Hi guys!
Hope you enjoyed the last post?
We shall continue with IAS 2 today.
Inventory (formerly known as stock) is defined by the standard as follows:
1. Assets held for sale in the ordinary course of business i.e. Finished Goods.
2. Assets in the process of production for sale i.e. Work in Progress
3. Assets in the form of materials or supplies to be consumed in the production process or in rendering services i.e. Raw Materials.
For example, a company that makes and sells furniture; Its inventory could include: tables and chairs for finished goods, uncompleted tables or chairs consist its work in progress and materials like wood and nails are the raw material.
Inventory is very important for 2 basic reasons:
1. It constitutes a current asset in the statement of financial position (closing stock)
2. It has a direct impact on profit and it can be used as a medium to manipulate profit.
COST
The following are included in the cost of inventory:
1. Cost of purchase (this includes import duties, handling duties, non-refundable taxes etc & excludes rebates and trade discounts)
2. Cost of conversion from raw materials to finished goods.
3. Costs that are directly involved in bringing the inventory to its current location
The following are not included in the cost of inventory, but are rather, expensed to Statement of Profit or Loss:
1. Selling costs
2. Amounts of wasted material, labour and other production costs
3. General administrative costs.
4. Storage Costs
For example, it costs me N200,000 to purchase raw material for my business, I also had to pay N20,000 for importation and N5,000 for transportation to my company. I also paid N50,000 as salary to my staff and then N10,000 for storage. What is the cost of the inventory?
Solution: The cost of inventory shall be N200000 + N20000 + N5000 = N225000
Whilst N50000 + N10000 = N60000 shall be expensed to Statement of Profit or Loss.
NET REALIZABLE VALUE:
In simple terms, its Fair Value less costs to sell. That is, the amount you can realize from the sale of an asset in its ordinary course of business less costs incurred to sell.
For example, a car costs you N3m, you sell it at N5m and it costs you N0.5m to deliver it to the buyer, which is part of the agreement. The Net Realizable Value will be N5m - N0.5m = N4.5m and this implies that N4.5m is what can be realized from the sale of the car.
MEASUREMENT OF INVENTORY
Inventory is to be measured at THE LOWER of:
Cost and Net Realizable Value
Hence, in the case of the car above,
Costs = N3m
Net realizable value = N4.5m
Hence, inventory shall be recorded at N3m which is lower than N4.5m
METHODS OF INVENTORY VALUATION
This differs from measurement of inventory. Inventory valuation refers to the method by which inventory is valued or counted. They include: FIFO, LIFO, Weighted Average Method etc. The standard only allows 2 methods:
1. First In, First Out (FIFO): Here, inventory is consumed in the order in which it is purchased or manufactured. The first items purchased are the first items issued/sold.
2. Weighted Average Method: Here, inventory is issued at the current weighted average cost per unit. This implies that, once more items are purchased, a new weighted average cost is calculated.
It is important to note that, the standard doesnot permit the use of Last in First Out (LIFO) method.
Final Notes:
1. This standard does not apply to:
•Biological Assets in IAS 41
•Financial Instruments in IAS 32, IAS 39, IFRS 7 and IFRS 9
•Construction Contracts in IAS 11
2. The standard requires that, you disclose the following in the financial statements:
• The inventory valuation method
• The amount of inventory carried at Net Realizable Value
• The carrying amount of inventory per category i.e. Raw material, work in progress, finished goods
• The amount of inventory recognized as an expense during the period (Cost of sales)
• The amount of write down of inventory, its reversal and events that led to the write down
Note: A write down occurs when the cost of inventory is greater than its net realizable. Hence, it has to be "written down" to its net realizable value.
DAILY CHALLENGE: This standard involves the use of various judgements and estimates, which is often criticized. For example, the Net Realizable Values often used are estimates. Can you spot others?
For further clarifications, mail: nneomakristen@gmail.com
Have a wonderful day!
Hope you enjoyed the last post?
We shall continue with IAS 2 today.
Inventory (formerly known as stock) is defined by the standard as follows:
1. Assets held for sale in the ordinary course of business i.e. Finished Goods.
2. Assets in the process of production for sale i.e. Work in Progress
3. Assets in the form of materials or supplies to be consumed in the production process or in rendering services i.e. Raw Materials.
For example, a company that makes and sells furniture; Its inventory could include: tables and chairs for finished goods, uncompleted tables or chairs consist its work in progress and materials like wood and nails are the raw material.
Inventory is very important for 2 basic reasons:
1. It constitutes a current asset in the statement of financial position (closing stock)
2. It has a direct impact on profit and it can be used as a medium to manipulate profit.
COST
The following are included in the cost of inventory:
1. Cost of purchase (this includes import duties, handling duties, non-refundable taxes etc & excludes rebates and trade discounts)
2. Cost of conversion from raw materials to finished goods.
3. Costs that are directly involved in bringing the inventory to its current location
The following are not included in the cost of inventory, but are rather, expensed to Statement of Profit or Loss:
1. Selling costs
2. Amounts of wasted material, labour and other production costs
3. General administrative costs.
4. Storage Costs
For example, it costs me N200,000 to purchase raw material for my business, I also had to pay N20,000 for importation and N5,000 for transportation to my company. I also paid N50,000 as salary to my staff and then N10,000 for storage. What is the cost of the inventory?
Solution: The cost of inventory shall be N200000 + N20000 + N5000 = N225000
Whilst N50000 + N10000 = N60000 shall be expensed to Statement of Profit or Loss.
NET REALIZABLE VALUE:
In simple terms, its Fair Value less costs to sell. That is, the amount you can realize from the sale of an asset in its ordinary course of business less costs incurred to sell.
For example, a car costs you N3m, you sell it at N5m and it costs you N0.5m to deliver it to the buyer, which is part of the agreement. The Net Realizable Value will be N5m - N0.5m = N4.5m and this implies that N4.5m is what can be realized from the sale of the car.
MEASUREMENT OF INVENTORY
Inventory is to be measured at THE LOWER of:
Cost and Net Realizable Value
Hence, in the case of the car above,
Costs = N3m
Net realizable value = N4.5m
Hence, inventory shall be recorded at N3m which is lower than N4.5m
METHODS OF INVENTORY VALUATION
This differs from measurement of inventory. Inventory valuation refers to the method by which inventory is valued or counted. They include: FIFO, LIFO, Weighted Average Method etc. The standard only allows 2 methods:
1. First In, First Out (FIFO): Here, inventory is consumed in the order in which it is purchased or manufactured. The first items purchased are the first items issued/sold.
2. Weighted Average Method: Here, inventory is issued at the current weighted average cost per unit. This implies that, once more items are purchased, a new weighted average cost is calculated.
It is important to note that, the standard doesnot permit the use of Last in First Out (LIFO) method.
Final Notes:
1. This standard does not apply to:
•Biological Assets in IAS 41
•Financial Instruments in IAS 32, IAS 39, IFRS 7 and IFRS 9
•Construction Contracts in IAS 11
2. The standard requires that, you disclose the following in the financial statements:
• The inventory valuation method
• The amount of inventory carried at Net Realizable Value
• The carrying amount of inventory per category i.e. Raw material, work in progress, finished goods
• The amount of inventory recognized as an expense during the period (Cost of sales)
• The amount of write down of inventory, its reversal and events that led to the write down
Note: A write down occurs when the cost of inventory is greater than its net realizable. Hence, it has to be "written down" to its net realizable value.
DAILY CHALLENGE: This standard involves the use of various judgements and estimates, which is often criticized. For example, the Net Realizable Values often used are estimates. Can you spot others?
For further clarifications, mail: nneomakristen@gmail.com
Have a wonderful day!
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