IAS 2 Inventories

IAS 2 Inventories

IAS 2 Inventories
In April 2001 the International Accounting Standards Board (Board) adopted IAS 2 Inventories, which
had originally been issued by the International Accounting Standards Committee in December 1993.
IAS 2 Inventories replaced IAS 2 Valuation and Presentation of Inventories in the Context of the
Historical Cost System (issued in October 1975).

In December 2003 the Board issued a revised IAS 2 as part of its initial agenda of technical projects.
The revised IAS 2 also incorporated the guidance contained in a related Interpretation (SIC-1
Consistency—Different Cost Formulas for Inventories).

Other Standards have made minor consequential amendments to IAS 2. They include IFRS 13 Fair
Value Measurement (issued May 2011), IFRS 9 Financial Instruments (Hedge Accounting and
amendments to IFRS 9, IFRS 7 and IAS 39) (issued November 2013), IFRS 15 Revenue from
Contracts with Customers (issued May 2014), IFRS 9 Financial Instruments (issued July 2014) and
IFRS 16 Leases (issued January 2016).

Contents

Contents
from paragraph

OBJECTIVE 1

SCOPE 2

DEFINITIONS 6

MEASUREMENT OF INVENTORIES 9

Cost of inventories 10

Cost formulas 23

Net realisable value 28

RECOGNITION AS AN EXPENSE 34

DISCLOSURE 36

EFFECTIVE DATE 40
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WITHDRAWAL OF OTHER PRONOUNCEMENTS 41

APPENDIX Amendments to other pronouncements

APPROVAL BY THE BOARD OF IAS 2 ISSUED IN DECEMBER 2003

BASIS FOR CONCLUSIONS

International Accounting Standard 2 Inventories (IAS 2) is set out in paragraphs 1–42 and
the Appendix. All the paragraphs have equal authority but retain the IASC format of the
Standard when it was adopted by the IASB. IAS 2 should be read in the context of its
objective and the Basis for Conclusions, the Preface to IFRS Standards and the
Conceptual Framework for Financial Reporting. IAS 8 Accounting Policies, Changes in
Accounting Estimates and Errors provides a basis for selecting and applying accounting
policies in the absence of explicit guidance. [Refer: IAS 8 paragraphs 10–12]

Objective

Objective
1 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 [Refer: paragraphs 23–27]
that are used to assign costs to inventories.

Scope

Scope
2 This Standard applies to all inventories, except:

(a) [deleted]
(b) financial instruments (see IAS 32 Financial Instruments: Presentation and IFRS 9
Financial Instruments); and
(c) biological assets related to agricultural activity and agricultural produce at the point
of harvest [Refer: IAS 41 paragraph 13] (see IAS 41 Agriculture).

3 This Standard does not apply to the measurement of inventories held by: [Refer: Basis
for Conclusions paragraphs BC6–BC8]
(a) 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 in accordance with well-established practices in those industries. When such
inventories are measured at net realisable value, changes in that value are
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recognised in profit or loss in the period of the change.

(b) commodity broker-traders who measure their inventories at fair value less costs to
sell. When such inventories are measured at fair value less costs to sell, changes in
fair value less costs to sell are recognised in profit or loss in the period of the change.

4 The inventories referred to in paragraph 3(a) are measured at net realisable value at certain
stages of production. This occurs, for example, when agricultural crops have been harvested or
minerals have been extracted and sale is assured under a forward contract or a government
guarantee, or when an active market exists and there is a negligible risk of failure to sell. These
inventories are excluded from only the measurement requirements of this Standard.

5 Broker-traders are those who buy or sell commodities for others or on their own account. The
inventories referred to in paragraph 3(b) are principally acquired with the purpose of selling in the
near future and generating a profit from fluctuations in price or Broker-traders' margin. When
these inventories are measured at fair value less costs to sell, they are excluded from only the
measurement requirements of this Standard.

Definitions

Definitions
6 The following terms are used in this Standard with the meanings specified:

Inventories are assets:

(a) held for sale in the ordinary course of business;E1, E2
(b) in the process of production for such sale; or
(c) in the form of materials or supplies to be consumed in the production process or in
the rendering of services.E3
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.E4
[Refer: paragraphs 28–33]
Fair value is the price that would be received to sell an asset or paid to transfer a liability
in an orderly transaction between market participants at the measurement date. (See
IFRS 13 Fair Value Measurement.)

E1 [IFRIC®Update, March 2017, Agenda Decision, 'Commodity loans'

The Committee received a request on how to account for a commodity loan

transaction. Specifically, the transaction is one in which a bank borrows gold
from a third party (Contract 1) and then lends that gold to a different third party
for the same term and for a higher fee (Contract 2). The bank enters into the two
contracts in contemplation of each other, but the contracts are not linked—ie the
bank negotiates the contracts independently of each other. In each contract, the
borrower obtains legal title to the gold at inception and has an obligation to
return, at the end of the contract, gold of the same quality and quantity as that
received. In exchange for the loan of gold, each borrower pays a fee to the
respective lender over the term of the contract but there are no cash flows at
inception of the contract.
The Committee was asked whether, for the term of the two contracts, the bank
that borrows and then lends the gold recognises:
a. an asset representing the gold (or the right to receive gold); and
b. a liability representing the obligation to deliver gold.
The Committee observed that the particular transaction in the submission might
not be clearly captured within the scope of any IFRS Standard. [The Committee
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observed, however, that particular IFRS Standards would apply to other

transactions involving commodities (for example, the purchase of commodities
for use in an entity's production process, or the sale of commodities to
customers).] In the absence of a Standard that specifically applies to a
transaction, an entity applies paragraphs 10 and 11 of IAS 8 Accounting Policies,
Changes in Accounting Estimates and Errors in developing and applying an
accounting policy to the transaction. In doing so, paragraph 11 of IAS 8 requires
an entity to consider:
a. whether there are requirements in IFRS Standards dealing with similar and
related issues; and, if not;
b. how to account for the transaction applying the definitions, recognition
criteria and measurement concepts for assets, liabilities, income and
expenses in the Conceptual Framework.
The Committee noted that, applying paragraph 10 of IAS 8, the accounting
policy developed must result in information that is (i) relevant to the economic
decision-making needs of users of financial statements; and (ii) reliable—ie
represents faithfully the financial position, financial performance and cash flows
of the entity; reflects the economic substance; and is neutral, prudent and
complete in all material respects. The Committee observed that, in considering
the requirements that deal with similar and related issues, an entity considers all
the requirements dealing with those similar and related issues, including
relevant disclosure requirements.
The Committee also observed that the requirements in paragraph 112(c) of IAS 1
Presentation of Financial Statements are relevant if an entity develops an
accounting policy applying paragraphs 10 and 11 of IAS 8 for a commodity loan
transaction such as that described in the submission. In applying these
requirements, an entity considers whether additional disclosures are needed to
provide information relevant to an understanding of the accounting for, and
risks associated with, such commodity loan transactions.
The Committee concluded that it would be unable to resolve the question asked
efficiently within the confines of existing IFRS Standards. The wide range of
transactions involving commodities means that any narrow-scope standard-
setting activity would be of limited benefit to entities and would have a high risk
of unintended consequences. Consequently, the Committee decided not to add
this matter to its standard-setting agenda.]

E2 [IFRIC®Update, June 2019, Agenda Decision, 'Holdings of Cryptocurrencies'

The Committee discussed how IFRS Standards apply to holdings of

cryptocurrencies.
The Committee noted that a range of cryptoassets exist. For the purposes of its
discussion, the Committee considered a subset of cryptoassets with all the
following characteristics that this agenda decision refers to as a
'cryptocurrency':
a. a digital or virtual currency recorded on a distributed ledger that uses
cryptography for security.
b. not issued by a jurisdictional authority or other party.
c. does not give rise to a contract between the holder and another party.
Nature of a cryptocurrency
Paragraph 8 of IAS 38 Intangible Assets defines an intangible asset as 'an
identifiable non-monetary asset without physical substance'.
Paragraph 12 of IAS 38 states that an asset is identifiable if it is separable or
arises from contractual or other legal rights. An asset is separable if it 'is capable
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of being separated or divided from the entity and sold, transferred, licensed,
rented or exchanged, either individually or together with a related contract,
identifiable asset or liability'.
Paragraph 16 of IAS 21 The Effects of Changes in Foreign Exchange Rates
states that 'the essential feature of a non-monetary item is the absence of a right
to receive (or an obligation to deliver) a fixed or determinable number of units of
currency'.
The Committee observed that a holding of cryptocurrency meets the definition
of an intangible asset in IAS 38 on the grounds that (a) it is capable of being
separated from the holder and sold or transferred individually; and (b) it does
not give the holder a right to receive a fixed or determinable number of units of
currency.
Which IFRS Standard applies to holdings of cryptocurrencies?
The Committee concluded that IAS 2 Inventories applies to cryptocurrencies
when they are held for sale in the ordinary course of business. If IAS 2 is not
applicable, an entity applies IAS 38 to holdings of cryptocurrencies. The
Committee considered the following in reaching its conclusion.
Intangible Asset
IAS 38 applies in accounting for all intangible assets except:
a. those that are within the scope of another Standard;
b. financial assets, as defined in IAS 32 Financial Instruments: Presentation;
c. the recognition and measurement of exploration and evaluation assets; and
d. expenditure on the development and extraction of minerals, oil, natural gas
and similar non-regenerative resources.
Accordingly, the Committee considered whether a holding of cryptocurrency
meets the definition of a financial asset in IAS 32 or is within the scope of
another Standard.
Financial asset
Paragraph 11 of IAS 32 defines a financial asset. In summary, a financial asset is
any asset that is: (a) cash; (b) an equity instrument of another entity; (c) a
contractual right to receive cash or another financial asset from another entity;
(d) a contractual right to exchange financial assets or financial liabilities with
another entity under particular conditions; or (e) a particular contract that will or
may be settled in the entity's own equity instruments.
The Committee concluded that a holding of cryptocurrency is not a financial
asset. This is because a cryptocurrency is not cash (see below). Nor is it an
equity instrument of another entity. It does not give rise to a contractual right for
the holder and it is not a contract that will or may be settled in the holder's own
equity instruments.
Cash
Paragraph AG3 of IAS 32 states that 'currency (cash) is a financial asset
because it represents the medium of exchange and is therefore the basis on
which all transactions are measured and recognised in financial statements. A
deposit of cash with a bank or similar financial institution is a financial asset
because it represents the contractual right of the depositor to obtain cash from
the institution or to draw a cheque or similar instrument against the balance in
favour of a creditor in payment of a financial liability'.
The Committee observed that the description of cash in paragraph AG3 of IAS
32 implies that cash is expected to be used as a medium of exchange (ie used in
exchange for goods or services) and as the monetary unit in pricing goods or
services to such an extent that it would be the basis on which all transactions
are measured and recognised in financial statements.
Some cryptocurrencies can be used in exchange for particular good or
services. However, the Committee noted that it is not aware of any
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cryptocurrency that is used as a medium of exchange and as the monetary unit

in pricing goods or services to such an extent that it would be the basis on
which all transactions are measured and recognised in financial statements.
Consequently, the Committee concluded that a holding of cryptocurrency is not
cash because cryptocurrencies do not currently have the characteristics of
cash.
Inventory
IAS 2 applies to inventories of intangible assets. Paragraph 6 of that Standard
defines inventories as assets:
a. held for sale in the ordinary course of business;
b. in the process of production for such sale; or
c. in the form of materials or supplies to be consumed in the production
process or in the rendering of services.
The Committee observed that an entity may hold cryptocurrencies for sale in the
ordinary course of business. In that circumstance, a holding of cryptocurrency
is inventory for the entity and, accordingly, IAS 2 applies to that holding.
The Committee also observed that an entity may act as a broker-trader of
cryptocurrencies. In that circumstance, the entity considers the requirements in
paragraph 3(b) of IAS 2 for commodity broker-traders who measure their
inventories at fair value less costs to sell. Paragraph 5 of IAS 2 states that
broker-traders are those who buy or sell commodities for others or on their own
account. The inventories referred to in paragraph 3(b) are principally acquired
with the purpose of selling in the near future and generating a profit from
fluctuations in price or broker-traders' margin.
Disclosure
In addition to disclosures otherwise required by IFRS Standards, an entity is
required to disclose any additional information that is relevant to an
understanding of its financial statements (paragraph 112 of IAS 1 Presentation
of Financial Statements). In particular, the Committee noted the following
disclosure requirements in the context of holdings of cryptocurrencies:
a. An entity provides the disclosures required by (i) paragraphs 36–39 of IAS 2
for cryptocurrencies held for sale in the ordinary course of business; and (ii)
paragraphs 118–128 of IAS 38 for holdings of cryptocurrencies to which it
applies IAS 38.
b. If an entity measures holdings of cryptocurrencies at fair value, paragraphs
91–99 of IFRS 13 Fair Value Measurement specify applicable disclosure
requirements.
c. Applying paragraph 122 of IAS 1, an entity discloses judgements that its
management has made regarding its accounting for holdings of
cryptocurrencies if those are part of the judgements that had the most
significant effect on the amounts recognised in the financial statements.
d. Paragraph 21 of IAS 10 Events after the Reporting Period requires an entity to
disclose details of any material non-adjusting events, including information
about the nature of the event and an estimate of its financial effect (or a
statement that such an estimate cannot be made). For example, an entity
holding cryptocurrencies would consider whether changes in the fair value
of those holdings after the reporting period are of such significance that non-
disclosure could influence the economic decisions that users of financial
statements make on the basis of the financial statements.]

E3 [IFRIC®Update, November 2014, Agenda Decision, 'IAS 16 Property, Plant and

Equipment and IAS 2 Inventories—Accounting for core inventories'
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The Interpretations Committee received a request to clarify the accounting for

'core inventories'. The submitter defined core inventories as a minimum amount
of material that:
(a) is necessary to permit a production facility to start operating and to maintain
subsequent production;
(b) cannot be physically separated from other inventories; and
(c) can be removed only when the production facility is finally decommissioned
or is at a considerable financial charge.
The issue is whether core inventories should be accounted for under IAS 16 or
IAS 2.
The Interpretations Committee discussed the issue at its March 2014 meeting
and tentatively decided to develop an Interpretation. The Interpretations
Committee further directed the staff to define the scope of what is considered to
be core inventories and to analyse the applicability of the concept to a range of
industries.
At its July 2014 meeting the Interpretations Committee discussed the feedback
received from informal consultations with IASB members, the proposed scope
of core inventories and the staff analysis of the applicability of the issue to a
range of industries.
The Interpretations Committee observed that what might constitute core
inventories, and how they are accounted for, can vary between industries. The
Interpretations Committee noted that significant judgement might be needed in
determining the appropriate accounting. Disclosure about such judgements
might therefore be needed in accordance with paragraph 122 of IAS 1
Presentation of Financial Statements.
The Interpretations Committee noted that it did not have clear evidence that the
differences in accounting were caused by differences in how IAS 2 and IAS 16
were being applied. In the absence of such evidence, the Interpretations
Committee decided to remove this item from its agenda.]

E4 [IFRIC®Update, June 2021, Agenda Decision, 'IAS 2 Inventories—Costs

Necessary to Sell Inventories'
The Committee received a request about the costs an entity includes as the
'estimated costs necessary to make the sale' when determining the net
realisable value of inventories. In particular, the request asked whether an entity
includes all costs necessary to make the sale or only those that are incremental
to the sale.
Paragraph 6 of IAS 2 defines net realisable value as '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. Paragraphs 28–33 of IAS 2
include further requirements about how an entity estimates the net realisable
value of inventories. Those paragraphs do not identify which specific costs are
'necessary to make the sale' of inventories. However, paragraph 28 of IAS 2
describes the objective of writing inventories down to their net realisable value
—that objective is to avoid inventories being carried 'in excess of amounts
expected to be realised from their sale'.
The Committee observed that, when determining the net realisable value of
inventories, IAS 2 requires an entity to estimate the costs necessary to make the
sale. This requirement does not allow an entity to limit such costs to only those
that are incremental, thereby potentially excluding costs the entity must incur to
sell its inventories but that are not incremental to a particular sale. Including only
incremental costs could fail to achieve the objective set out in paragraph 28 of

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IAS 2.
The Committee concluded that, when determining the net realisable value of
inventories, an entity estimates the costs necessary to make the sale in the
ordinary course of business. An entity uses its judgement to determine which
costs are necessary to make the sale considering its specific facts and
circumstances, including the nature of the inventories.
The Committee concluded that the principles and requirements in IFRS
Standards provide an adequate basis for an entity to determine whether the
estimated costs necessary to make the sale are limited to incremental costs
when determining the net realisable value of inventories. Consequently, the
Committee decided not to add a standard-setting project to the work plan.]

7 Net realisable value refers to the net amount that an entity expects to realise from the sale of
inventory in the ordinary course of business. Fair value reflects the price at which an orderly
transaction to sell the same inventory in the principal (or most advantageous) market [Refer:
IFRS 13 paragraph 16] for that inventory would take place between market participants [Refer:
IFRS 13 Appendix A] at the measurement date [Refer: IFRS 13 paragraph B35(f)]. The former
is an entity-specific value; the latter is not. Net realisable value for inventories may not equal fair
value less costs to sell.

8 Inventories encompass goods purchased and held for resale including, for example, merchandise
purchased by a retailer and held for resale, or land and other property held for resale. Inventories
also encompass finished goods produced, or work in progress being produced, by the entity and
include materials and supplies awaiting use in the production process. Costs incurred to fulfil a
contract with a customer that do not give rise to inventories (or assets within the scope of another
Standard) are accounted for in accordance with IFRS 15 Revenue from Contracts with
Customers.

Measurement of inventories

Measurement of inventories
9 Inventories shall be measured at the lower of cost [Refer: paragraphs 10–27] and net
realisable value. [Refer: paragraphs 28–33]

Cost of inventories
10 The cost of inventories shall comprise all costs of purchase, [Refer: paragraph 11] costs
of conversion [Refer: paragraphs 12–14] and other costs [Refer: paragraphs 15–18]
incurred in bringing the inventories to their present location and condition.

Costs of purchase
11 The costs of purchase of inventories comprise the purchase price, import duties and other taxes
(other than those subsequently recoverable by the entity from the taxing authorities), and transport,
handling and other costs directly attributable to the acquisition of finished goods, materials and
services. Trade discounts, rebates and other similar items are deducted in determining the costs
of purchase.E5, E6

E5 [IFRIC®Update, August 2002, Agenda Decision, 'Inventories—cash discounts'

This issue considers how a purchaser of goods should account for cash
discounts received.
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The IFRIC agreed not to require publication of an Interpretation on this issue

because IAS 2 Inventoriesparagraph 8 provides adequate guidance. Cash
discounts received should be deducted from the cost of the goods purchased.
[Paragraph 8 was renumbered paragraph 11 of IAS 2 as a result of the
Improvements project.]

E6 [IFRIC®Update, November 2004, Agenda Decision, 'IAS 2 Inventories: Discounts

and rebates'
The IFRIC considered three related questions on the application of IAS 2
Inventories that had been referred to it by the Urgent Issues Group (UIG) of the
Australian Accounting Standards Board:
(a) whether discounts received for prompt settlement of invoices should be
deducted from the cost of inventories or recognised as financing income.
(b) whether all other rebates should be deducted from the cost of inventories.
The alternative would be to treat some rebates as revenue or a reduction in
promotional expenses.
(c) whether volume rebates should be recognised only when threshold volumes
are achieved, or proportionately where achievement is assessed as
probable.
On (a), the IFRIC tentatively agreed that settlement discounts should be
deducted from the cost of inventories. Because the requirements under IFRSs
were sufficiently clear, the IFRIC tentatively agreed that the matter should not be
added to the agenda.
On (b), the IFRIC tentatively agreed that IAS 2 requires only those rebates and
discounts that have been received as a reduction in the purchase price of
inventories to be taken into consideration in the measurement of the cost of the
inventories. Rebates that specifically and genuinely refund selling expenses
would not be deducted from the costs of inventories. Because the requirements
under IFRSs were sufficiently clear, the IFRIC tentatively agreed that the matter
should not be added to the agenda.
On (c), the IFRIC tentatively agreed that there was insufficient evidence of
diversity in practice to warrant the matter being added to the agenda.]

Costs of conversion
12 The costs of conversion of inventories include costs directly related to the units of production, such
as direct labour. They also include a systematic allocation of fixed and variable production
overheads that are incurred in converting materials into finished goods. Fixed production
overheads are those indirect costs of production that remain relatively constant regardless of the
volume of production, such as depreciation and maintenance of factory buildings, equipment and
right-of-use assets used in the production process, and the cost of factory management and
administration. Variable production overheads are those indirect costs of production that vary
directly, or nearly directly, with the volume of production, such as indirect materials and indirect
labour.

13 The allocation of fixed production overheads to the costs of conversion is based on the normal
capacity of the production facilities. Normal capacity is the production expected to be achieved on
average over a number of periods or seasons under normal circumstances, taking into account
the loss of capacity resulting from planned maintenance. The actual level of production may be
used if it approximates normal capacity. The amount of fixed overhead allocated to each unit of
production is not increased as a consequence of low production or idle plant. Unallocated
overheads are recognised as an expense in the period in which they are incurred. In periods of
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abnormally high production, the amount of fixed overhead allocated to each unit of production is
decreased so that inventories are not measured above cost. Variable production overheads are
allocated to each unit of production on the basis of the actual use of the production facilities.

14 A production process may result in more than one product being produced simultaneously. This is
the case, for example, when joint products are produced or when there is a main product and a
by-product. When the costs of conversion of each product are not separately identifiable, they are
allocated between the products on a rational and consistent basis. The allocation may be based,
for example, on the relative sales value of each product either at the stage in the production
process when the products become separately identifiable, or at the completion of production.
Most by-products, by their nature, are immaterial. When this is the case, they are often measured
at net realisable value and this value is deducted from the cost of the main product. As a result,
the carrying amount of the main product is not materially different from its cost.

Other costs
15 Other costs are included in the cost of inventories only to the extent that they are incurred in
bringing the inventories to their present location and condition. For example, it may be
appropriate to include non-production overheads or the costs of designing products for specific
customers in the cost of inventories.

16 Examples of costs excluded from the cost of inventories and recognised as expenses in the
period in which they are incurred are:
(a) abnormal amounts of wasted materials, labour or other production costs;
(b) storage costs, unless those costs are necessary in the production process before a further
production stage;
(c) administrative overheads that do not contribute to bringing inventories to their present location
and condition; and
(d) selling costs.

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

18 An entity may purchase inventories on deferred settlement terms. When the arrangement
effectively contains a financing element, that element, for example a difference between the
purchase price for normal credit terms and the amount paid, is recognised as interest expense
over the period of the financing.E7

E7 [IFRIC®Update, November 2015, Agenda Decision, 'IAS 2 Inventories—

Prepayments in long-term supply contracts'
The Interpretations Committee received a request seeking clarification on the
accounting for long-term supply contracts for inventories when the purchaser
agrees to make significant prepayments to the supplier. The question
considered is whether the purchaser should accrete interest on long-term
prepayments by recognising interest income, resulting in an increase in the cost
of inventories and, ultimately, the cost of sales.
The Interpretations Committee discussed this issue and noted that paragraph
18 of IAS 2 Inventories requires that when an entity purchases inventories on
deferred settlement terms, and the arrangement contains a financing element,
the difference between the purchase price on normal credit terms and the
amount paid is recognised separately as interest expense over the period of the
financing. It also noted that IAS 16 Property, Plant and Equipment and IAS 38
Intangible Assets include similar requirements when payment for an asset is
deferred. IFRS 15 Revenue from Contracts with Customers, issued in May 2014,

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additionally includes the requirement that the financing component of a

transaction should be recognised separately in circumstances of both
prepayment and deferral of payment.
The Interpretations Committee conducted outreach on this issue, but the
outreach returned very limited results. In the absence of evidence about this
issue, and of a broader range of information about the facts and circumstances
relating to these transactions, the Interpretations Committee thought it would be
difficult for it to address this topic efficiently and effectively. The Interpretations
Committee observed, however, that when a financing component is identified in
a long-term supply contract, that financing component should be accounted for
separately. The Interpretations Committee acknowledged that judgement is
required to identify when individual arrangements contain a financing
component.
The Interpretations Committee concluded that this issue did not meet its agenda
criteria and therefore it decided to remove this issue from its agenda.]

19 [Deleted]

Cost of agricultural produce harvested from biological assets

20 In accordance with IAS 41 Agriculture inventories comprising agricultural produce that an entity
has harvested from its biological assets are measured on initial recognition at their fair value less
costs to sell at the point of harvest. This is the cost of the inventories at that date for application of
this Standard. [Refer: IAS 41 paragraph 13]

Techniques for the measurement of cost

21 Techniques for the measurement of the cost of inventories, such as the standard cost method or
the retail method, may be used for convenience if the results approximate cost. 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.

22 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. The percentage used takes into consideration
inventory that has been marked down to below its original selling price. An average percentage
for each retail department is often used.

Cost formulas
23 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.

24 Specific identification of cost means that specific costs are attributed to identified items of
inventory. This is the appropriate treatment for items that are segregated for a specific project,
regardless of whether they have been bought or produced. However, specific identification of
costs is inappropriate when there are large numbers of items of inventory that are ordinarily
interchangeable. In such circumstances, the method of selecting those items that remain in
inventories could be used to obtain predetermined effects on profit or loss.

25 The cost of inventories, other than those dealt with in paragraph 23, shall be assigned by
using the first-in, first-out (FIFO) or weighted average cost formula. [Refer: paragraph 27]
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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.
[Refer: Basis for Conclusions paragraphs BC9–BC21 (for exclusion of the LIFO cost
formula)]

26 For example, inventories used in one operating segment [Refer: IFRS 8 paragraphs 5–10] may
have a use to the entity different from the same type of inventories used in another operating
segment. However, a difference in geographical location of inventories (or in the respective tax
rules), by itself, is not sufficient to justify the use of different cost formulas.

27 The FIFO formula assumes that the items of inventory that were purchased or produced first are
sold first, and consequently the items remaining in inventory at the end of the period are those
most recently purchased or produced. Under the weighted average cost formula, the cost of each
item is determined from the weighted average of the cost of similar items at the beginning of a
period and the cost of similar items purchased or produced during the period. The average may
be calculated on a periodic basis, or as each additional shipment is received, depending upon
the circumstances of the entity.

Net realisable valueE8

E8 [IFRIC®Update, March 2004, 'Consumption of inventories by a service

organisation'
The issue related to the consumption of inventories by a service entity, in
particular the assessment of net realisable value when the inventory is
consumed as part of the service rendered.
The IFRIC noted that the same issues existed for commercial entities. The IFRIC
concluded that this matter was one of assessing the recoverability of an asset
without a direct cash flow.]

28 The cost of inventories may not be recoverable if those inventories are damaged, if they have
become wholly or partially obsolete, or if their selling prices have declined. The cost of inventories
may also not be recoverable if the estimated costs of completion or the estimated costs to be
incurred to make the sale have increased. The practice of writing inventories down below cost to
net realisable value is consistent with the view that assets should not be carried in excess of
amounts expected to be realised from their sale or use.

29 Inventories are usually written down to net realisable value item by item. In some circumstances,
however, it may be appropriate to group similar or related items. This may be the case with items
of inventory relating to the same product line that have similar purposes or end uses, are
produced and marketed in the same geographical area, and cannot be practicably evaluated
separately from other items in that product line. It is not appropriate to write inventories down on
the basis of a classification of inventory, for example, finished goods, or all the inventories in a
particular operating segment [Refer: IFRS 8 paragraphs 5–10].

30 Estimates of net realisable value are based on the most reliable evidence available at the time
the estimates are made, of the amount the inventories are expected to realise. These estimates
take into consideration fluctuations of price or cost directly relating to events occurring after the
end of the period to the extent that such events confirm conditions existing at the end of the
period. [Refer: IAS 10 paragraphs 7–11]

31 Estimates of net realisable value also take into consideration the purpose for which the inventory
is held. For example, the net realisable value of the quantity of inventory held to satisfy firm sales
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or service contracts is based on the contract price. If the sales contracts are for less than the
inventory quantities held, the net realisable value of the excess is based on general selling prices.
Provisions may arise from firm sales contracts in excess of inventory quantities held or from firm
purchase contracts. Such provisions are dealt with under IAS 37 Provisions, Contingent
Liabilities and Contingent Assets.

32 Materials and other supplies held for use in the production of inventories are not written down
below cost if the finished products in which they will be incorporated are expected to be sold at or
above cost. However, when a decline in the price of materials indicates that the cost of the
finished products exceeds net realisable value, the materials are written down to net realisable
value. In such circumstances, the replacement cost of the materials may be the best available
measure of their net realisable value.

33 A new assessment is made of net realisable value in each subsequent period. 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 net realisable value because of changed economic
circumstances, the amount of the write-down is reversed (ie the reversal is limited to the amount
of the original write-down) so that the new carrying amount is the lower of the cost and the revised
net realisable value. This occurs, for example, when an item of inventory that is carried at net
realisable value, because its selling price has declined, is still on hand in a subsequent period
and its selling price has increased.

Recognition as an expense

Recognition as an expense
34 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. [Refer: IFRS 15
paragraph 31] 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.

35 Some inventories may be allocated to other asset accounts, for example, inventory used as a
component of self-constructed property, plant or equipment [Refer: IAS 16 paragraph 22].
Inventories allocated to another asset in this way are recognised as an expense during the useful
life of that asset.

Disclosure

Disclosure
36 The financial statements shall disclose:

(a) the accounting policies adopted in measuring inventories, including the cost formula
[Refer: paragraphs 23–27] used;
(b) the total carrying amount of inventories and the carrying amount in classifications
appropriate to the entity; [Refer: paragraph 37]
(c) the carrying amount of inventories carried at fair value less costs to sell; [Refer:
paragraph 3(b)]
(d) the amount of inventories recognised as an expense during the period; [Refer:
paragraphs 38 and 39 and Basis for Conclusions paragraphs BC22 and BC23]

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(e) the amount of any write-down of inventories recognised as an expense in the period
in accordance with paragraph 34;
(f) the amount of any reversal of any write-down that is recognised as a reduction in the
amount of inventories recognised as expense in the period in accordance with
paragraph 34;
(g) the circumstances or events that led to the reversal of a write-down of inventories in
accordance with paragraph 34; [Refer: paragraph 33] and
(h) the carrying amount of inventories pledged as security for liabilities.

37 Information about the carrying amounts held in different classifications of inventories and the
extent of the changes in these assets is useful to financial statement users. [Refer: Conceptual
Framework paragraphs 1.2–1.10 and 2.36] Common classifications of inventories are
merchandise, production supplies, materials, work in progress and finished goods.

38 The amount of inventories recognised as an expense during the period, which is often referred to
as cost of sales, consists of those costs previously included in the measurement of inventory that
has now been sold and unallocated production overheads and abnormal amounts of production
costs of inventories. The circumstances of the entity may also warrant the inclusion of other
amounts, such as distribution costs.

39 Some entities adopt a format for profit or loss that results in amounts being disclosed other than
the cost of inventories recognised as an expense during the period. Under this format, an entity
presents an analysis of expenses using a classification based on the nature of expenses. In this
case, the entity discloses the costs recognised as an expense for raw materials and
consumables, labour costs and other costs together with the amount of the net change in
inventories for the period. [Refer: IAS 1 paragraph 102]

Effective date

Effective date
40 An entity shall apply this Standard for annual periods beginning on or after 1 January 2005. Earlier
application is encouraged. If an entity applies this Standard for a period beginning before 1
January 2005, it shall disclose that fact.

40A[Deleted]

40B[Deleted]

40CIFRS 13, issued in May 2011, amended the definition of fair value in paragraph 6 and amended
paragraph 7. An entity shall apply those amendments when it applies IFRS 13.

40D[Deleted]

40EIFRS 15 Revenue from Contracts with Customers, issued in May 2014, amended paragraphs 2,
8, 29 and 37 and deleted paragraph 19. An entity shall apply those amendments when it applies
IFRS 15.

40FIFRS 9, as issued in July 2014, amended paragraphs 2 and deleted paragraphs 40A, 40B and
40D. An entity shall apply those amendments when it applies IFRS 9.

40GIFRS 16 Leases, issued in January 2016, amended paragraph 12. An entity shall apply that
amendment when it applies IFRS 16.

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Withdrawal of other pronouncements

Withdrawal of other pronouncements

41 This Standard supersedes IAS 2 Inventories (revised in 1993).

42 This Standard supersedes SIC-1 Consistency—Different Cost Formulas for Inventories.

Appendix Amendments to other pronouncements

Appendix Amendments to other

pronouncements
The amendments in this appendix shall be applied for annual periods beginning on or after 1
January 2005. If an entity applies this Standard for an earlier period, these amendments shall be
applied for that earlier period.

*****

The amendments contained in this appendix when this Standard was revised in 2003 have been
incorporated into the relevant pronouncements published in this volume.

Approval by the Board of IAS 2 issued in December 2003

Approval by the Board of IAS 2 issued

in December 2003
International Accounting Standard 2 Inventories (as revised in 2003) was approved for issue by the
fourteen members of the International Accounting Standards Board.

Sir David Tweedie Chairman

Thomas E Jones Vice-Chairman

Mary E Barth

Hans-Georg Bruns

Anthony T Cope

Robert P Garnett

Gilbert G élard
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James J Leisenring

Warren J McGregor

Patricia L O'Malley

Harry K Schmid

John T Smith

Geoffrey Whittington

Tatsumi Yamada

Basis for Conclusions

Basis for Conclusions

The text of the unaccompanied standard, IAS 2, presents the following document. Its effective date
when issued was 1 January 2005.

This Basis for Conclusions accompanies, but is not part of, IAS 2.

Introduction
BC1This Basis for Conclusions summarises the International Accounting Standards Board's
considerations in reaching its conclusions on revising IAS 2 Inventories in 2003. Individual Board
members gave greater weight to some factors than to others.

BC2In July 2001 the Board announced that, as part of its initial agenda of technical projects, it would
undertake a project to improve a number of Standards, including IAS 2. The project was
undertaken in the light of queries and criticisms raised in relation to the Standards by securities
regulators, professional accountants and other interested parties. The objectives of the
Improvements project were to reduce or eliminate alternatives, redundancies and conflicts within
Standards, to deal with some convergence issues and to make other improvements. In May 2002
the Board published its proposals in an Exposure Draft of Improvements to International
Accounting Standards, with a comment deadline of 16 September 2002. The Board received
over 160 comment letters on the Exposure Draft.

BC3Because the Board's intention was not to reconsider the fundamental approach to the accounting
for inventories established by IAS 2, this Basis for Conclusions does not discuss requirements in
IAS 2 that the Board has not reconsidered.

Scope

Reference to historical cost system

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BC4Both the objective and the scope of the previous version of IAS 2 referred to 'the accounting
treatment for inventories under the historical cost system.' Some had interpreted those words as
meaning that the Standard applied only under a historical cost system and permitted entities the
choice of applying other measurement bases, for example fair value.

BC5The Board agreed that those words could be seen as permitting a choice, resulting in
inconsistent application of the Standard. Accordingly, it deleted the words 'in the context of the
historical cost system in accounting for inventories' to clarify that the Standard applies to all
inventories that are not specifically exempted from its scope.

Inventories of broker-traders
[Refer: paragraphs 3(b) and 5]

BC6The Exposure Draft proposed excluding from the scope of the Standard inventories of non-
producers of agricultural and forest products and mineral ores to the extent that these inventories
are measured at net realisable value in accordance with well-established industry practices.
However, some respondents disagreed with this scope exemption for the following reasons:

(a) the scope exemption should apply to all types of inventories of broker-traders;
(b) established practice is for broker-traders to follow a mark-to-market approach rather than to
value these inventories at net realisable value;
(c) the guidance on net realisable value in IAS 2 is not appropriate for the valuation of inventories
of broker-traders.

BC7The Board found these comments persuasive. Therefore it decided that the Standard should not
apply to the measurement of inventories of:
(a) 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 (as in the
previous version of IAS 2), or
(b) commodity broker-traders when their inventories are measured at fair value less costs to sell.

BC8The Board further decided that the measurement of the effect of inventories on profit or loss for
the period needed to be consistent with the measurement attribute of inventories for which such
exemption is allowed. Accordingly, to qualify under (a) or (b), the Standard requires changes in the
recognised amount of inventories to be included in profit or loss for the period. The Board
believes this is particularly appropriate in the case of commodity broker-traders because they
seek to profit from fluctuations in prices and trade margins.

Cost formulas
BC9The combination of the previous version of IAS 2 and SIC-1 Consistency—Different Cost
Formulas for Inventories allowed some choice between first-in, first-out (FIFO) or weighted
average cost formulas (benchmark treatment) and the last-in, first-out (LIFO) method (allowed
alternative treatment). The Board decided to eliminate the allowed alternative of using the LIFO
method.

BC10The LIFO method treats the newest items of inventory as being sold first, and consequently the
items remaining in inventory are recognised as if they were the oldest. This is generally not a
reliable representation of actual inventory flows.

BC11The LIFO method is an attempt to meet a perceived deficiency of the conventional accounting
model (the measurement of cost of goods sold expense by reference to outdated prices for the
inventories sold, whereas sales revenue is measured at current prices). It does so by imposing an
unrealistic cost flow assumption.

BC12The use of LIFO in financial reporting is often tax-driven, because it results in cost of goods sold
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expense calculated using the most recent prices being deducted from revenue in the
determination of the gross margin. The LIFO method reduces (increases) profits in a manner that
tends to reflect the effect that increased (decreased) prices would have on the cost of replacing
inventories sold. However, this effect depends on the relationship between the prices of the most
recent inventory acquisitions and the replacement cost at the end of the period. Thus, it is not a
truly systematic method for determining the effect of changing prices on profits.

BC13The use of LIFO results in inventories being recognised in the balance sheet at amounts that
bear little relationship to recent cost levels of inventories. However, LIFO can distort profit or loss,
especially when 'preserved' older 'layers' of inventory are presumed to have been used when
inventories are substantially reduced. It is more likely in these circumstances that relatively new
inventories will have been used to meet the increased demands on inventory.

BC14Some respondents argued that the use of LIFO has merit in certain circumstances because it
partially adjusts profit or loss for the effects of price changes. The Board concluded that it is not
appropriate to allow an approach that results in a measurement of profit or loss for the period that
is inconsistent with the measurement of inventories for balance sheet purposes.

BC15Other respondents argued that in some industries, such as the oil and gas industry, inventory
levels are driven by security considerations and often represent a minimum of 90 days of sales.
They argue that, in these industries, the use of LIFO better reflects an entity's performance
because inventories held as security stocks are closer to long-term assets than to working capital.

BC16The Board was not convinced by these arguments because these security stocks do not match
historical layers under a LIFO computation.

BC17Other respondents argued that in some cases, for example, when measuring coal dumps, piles
of iron or metal scraps (when stock bins are replenished by 'topping up'), the LIFO method reflects
the actual physical flow of inventories.

BC18The Board concluded that valuation of these inventories follows a direct costing approach
where actual physical flows are matched with direct costs, which is a method different from LIFO.

BC19The Board decided to eliminate the LIFO method because of its lack of representational
faithfulness of inventory flows. This decision does not rule out specific cost methods that reflect
inventory flows that are similar to LIFO.

BC20The Board recognised that, in some jurisdictions, use of the LIFO method for tax purposes is
possible only if that method is also used for accounting purposes. It concluded, however, that tax
considerations do not provide an adequate conceptual basis for selecting an appropriate
accounting treatment and that it is not acceptable to allow an inferior accounting treatment purely
because of tax regulations and advantages in particular jurisdictions. This may be an issue for
local taxation authorities.

BC21IAS 2 continues to allow the use of both the FIFO and the weighted average methods for
interchangeable inventories.

Cost of inventories recognised as an expense in the period

[Refer: paragraph 36(d)]

BC22The Exposure Draft proposed deleting paragraphs in the previous version of IAS 2 that
required disclosure of the cost of inventories recognised as an expense in the period, because
this disclosure is required in IAS 1 Presentation of Financial Statements.

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BC23Some respondents observed that IAS 1 does not specifically require disclosure of the cost of
inventories recognised as an expense in the period when presenting an analysis of expenses
using a classification based on their function. They argued that this information is important to
understand the financial statements. Therefore the Board decided to require this disclosure
specifically in IAS 2.

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