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IFRS IAS 2 Inventories

IFRS IAS 2 Inventories

IFRS IAS 2 Inventories : The objective of this Standard is to prescribe the accounting treatment for inventories. A primary issue in accounting for inventories is the amount of cost to be recognised as an asset and carried forward until the related revenues are recognised.

This Standard provides guidance on the determination of cost and its subsequent recognition as an expense, including any write-down to net realisable value. It also provides guidance on the cost formulas that are used to assign costs to inventories. Inventories shall be measured at the lower of cost and net realisable value. Net realisable 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. The cost of inventories shall comprise all costs of purchase, costs of conversion and other costs incurred in bringing the inventories to their present location and condition.

IFRS IAS 2 Inventories

IFRS IAS 2 Inventories

IFRS IAS 2 Inventories

The cost of inventories shall be assigned by using the first-in, first-out (FIFO) or weighted average cost formula. An entity shall use the same cost formula for all inventories having a similar nature and use to the entity. For inventories with a different nature or use, different cost formulas may be justified.

However, the cost of inventories of items that are not ordinarily interchangeable and goods or services produced and segregated for specific projects shall be assigned by using specific identification of their individual costs. When inventories are sold, the carrying amount of those inventories shall be recognised as an expense in the period in which the related revenue is recognised. The amount of any write-down of inventories to net realisable value and all losses of inventories shall be recognised as an expense in the period the write-down or loss occurs. The amount of any reversal of any write-down of inventories, arising from an increase in net realisable value, shall be recognised as a reduction in the amount of inventories recognised as an expense in the period in which the reversal occurs.

IFRS IAS 2 Inventories

IFRS and US GAAP contain similar definitions of inventory:

Assets which (1) are held for sale in the ordinary course of business

(2) are in the process of production for such sale, or

(3) in the form of materials or supplies to be consumed in the production process or in the rendering of services.

Inventories owned by a manufacturing company typically include:

  • Raw materials (“RM”)
  • Work in progress (“WIP”)
  • Finished goods

Applicable Authoritative Guidance The primary IFRS guidance applicable to inventory accounting includes:

  • IAS 2 – “Inventories”
  • IAS 41 – “Agriculture”
  • IFRS 6 – “Exploration for and Evaluation of Mineral Resources”
  • IAS 23 (revised 2007) (“IAS 23”) – “Borrowing Costs” The primary US GAAP and SEC guidance applicable to inventory accounting includes: •ASC 330-10-30 “ Inventory – Initial Measurement”
  • ASC 330-10-35 “ Inventory – Subsequent Measurement”
  • ASC 835-20 “ Capitalisation of Interest”
  • EITF 86-13 – “Recognition of Inventory Market Declines at Interim Reporting Dates”
  • EITF 02-16 – “Accounting by a Customer (Including a Re-seller) for Certain Consideration Received from a Vendor”
  • SAB Topic 5-BB – “Inventory Valuation Allowances”
  •  AICPA LIFO Issues Paper, November 30, 1984

IFRS IAS 2 Inventories

Inventory Cost Components An entity should include in inventory the cost of direct labor employed in manufacturing an inventory item.

The amount of labour cost “absorbed” into inventory will be based on

  1. The number of labour hours required to produce a product (presuming normal production rates),
  2. Multiplied by the hourly cost per employee involved with production.

An entity should also include in inventory indirect costs associated with the entity’s manufacturing operations.

  • These indirect costs are referred to as overhead.
  • Overhead can comprise depreciation and maintenance of factory buildings and equipment, the cost of factory management and administration, electricity, and other similar items.
  • Overhead should be allocated to inventory based on normal production levels. Normal production refers to a range of production levels expected to be achieved during various cycles or seasons under ordinary circumstances.

IFRS IAS 2 Inventories

Capitalisation of Borrowing Costs Certain inventory products require significant manufacturing time. A manufacturer must finance its operating costs during the construction, production or development period. In some cases, the manufacturer will do so by borrowing funds. In these circumstances, both IFRS (IAS 23) and US GAAP (ASC 835-20) indicate that borrowing costs may need to be capitalised as part of the cost of inventory, if it is a qualifying asset.

IFRS IAS 2 Inventories

Using Inventory Formulas Under IFRS (IAS 2.26), an entity must use the same cost formula for all inventories having a similar nature and use to the entity. That is, a multinational company must use a consistent inventory policy election for each class of inventory in all of its worldwide subsidiaries. US GAAP does not provide explicit guidance on this issue. Accordingly, an entity is permitted to partially adopt a cost formula (e.g., LIFO for inventories held in the United States, and FIFO elsewhere) if it has a valid business reason for not fully adopting this policy election.

IFRS IAS 2 Inventories

Measuring Recoverability – IFRS Under IFRS, inventories must be measured at the lower of cost or net realizable value (“NRV”) except for inventories in certain specialized industries. NRV represents the estimated selling price for an inventory item in the ordinary course of business, less the estimated costs of completion (as applicable) and the estimated costs necessary to make the sale.

IFRS IAS 2 Inventories

Measuring Recoverability – Timing Under IFRS, a new assessment of NRV must be made in each subsequent period until the inventory is sold. When the circumstances that previously caused inventories to be written down below cost no longer exist or when there is clear evidence of an increase in NRV because of changed economic circumstances, the amount of the writedown is reversed (the reversal is limited to the amount of the original write-down).

IFRS IAS 2 Inventories

Disclosure Which of the following disclosures is required under IFRS only? a. If material, the amounts from the liquidation of a LIFO layer b. The circumstances or events that led to the reversal of a write-down of inventories c. The accounting policies adopted in measuring inventories d. Presentation of major categories of inventory

IFRS IAS 2 Inventories

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