IAS 2 Inventory
IAS 2 does not apply to
• Work in progress arising under construction contracts
including directly related service contracts
• Financial instruments
• Biological assets relating to agricultural activity and
agricultural product at the point of harvest
• Producers of agricultural and forest products, minerals
and mining products etc
• Commodity broker – traders that measure their
inventories at fair value less selling costs
These are all covered under specific standards.
Definition of Inventory
• Held for sale in the ordinary course of business
• In the process of production for such sale (WIP)
• In the form of materials or supplies to be
consumed in the production process or the
rendering of services.
Valuation of Inventory
• Physical Inventory Count at end of year –
guarantees correct quantities
• Impacts on profits and tax liability in the
Statement of Profit & Loss
• Strengthens the position of the Statement of
Financial Position
The larger the closing inventory the smaller
the cost of sales, the larger the gross profit
Trading A/C
Trading
10,000
Less cost of sales
Opening inventory
2,000
Purchases
1,500
3,500
Less Closing inventory
1,200
Cost of Sales
2,300
GROSS PROFIT
7,700
• If a company could manipulate the value of closing inventory, it could
influence profit figures and tax liabilities
• Different types of inventory require different treatments. Eg specialist
products, custom built items, products that mature in value over time,
products that are work in progress etc
• IAS 2 was introduced to provide clarity
Fundamental Principle
• Inventory valued at the lower of Cost or NRV
• Prudence – not to overstate/understate the
assets
Definition of NRV
• NET Realisable Value is the estimated selling
price in the ordinary course of business, less
the estimated costs of completion and the
estimated cost of sale.
NRV greater than Cost but…
• NRV may be lower if…
– Damaged
– Obsolete
– Change in market demand
– Physical deterioration
Calculate NRV
• Sale Price
– further costs that may be incurred to complete
the production of the item
– costs to sell and distribute the item
Calculating Cost
• Costs of purchase including tax, import duty,
transport and handling
– trade discount
+ Cost of conversion including fixed and variable
overheads
+ other costs incurred in bringing the inventories
to their present location and condition
Excluded from Cost
• Abnormal waste or spoilage
• Factory Idle time
• Storage costs – except when necessary in the
production process before a production stage.
This implies that storage costs of raw
materials and finished goods are excluded.
• General administration overheads
• Marketing and other sales costs.
Measurement
1.
2.
3.
4.
5.
Actual unit cost
FIFO
Weighted average costs
Standard cost
Retail method
Measurement
1. Actual unit cost
2. FIFO
3. Weighted average
costs
4. Standard cost
5. Retail method
• Actual Unit Cost
Cost of each item valued
individually by including
all costs incurred to bring
it to its present location
and condition. Usually
only feasible for highvalued, low-quantity
inventory eg Car
dealership
Measurement
1. Actual unit cost
2. FIFO
3. Weighted average
costs
4. Standard cost
5. Retail method
• First In First Out
Inventory is made up of
the latest purchases.
LIFO method banned.
Measurement
1. Actual unit cost
2. FIFO
3. Weighted average
costs
4. Standard cost
5. Retail method
• Weighted Average
Weighted average
purchase price over the
year used to value closing
inventory
Measurement
1. Actual unit cost
2. FIFO
3. Weighted average
costs
4. Standard cost
5. Retail method
• Standard Cost
Standard costs reviewed
frequently to ensure that
they bear a reasonable
relationship to actual
costs during the period
Measurement
1. Actual unit cost
2. FIFO
3. Weighted average
costs
4. Standard cost
5. Retail method
• Retail Method
Used in retail for
measuring large quantity
of inventory with similar
margins that are rapidly
changing. Cost
determined by using a
reduced sale value.
Write down of inventory to NRV
• Where the cost of inventories may not be
recoverable e.g. goods are damaged, obsolete
or selling prices declined etc. then inventories
are written down to value expected to be
realised from their sale or use.
• Inventories are usually written down to NRV
on an item by item basis.
• Losses associated with write down are an
expense in the period of the write down
Reversal of Write Down
• Increase in NRV
- Expense “Reversal of Write Down”
Disclosure
The financial statements should disclose the following:
a) The accounting policies adopting in measuring inventories,
including cost formulas.
b) The total carrying amount of inventories broken into
appropriate classifications
c) The carrying amount at fair value less costs to date
d) The amount expended in the period
e) The amount of any writedowns of inventories
f) The amount of any reversal of any writedowns.
g) The circumstances or events that led to the writedown(s).
h) The carrying amount of inventories pledged as security for
liabilities
Common classifications include retail merchandise, production
supplies, materials, work in progress and finished goods.
Q1
• Inventories should be valued at the lower of
Cost or NRV
Q2
•
•
•
•
Stock cost 60,000
NRV 40,000
40,000 x 2.5% = 1,000
Write down = 20,000 + 1,000 = 21,000
Journal
Dr
Inventory Write
Down Expense A/C
(P&L)
21,000
Inventory A/C (SFP)
Being the write down of slow moving stock
Cr
21,000
Q3
• The following costs cannot be included as part
of the cost of inventory:
– Selling costs
Q4
•
•
•
+ receivables 55,000
+ sales 50,000
+ VAT 5,000
Journal
Dr
Receivables
55,000
Cr
Sales
50,000
VAT
5,000
Being the sale of goods on credit not accounted for
•
•
+ Expense 45,000
- CA inventory 45,000
Journal
Dr
Inventory Expense
(P&L)
45,000
Inventory (SFP)
Cr
45,000
Being the correction of overestimation of closing stock
Q5
•
Write down 300,000
Journal
Dr
Inventory expenses
(P&L)
300,000
Inventory (SFP)
Cr
300,000
Being the write down of stock destroyed in fire
•
•
300,000 x 50% =
150,000 Insurance
receivable CA
Recoverable value
Journal
Dr
Insurance
Compensation
Receivable (SFP)
150,000
Compensation
receivable (SPL)
Cr
150,000
Being the compensation for stock destroyed in fire
Q6
•
•
+ receivables 50 x 280
+ sales 50 x 280
Journal
Dr
Receivables
14,000
Sales
Cr
14,000
Being the sale of goods on credit not accounted for
• 700 x 280 = 196,000
• 750 x 300 = 225,000
Adjustment 29,000
• + expense
• - CA inventory
Journal
Dr
Inventory expense
(P&L)
29,000
Inventory (SFP)
Being the write down of inventory to NRV
Cr
29,000
Q7
NRV
P
Q
Selling Price
150
295
Sales & Marketing
(15)
(18)
Delivery to customer
(21)
(40)
NRV
114
237
Cost
P
Q
Purchase Cost
100
200
Delivery from Supplier
20
30
Import Duty
1.20
2.60
COST
121.20
232.60
Q9
Week
Qty
€
Open
140
10
€
Balance
1,400
Week 1
Bought
140
13
1,820
Week 2
Used
-195
140 x 10
1400
55 x 13
715
2115
1105
1985
Week 3
Bought
80
11
880
Week 4
Used
-100
85 x 13
1105
15 x 11
165
1270
Balance
3,220
715
65
AVCO
(140 * 10) + (140 * 13)
11.50
11.50 * 195
2242.50
280
(85*11.50) + (80*11)
160
(140 * 10) + (140 * 13) + (80*11
360
11.61
11.61 * 100
1160.00
4100/360 = 11.39
65 * 11.39 = 740.27
Q10
• IAS 2 states that inventory be measured as the
lower of cost or Net Realisable Value
• Cost = cost of purchase and cost of conversion
• NRV = actual or estimated selling price less
and further costs of conversion
Cost
NRV
Materials
15,000 Selling Price
Labour
20,000 Less Marketing Costs
Depreciation
10,000 1 table
Factory Rates
Factory Expenses
5,000 50 x 225
10,000
Other production Expenses
5,000
500 tables
6,500
1 table
50 x 130
130
6,500
250
25
225
11,250