASUREMENT
• Periodic inventory system page 211-213
• Purchases is debited when purchasing inventory (expense).
• Sales are credited when inventory is sold (income).
• Physical Inventory count is done at the end of the reporting period to determine
the value of inventories on hand (closing inventory).
• Therefore , cost of sales is determined at the end of the period.
EXAMPLE 1
• TV distributors started operating on 1 January 20.9. They buy and sell TV sets.
The company is not registered as a VAT vendor. During the financial year ending
31 December 20.9 , the following transactions took place. Calculate the gross
profit.
No of sets Unit price
Total purchase 1000 500
Total sales (800) 750
Sets on hand 31 Dec 20.09 200
SOLUTION 1
First determine cost of sales at the end of the reporting period:
Purchases 1000 TV sets
Less TV sets on hand (200)
Therefore sold 800 TV sets = cost of sales

Sales 800*R750 = R600 000

Cost of sales 800*R500 = (400 000)
Gross profit R200 000
EXAMPLE 2
• TV distributors started operating on 1 January 20.9. They buy and sell TV sets.
The company is not registered as a VAT vendor. During the financial year ending
31 December 20.9 , the following transactions took place. Calculate the gross
profit.
No of sets Unit price
Opening inventory 500 500
Total purchases 1000 500
Total sales (800) 750
Sets on hand 31 Dec 20.09 700
SOLUTION 2
First determine cost of sales at the end of the reporting period:
Opening inventory 500
Purchases 1000 TV sets
Less TV sets on hand (700)
Therefore sold 800 TV sets = cost of sales
Sales 800*R750 = R600 000
Cost of sales 800*R500 = (400 000)
Gross profit R200 000
MEASUREMENT
• Perpetual inventory system page 213-215
• Inventory records are updated as transactions occur (purchases and sales).
• Inventory is debited when purchasing inventory (expense).
• Sales are credited when inventory is sold (income).
• Cost of sales is debited and credited with inventories
• Physical Inventory count is done at the end of the reporting period to determine the
value of inventories on hand (closing inventory).
• Therefore , cost of sales is determined at the end of the period.
EXAMPLE 3
AB service store provided you with the following information for the year ended
31 December 20.9
• During the year inventory amounting to R600 000 (excluding VAT) was sold.
• Gross profit on sales is 30%

Calculate cost of sales

SOLUTION 3

• Selling price 100%

• Cost of sales 70%
• Gross profit 30%
Therefore
• Cost of sales R600 000*70% = R420 000
• Gross profit R600 000*30% = R180 000
DETERMININ
G PHYSICAL
QUANTITIES
PHYSICAL INVENTORY COUNT
• Physical inventory count determines the inventory units still available for sale.
• After a physical inventory count is conducted, the unit prices should be recorded.
MEASUREMENT OF INVENTORIES
Inventory is measured at :
• Purchase price less trade discounts and cash discounts.
• Import charges
• Freight , delivery or transport costs
• Insurance costs
• And other relevant costs
• Exclude VAT
EXAMPLE 4
XYZ service store provided you with the following information for the year ended
31 December 20.9. XYZ introduced a new range of product to their store.
XYZ purchased inventory at the cost of R200 000 from a foreign supplier
Paid import charges of R13 000.
Paid delivery costs of R5 000.
Paid advertising costs of R10 000 to promote the new product.
Calculate the cost of inventory
SOLUTION 4
Purchase price R200 000
Import charges R13 000.
Delivery costs R5 000.
Advertising costs -
TOTAL COST R223 000.
METHODS TO DETERMINE THE COST
• First-in-first-out method: assumes that goods purchased first are sold first. The
older costs are linked to the first purchases. The cost of sales will comprise
inventory with different prices.
• Weighted average cost method: The total cost of similar items for a specific
period is divided by the total number of items purchased during the year.
EXAMPLE 5
EXAMPLE 5
Calculate the cost of sales using :
a) First-in-first-out method
b) Weighted average cost method
QUESTIONS
PRACTICAL QUESTIONS
• Class exercises 1 and 2 (handouts)