International Accounting Standard 2International Accounting Standard 2

IAS 2

INVENTORIES

HistoryHistory

Originally IAS 2; Originally IAS 2; Valuation and presentation of Inventories in the Valuation and presentation of Inventories in the context of the Historical cost systemcontext of the Historical cost system issued in issued in October 1975October 1975..

Replaced by IAS 2; Replaced by IAS 2; Inventories Inventories issued by IASC in issued by IASC in December 1993December 1993..

SIC-1;SIC-1;Consistency-Different Cost Formulas for InventoriesConsistency-Different Cost Formulas for Inventories was issued was issued by Standing Interpretations Committee in by Standing Interpretations Committee in December 1997December 1997..

Limited amendments to IAS 2 were made in Limited amendments to IAS 2 were made in 1999 & 20001999 & 2000..

In April 2001, IASB resolved to apply In April 2001, IASB resolved to apply ALLALL Standards & Interpretations Standards & Interpretations issued under previous constitutions issued under previous constitutions unlessunless they were amended or they were amended or withdrawn.withdrawn.

SIC-1 was replaced and IAS 2 was revised by IASB in December 2003.SIC-1 was replaced and IAS 2 was revised by IASB in December 2003.

Subsequently IAS 2 was amended by IFRS 8Subsequently IAS 2 was amended by IFRS 8 Operating Segments; Operating Segments; which was issued in which was issued in November 2006November 2006..

IAS 2

ApplicabilityApplicability

Should be applied for annual periods beginning on or after January 1, Should be applied for annual periods beginning on or after January 1, 2005 to ALL inventories 2005 to ALL inventories exceptexcept those which have been specifically those which have been specifically excluded from its scope.excluded from its scope.

IAS 2

ObjectiveObjective

To prescribe accounting treatment for inventories.To prescribe accounting treatment for inventories.

To provide guidance on determination of cost and its To provide guidance on determination of cost and its subsequent recognition as an expense, including any write subsequent recognition as an expense, including any write down to NRV.down to NRV.

To provide guidance on cost formulas used to assign cost to To provide guidance on cost formulas used to assign cost to inventories.inventories.

IAS 2

ScopeScopeThis standard applies to ALL inventories, except:This standard applies to ALL inventories, except:

Types of Inventories which are Types of Inventories which are outside the scope of IAS 2outside the scope of IAS 2

Types of Inventories which are exempted ONLY from measurement requirements of standard but are within the scope of other requirements in the standard.

Work in progress arising under construction contracts [IAS 11]

Financial Instruments [IAS 32 and IAS 39]

Biological Assets related to agricultural activity and agricultural produce at the point of harvest [IAS 41]

Inventories held by Producers of agricultural and forest products, agricultural produce after harvest and minerals and mineral products, to the extent that they are measured at net realisable value.

Commodity broker-traders who measure their Inventories at fair value less costs to sell.

IAS 2

DefinitionsDefinitions

InventoriesInventories are assets:are assets:(a) held for sale in the ordinary course of business;(a) held for sale in the ordinary course of business;(b) in the process of production for such sale; or(b) in the process of production for such sale; or(c) in the form of materials or supplies to be consumed in the (c) in the form of materials or supplies to be consumed in the production process or in the rendering of services.production process or in the rendering of services.

Net realisable valueNet realisable value is the estimated selling price in the ordinary is the estimated selling price in the ordinary course of business less the estimated costs of completion and the course of business less the estimated costs of completion and the estimated costs necessary to make the sale.estimated costs necessary to make the sale.

Fair valueFair value is the amount for which an asset could be exchanged, or a is the amount for which an asset could be exchanged, or a liability settled, between knowledgeable, willing parties in an arm’s liability settled, between knowledgeable, willing parties in an arm’s length transaction.length transaction.

IAS 2

Measurement of InventoriesMeasurement of Inventories

Due to amendment in IAS 21; Due to amendment in IAS 21; Effects of changes in foreign Effects of changes in foreign exchange ratesexchange rates, exchange differences arising from the acquisition , exchange differences arising from the acquisition of inventories invoiced in a foreign currency are not to be included of inventories invoiced in a foreign currency are not to be included in in Cost Of PurchaseCost Of Purchase..

Inventory purchased on deferred settlement termsInventory purchased on deferred settlement termsDifference between Normal purchase price and amount paid to be Difference between Normal purchase price and amount paid to be recognised as Interest Expense.recognised as Interest Expense.

whichever is lower

IAS 2

Cost of InventoriesCost of InventoriesCosts of PurchaseCosts of Purchase

Purchase pricePurchase price+ Import duties+ Import duties+ Other taxes (other than + Other taxes (other than

those subsequently those subsequently recoverable by the recoverable by the entity from the taxing entity from the taxing authorities)authorities)

+ Transportation costs+ Transportation costs+ Handling costs+ Handling costs+ Other costs directly + Other costs directly

attributable to the attributable to the acquisition of finished acquisition of finished goods, materials and goods, materials and services.services.

(-) Trade discounts(-) Trade discounts(-) Rebates and other (-) Rebates and other

similar itemssimilar items

Cost of Conversion

Costs of conversion includes:

1. Costs directly related to production (such as direct labour)

2. Allocated variable production Overheads

3. Allocated fixed production Overheads (based on the normal capacity*)

[Un-allocated overheads are recognised as expense]

4. In case of Joint Products; costs are allocated between the products on a rational & consistent basis.

Other Costs

•Other costs are included to the extent they are incurred in bringing the inventories to their present location and condition.

For example: Costs of designing products for specific customers can be included in the cost of inventories.

•IAS 23; Borrowing Costs identifies limited circumstances where borrowing costs are included in the costs of inventories.

*Normal Capacity is the production expected under normal circumstances, after adjusting loss of capacity.

IAS 2

COSTS OF INVENTORIES OF A COSTS OF INVENTORIES OF A SERVICE PROVIDERSERVICE PROVIDER

To the extent that service providers To the extent that service providers have inventories, they are have inventories, they are measured at:measured at:

Cost of productionCost of production

+ Labour and other Personnel costs+ Labour and other Personnel costs

+ Attributable overheads+ Attributable overheads

ХХ Labour & other costs relating to Labour & other costs relating to sales sales

and general administrative and general administrative personnel.personnel.

ХХ Profit Margins. Profit Margins.

ХХ Non-attributable overheads. Non-attributable overheads.

COSTS OF AGRICULTURAL PRODUCE HARVESTED FROM BIOLOGICAL ASSETS

Measured at:

Fair Value

(-) Estimated point of sale costs at the time of harvest.

IAS 2

Techniques for the measurement Techniques for the measurement of costof cost

Methods mentioned below can be used as per the Methods mentioned below can be used as per the convenience if the results approximate costconvenience if the results approximate cost

Standard Cost Method

Standard costs take into account normal levels of materials and supplies, labour, efficiency and capacity utilisation.

They are regularly reviewed and, if necessary, revised in the light of current conditions.

Retail Method

The retail method is often used in the retail industry for measuring inventories of large numbers of rapidly changing items with similar margins for which it is impracticable to use other costing methods.

The cost of the inventory is determined by reducing the sales value of the inventory by the appropriate percentage gross margin.

IAS 2

An entity shall use the same cost formula for all inventories having An entity shall use the same cost formula for all inventories having a similar nature and use to the entity. For inventories with a a similar nature and use to the entity. For inventories with a different nature or use, different cost formulas may be justified.different nature or use, different cost formulas may be justified.

IAS 2

Net Realisable ValueNet Realisable Value

Where cost of inventories is not recoverable due to damage, Where cost of inventories is not recoverable due to damage, obsolescence, decline in selling price, or if estimated costs of obsolescence, decline in selling price, or if estimated costs of completion or estimated costs to be incurred to make sale have completion or estimated costs to be incurred to make sale have increased.increased.

Materials and other supplies held for use in production of Materials and other supplies held for use in production of inventories are not written down below cost if the finished inventories are not written down below cost if the finished products in which they will be incorporated are expected to be products in which they will be incorporated are expected to be sold at or above cost. sold at or above cost.

However, when a decline in price of materials indicates that cost However, when a decline in price of materials indicates that cost of finished products exceeds NRV, the materials are written down of finished products exceeds NRV, the materials are written down to NRV. In such circumstances, the replacement cost of the to NRV. In such circumstances, the replacement cost of the materials may be the best available measure of their NRV.materials may be the best available measure of their NRV.

IAS 2

Write-down of Inventories•Inventories are usually written down to NRV item by item. •Similar items which are produced & marketed in same geographical area and which can’t be separately evaluated from other items in the product line can be grouped. However it’s not appropriate to write-down inventories on the basis of classification.

•In case of Service providers, each service is treated as separate item and costs in respect of each such service is accumulated.

Estimates for NRV•Should be based on most reliable evidence.•These estimates take into consideration: Fluctuations of price/cost occurring after the end of period. Purpose for which Inventory is held.

Assessment for NRV•Done in each subsequent period.•If earlier circumstances are not there, the amount of write-down is reversed; but limited to the original write-down.

IAS 2

Net Realisable ValueNet Realisable Value

Net Realisable ValueNet Realisable ValueVsVsFair ValueFair ValueNet Realisable ValueNet Realisable Value

Estimated selling price (in the Estimated selling price (in the ordinary course of business)ordinary course of business)(-) Estimated costs of completion(-) Estimated costs of completion(-) Estimated costs necessary to (-) Estimated costs necessary to make the salemake the sale

Amount that an Amount that an entity expectsentity expects to to realise from the sale of inventory in realise from the sale of inventory in the ordinary course of business.the ordinary course of business.

This method of valuation of This method of valuation of inventories is open to inventories is open to allall types of types of inventories referred in this standard.inventories referred in this standard.

Fair Value

Amount for which an asset could be exchanged, or a liability settled, between knowledgeable, willing parties in an arm’s length transaction.

This is not entity specific.

This method is specifically mentioned for Commodity broker-traders.

* “NRV” may not be equal to “Fair value(-) costs to sell”

IAS 2

Recognition as an expenseRecognition as an expense When Inventories are When Inventories are soldsold Carrying Amount of Carrying Amount of

inventories is inventories is recognised as recognised as

an Expensean Expense

When Inventories are When Inventories are writtenwritten Amount of Write-down Amount of Write-down andanddowndown to NRV to NRV all losses of inventories all losses of inventories

should be recognised as should be recognised as an an Expense. Expense.

In case of In case of increase of NRVincrease of NRV Amount of Reversal (if Amount of Reversal (if any) any) shall be recognised as a shall be recognised as a

reduction in the amount reduction in the amount of of inventories recognised inventories recognised as as an expense earlier.an expense earlier.

In case Inventories are In case Inventories are Such Inventories should Such Inventories should be allocated to other asset be allocated to other asset recognised as recognised as an expense accounts (such Plant & Equipment) an expense accounts (such Plant & Equipment) during during the useful life of that the useful life of that asset.asset.*Amount of Inventories recognised as expense during the

period are often referred to as Cost Of Sales.IAS 2

ClassificationsClassifications

Common classificationsCommon classifications

Merchandise

Production Supplies

Materials

Work in Progress

Finished Goods

The inventories of a service provider may be described as work in progress.

IAS 2

DisclosureDisclosure

The financial statements shall disclose:The financial statements shall disclose:

(a) Accounting policies, including cost formula used;(a) Accounting policies, including cost formula used;

(b) Total carrying amount of inventories and classifications;(b) Total carrying amount of inventories and classifications;

(c) Carrying amount of inventories carried at fair value less costs to (c) Carrying amount of inventories carried at fair value less costs to sell;sell;

(d) Amount of inventories recognised as an expense;(d) Amount of inventories recognised as an expense;

(e) Amount of any write-down of inventories recognised as an (e) Amount of any write-down of inventories recognised as an expense;expense;

(f) Amount of any reversal of any write-down that is recognised as a (f) Amount of any reversal of any write-down that is recognised as a reduction in the amount of inventories recognised as expense;reduction in the amount of inventories recognised as expense;

(g) Circumstances that led to the reversal of a write-down of (g) Circumstances that led to the reversal of a write-down of inventories; andinventories; and

(h) Carrying amount of inventories pledged as security for liabilities.(h) Carrying amount of inventories pledged as security for liabilities.

IAS 2

IAS 2

•WIP of service providers is covered.

•The measurement requirements of the Standard do not apply to the measurement of inventories held by commodity broker-traders who measure their inventories at FAIR VALUE less COSTS TO SELL.

Significant Differences between Significant Differences between AS-2 and IAS-2AS-2 and IAS-2

AS 2

•WIP of service providers is specifically excluded.

•The Standard does not contain any exclusion or separate provisions relating to inventories held by commodity broker-traders. The measurement basis laid down in the Standard, viz., lower of COST and NRV, applies to inventories of commodity trader-brokers.

IAS 2

•The cost of inventories of items (other than those which are not ordinarily interchangeable and goods or services produced and segregated for specific projects) should be assigned by using the FIFO or weighted average cost formula. Unlike AS 2, IAS 2 does not require that the formula used should reflect the fairest possible approximation to the cost.Thus, the Standard gives a somewhat free choice between FIFO and weighted average cost formula.

AS 2

•The cost of inventories of items (other than those which are not ordinarily interchangeable and goods or services produced and segregated for specific projects) should be assigned by using the FIFO or weighted average cost formula (It is specifically required that the formula used should reflect the fairest possible approximation to the cost). Thus, the Standard does not give a free choice between FIFO and weighted average cost formula.

Significant Differences between Significant Differences between AS-2 and IAS-2AS-2 and IAS-2

IAS 2

•Same cost formula should be used for all inventories having a similar nature and use to the entity.

•The Standard specifically lists “selling costs” (but not distribution costs) among the costs for which it is appropriate that they be recognised as expenses in the period in which they are incurred.

•Issues relating to recognition of expense.

Refer slide number 13

AS 2

•There is no explicit requirement for use of same cost formula.

•The Standard specifically lists “selling and distribution costs” among the costs for which it is appropriate that they be recognised as expenses in the period in which they are incurred.

•AS 2 does not deal with the issues relating to recognition of inventories as an expense.

Significant Differences between Significant Differences between AS-2 and IAS-2AS-2 and IAS-2

THANK YOU