IAS 2

Inventories

1Objective and scope

IAS 2 prescribes the accounting treatment for inventories: how much cost to recognise as an asset and carry forward until the related revenue is recognised, and the write-down to net realisable value. It excludes work in progress arising under construction contracts (now IFRS 15), financial instruments, and biological assets and agricultural produce at the point of harvest (IAS 41) up to that point. Producers' inventories of agricultural, forest and mineral products, and commodity broker-traders' inventories, may be measured at net realisable value or fair value less costs to sell, as a scope exclusion from the normal lower-of-cost-and-NRV rule.

2Key definitions

Inventories

Assets held for sale in the ordinary course of business, in the process of production for such sale, or as materials/supplies to be consumed in production or rendering services.

Net realisable value (NRV)

The estimated selling price in the ordinary course of business, less estimated costs of completion and estimated costs necessary to make the sale. An entity-specific value, unlike fair value.

Cost of inventories

All costs of purchase, costs of conversion, and other costs incurred in bringing the inventories to their present location and condition.

3Measurement

What is included in cost

Included in cost	Excluded (expensed as incurred)
Purchase price, import duties, non-refundable taxes	Abnormal waste of materials, labour or overheads
Direct labour and allocated production overheads (conversion costs)	Storage costs, unless necessary in the production process before a further stage
Freight and handling to bring inventory to its present location	Administrative overheads unrelated to production
Fixed overheads allocated based on normal production capacity	Selling costs

Cost formulas

Items that are not ordinarily interchangeable are costed by specific identification. Otherwise, cost is assigned using first-in, first-out (FIFO) or weighted average cost, applied consistently to inventories with a similar nature and use to the entity. Last-in, first-out (LIFO) is not permitted under IFRS.

Lower of cost and NRV

Inventories are written down to NRV item by item (or by group of similar items) whenever cost exceeds NRV, typically because of damage, obsolescence, or a fall in selling prices. If circumstances that previously caused a write-down no longer exist, the write-down is reversed (limited to the original cost), and the reversal is recognised as a reduction in the cost of inventories expensed in the period.

4Presentation and disclosure

Accounting policies adopted, including the cost formula used
Total carrying amount of inventories, and the amount carried at fair value less costs to sell
The amount of inventories recognised as an expense during the period (cost of sales)
The amount of any write-down and the amount of any reversal, with the circumstances that led to the reversal
The carrying amount of inventories pledged as security for liabilities

5Examinable focus

What KASNEB tests

FIFO and weighted average cost computations from a schedule of purchases and issues are a standing numerical question. Also expect a written test of what is and is not includable in cost (storage costs and abnormal waste are the classic exclusions to catch out), and NRV write-down calculations combined with a reversal in a later period.