IAS 2 Inventories : Inventories are normally one of the material assets of most of the companies especially manufacturing companies, garments factories, and merchandising industry. Not only materialized in term of values, but inventories are the kind of sensitive assets due to the complexities of accounting treatments, measurement and recognitions, and classifications.
In this article, we will summary the key points that you should know and clearly understand about inventories accounting under IAS 2 Inventories. Those importance key areas are:
Objective of IAS 2 Inventories,
Scope of IAS 2 Inventories,
Definition of the key term in IAS 2 Inventories,
Measurement of Inventories per IAS 2 Inventories, and
Disclosure required for inventories as per IAS 2 inventories.
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Ias 2 inventories summary and simplification
1. IAS2 Inventoriessummaryandsimplification:
1) Overviewof IAS2Inventories:
Inventoriesare normallyone of the material assetsof most of the companies especially manufacturing
companies,garmentsfactories,andmerchandisingindustry.Notonly materializedintermof values,but
inventories are the kind of sensitive assets due to the complexities of accounting treatments,
measurement and recognitions, and classifications.
In this article, we will summary the key points that you should know and clearly understand about
inventories accounting under IAS 2 Inventories. Those importance key areas are:
- Objective of IAS 2 Inventories,
- Scope of IAS 2 Inventories,
- Definition of the key term in IAS 2 Inventories,
- Measurement of Inventories per IAS 2 Inventories, and
- Disclosure required for inventories as per IAS 2 inventories.
Example of inventories:
In Statementsof Financial PositionorBalance Sheet,Inventoriesare reportedunder the Assets/Current
Assets. We will state the reason why they are reported under Currents Assets.
The good examples of inventories are:
- The raw material that purchase for the purpose of productions.
- Works in processes which are partial done and will become finish goods.
- Finish goods waiting for sale.
2) Objective of IAS2 Inventories:
The major objective of IAS2Inventoriesis toprovide the clearguidance onhow inventoriesare treated,
what are the costs to be included in measurements, when will inventories should be recognized as
expenses.Othermainobjectiveof IAS2 Inventories istoprovide the clear guidance of inventoriesβ cost
formulaonwhichcost shouldbe includedin. All of thesethingswill be discussedinthe followingpoints.
Key highly in Objective of IAS 2 Inventories to remember:
3) Scope of IAS 2 Inventories:
IAS2 Inventories are approvedby IASBBoard to cover all type of the normal inventories; however, the
standard does not cover the following:
- WIP as the result of contraction contracts ( WIP as the result of contraction contract is cover in
IAS 11: Contraction Contract.
- Financial instrument ( The financial Instrument is cover in IAS 32 and IAS 39 or IFRS 9)
2. - Biological Assets ( Cover in IAS 42)
Inventories held by the following condition or entity are also excluded:
- Producers of agricultural and forest products
- Mineral and mineral Products
- Commodity broker that held inventories at FV less cost to sell
Key highly in Scope of IAS 2 Inventories to remember
Apply to all inventories Excluded: WIP of contraction contracts, Financial instrument, and Biological
Assets.
4) Definition of the key term in IAS 2 Inventories:
The following are the key definition related to IAS 2 Inventories:
Inventories:
- Are all type of the entityAssetsthatheldfor the purposed of its normal business activities. For
example, Raw Material for Production or Finish Goods.
Net realizable of Inventories:
The NetRealizable value of the inventories is the amount of the inventories that estimated or
expected to be sold in the normal course of the entity business activities reduced by any
additional costof completionandthe costthat the entityhasto spendinorderto be able to sell
those inventories.
Fair Value of Inventories:
The fair value of inventoriesisthe price thatwe wouldexpectedtobe receivedfromthe salesof
those inventories or paid/ settle the liabilities in the normal market transactions.
5) Measurement of Inventories per IAS 2 Inventories
As per IAS 2 Inventories [IAS 2.9], Inventories shall be measured at
- Lower of Costs and,
- Net Realizable Values
What does it means?
Explanation:
The standard required inventories are to be stated in their lower of cost and Net Realizable
value. For example, let say the certain selling princes of finish goods in your company are
3. decreasingsignificantlyandnowit is lower that itβs cost. In this cost, the inventories should be
valued at the market value of current selling price less cost to sale. However, if the Net
Realizable Value is higher than Cost of Inventories, then Inventories should be measured at
Costs.
What is the cost of inventories?
The cost of Inventories included the costs of the following components, [IAS 2.10]:
- Costs of purchase of inventories are the cost that entity pays for inventories including taxes,
transportation costs, and handling costs. However, the Cost of Purchasing shall exclude Trade
Discount that the entity received from its supplier.
- Conversion cost of inventories including the related fixed and variable cost.
- Cost of Completion and Disposal of Inventories.
However, the following costs are not allowed to be included in the cost of Inventories.
- The borrowing costs as the result of defer purchase which result interest expenses. Such
expensesshall be treatedasInterestExpensesover the period rather than including in the cost
of Inventories.
- Abnormal cost as the result of abnormal even which result to wasted materials, wasted labors
costs, and wasted others production costs.
- Storage costs of inventories,
- The administrative overhead that do not directly related to Cost of Completion and Disposal
- Selling Costs
The measurement technique that allow to measure the Cost of Inventories as per IAS 2
Inventories
The followingare the twodifferent techniques that allow by IAS 2 Inventories to measure that
Cost of Inventories [IAS 2.21 and IAS 2.22]. The entity could use either one which is most
appropriate or conveniences.
- The Standard Costing Method:
The Standard CostingMethod is one of the most popular costing system that take into account
the normal require mountof materials costs, labor cost, and Others Cost of Production require
to make the products.Thiscostingsystemisnormallyuse inthe manufacturingcompany,andits
generally required to be reviewed if require to make sure that the Standard Cost is not
significantly different from the Actual Costs.
- The Retail Costing Method:
4. Retail CostingMethodisthe methodwhichisnormallyusedinthe retail industry.The following
are the quick way on how to use the Retail Costing Method.
- Cost-to-Retail Percentage: Cost/Retain Price
- Cost of Goods Available for Sale During the Period: Cost of Opening Inventories + Cost of
Purchase During The periods
- Cost of Goods Sold During the Periods = Costs-to-Retail Percentage * Total Sales During The
Period
- Ending Value of Inventories = Cost of Goods Available for Sale During The Periods β Cost of
Goods Sold
Cost Formulas Allow Per IAS 2 Inventories:
The standard stated that for those items that for those items that could not interchangeable,
the cost are those specifically attribute to those items.
FIFO and Average Cost are the formulas that allow using for all inventories, except those
mention about. The formula shall be used consistently.
LIFO Cost formula is not allowed to be used by Standard.
Whenand how inventoriesshouldwrite down to NPV?
The value of the inventoriesmayaffectbymanydifferentfactorsandresultthe costof
inventoriescouldbe lessthantheirNetPresentValueif the costsof completiontomake those
inventoriestosell are increase.
Whenthese factorsoccurred,the inventoriesshouldwritedowntoNPV.The writtendown
value shouldbe recognizedasexpensesinthe statementof profitandlostinthose accounting
period.
Wheninventoriesshouldbe recognizedas expenses?
There are twomainfactors that Inventoriesshouldbe recognizedasexpensesinthe Statement
of profitandLost or P&L.
First,the inventoriesshouldbe recognizedasthe expenseswhentheyare sold.Thisrecognition
islinkto accountingtreatmentof revenue,IAS18. It simplymeanswheninventoriesare sold,
revenuesare recognizing,andthenthe costof inventoriesthatlinktothatrevenue shall be
recognizedaccordingly.
5. Second,Inventoriesare recognizedwheninventoriesare writtendowntoNetPresentValue.
6) Disclosure required for inventories as per IAS 2 inventories
The following are the list of disclosure required by Accounting Standard, IAS 2:
- The accounting policy that the entity use to measure theirs inventories and also the cost
formula.
- Carrying amount and classify be categories
- Carrying amount at FV less Cost to Sell
- Any amount that written down as expenses during the accounting periods (reversal if any
includingthe circumstance why?),andthe amountrecognize asexpenses. ( Cost of Goods Sold)
- State if any amount are using as the pledge security.