Pas 2 Inventories

OBJECTIVES OF PAS 2
1. To prescribe the accounting treatment for inventories primary the amount of
cost to be recognized as an asset and carried forward until the related revenues
are recognized;
2. To provide guidance on the determination of cost and its subsequent
recognition as an expense, including any write-down to net realizable value;
and
3. To provide guidance on the cost formula that are used to assign costs to
inventories
INVENTORIES NOT WITHIN PAS 2
1. Financial Instrument – PAS 32 and PAS 9
2. Biological assets related to PAS 41 – Agriculture
INVENTORIES NOT WITHIN PAS 2 – MEASUREMENT
1. Inventories held by producers of agricultural and forest products, agricultural
produce after harvest, minerals and mineral products.
2. Inventory held by commodity broker who measure their inventories at fair
value less costs to sell.
Raw Materials – materials and supplies to be used directly in the production process
Work in Process – in process of production
Finished Goods – held for sale in the ordinary course of business
When to recognition inventory as an asset? – CONSIGNMENT
 Is an agreement in which goods are left in possession of an authorized third
party.
 Who are the parties in consignment?
 Consignor – the owner of the goods
 Consignee – authorized agent to sell the goods
 Who is the owner of the consigned goods?
 Consignor – who has the legal title, regardless of location
 Who is the owner of goods with unusual right of return?
 Seller – but not applicable to merchandising like grocery store or
department store and the like
Recognition?
ASSET

WHO IS A COMMODITY BROKER  When the present economic resource controlled by the entity at the date of the
balance sheet
 A commodity broker is a firm or an individual who executes orders to buy or  The entity as a legal title or ownership at the end of the accounting period
sell commodity contracts on behalf of the clients and charges them a
commission. Inventories held by them who measures their inventories at FV EXPENSE
less cost to sell are not within PAS 2 – measurement.  When sold
 When written down to net realizable value and all losses of inventories
 Allocated to other asset accounts wherein the expenses are recognized during
the useful life of the asset
WHAT ARE INVENTORIES? OWNERSHIP OF GOODS? IN TRANSIT
FOB – Free on board/ freight on board
Destination – seller – while the goods is still in transit, paid for the shipment –
Accounts receivable
- Buyer – upon receipt of the goods
Shipping point – buyer – upon shipment or when the carries takes possession,
FREIGHT IN AND FREIGHT OUT?
paid the shipment
TREATMENT OF FREIGHT COSTS
How are different types of freight costs treated in the financials?
FAS – Free alongside
Treatment Classification Entity
Buyer – when the carries takes possession of the goods, bears the cost of
loading and shipment although the seller paid the expenses and risk in delivering the Freight-in: Capitalized Cost of goods PURCHASER
goods to vessel
Into inventory sold
Freight-out: Expensed Selling SELLER
CIF – Cost, insurance, freight.
when incurred expenses
Buyer – paid the cost of CIF
Ex-ship – buyer – after unloaded the goods
Seller – carrier possession until unloaded, bears expenses and risk
WHEN TO RECOGNIZE INVENTORY AS AN EXPENSE?
PRINCIPLE
1. When sold
2. When written down to net realizable value and all losses
3. Inventories that are allocated to other asset accounts wherein the expense are
recognize during the useful life of the asset
Ex. Inventory used as a component of self-constructed property, plant or equipment.

COST BECOMES EXPENSE when goods are sold and revenue is earned. The
inventory moves into the cost of goods sold (COGS) and is shown as expenses
items in the income statement.
 - We know exactly how many items are left
- Requires the maintenance of record (stock card) and monitors the
balance of inventory on hand. Physical count is only necessary to
<< REASON >> verify the perpetual record if correct.

As per accounting COGS is deducted from the sale revenue of the company to RECORDING AND MEASURING INVENTORY
calculate the gross profit/loss. This is in line with the matching principle of Types of Inventory:
accounting. The matching principle suggests that a company should report its
expense related to the sale revenue in the income statement. Therefore, a Merchandise Inventory – Goods acquired for resale
business while recognizing its revenue as it occurs, must acknowledge the Manufacturing Inventory – Raw Materials
COGS in the same period.
- Work – in – Process
- Finished Goods
INVENTORY GENERAL MEASUREMENT: LOWER OF COST AND NET
<< HOW TO DETERMINE VALUE OF EXPENSE>> RELIAZABLE VALUE
 It depends upon inventory management system practice by the business MEASUREMENT OF INVENTORIES
– FIFO, LIFO or Weighted Average Cost.
 Inventories should be valued at lower of cost and NRV.
 And each moment of time, the cost of production or purchases may
vary. Thereby all the products may not have the same cost.  Major points for valuation of inventories:

Determination of
ACCOUNTING SYSTEM: MEASUREMENT: PERIODIC AND PERPETUAL Cost of Inventories Determination of Comparing Cost
SYSTEM NRV & NRV
Periodic – requires a periodic physical count of goods at the end of the accounting
Cost of Purchase – purchase price, import duties and irrecoverable taxes, transport,
period
handling and other costs directly attributable to the acquisition of finished goods,
Perpetual – Beginning inventory + purchases – ending inventory (based on the actual materials and services.
physical count) = Cost of goods sold (COGS)
1. Trade discount, rebates and other similar items are deducted from the costs of
- Inventory quantities are updated after each transaction purchase.
- We know exactly how many items were sold
Cost of Conversion – cost associated in converting raw materials into finished goods.
It includes – direct materials, direct labor, indirectly related factory overhead.
1. Fixed factory overhead – indirect cost of production that remains fixed
regardless of the volume of production (depreciation, maintenance,
management and administration related to factory)
Variable factory overhead – indirect costs of production that vary directly with the
volume of production such as indirect materials and indirect labor.

DIRECT COSTS INDIRECT COSTS FORMULA USED IN THE COMPUTATION OF COSTS: SPECIFIC
- Direct Labor - Rent IDENTIFICATION, FIFO, WEIGHTED AVERAGE
- Direct Materials - Utilities Specific identification method – se for inventory that are not ordinarily
- Manufacturing Supplies - General Office Expenses interchangeable and goods or services produced and segregated for specific projects,
whether they are bought or produced car dealerships, jewelry stores, art galleries,
COSTS EXCLUDED FROM THE COSTS OF INVENTORY furniture stores .
Must be expense in the period in which they are incurred FIFO – assume that the inventory that were purchased or produces first are sold first,
1. Abnormal amount of wasted materials, labor or other production cost thus the inventories are those most recently purchased or produced goods with
2. Storage costs, unless necessary before a further production stage expiration restriction – such as?
3. Administrative overhead not for factory Weighted Average – determined from the weighted average cost of similar items at
4. Selling costs the beginning and during the period
5. Interest expense
6. Foreign currency difference Chemical manufacturing, agriculture business, oil companies

TECHNIQUES FOR MEASUREMENT OF COST: STANDARD AND DIFFERENCE BETWEEN NRV AND FV
RETAIL COST METHOD NRV
Standard cost method – costing method that takes into account the normal levels of  It is the net amount that an entity expects to realize from the sale of inventory
materials and supplies, labor efficiency and capacity utilization in the ordinary course of business (based on the most reliable evidence at the
time the estimates are made)
 It is an entity – specific value
FAIR VALUE
 It is the price at which an orderly transaction to sell the same inventory in the
principal market for the inventory would take place between market
participants at the measurement date.
 It is not entity – specific value

PRESENTATION OF INVENTORY IN FINANCIAL STATEMENT

NET RELIAZABLE VALUE
 Estimated selling in the ordinary course of business – estimated costs of
completion – estimated costs necessary to make a sale
 Current asset
 One line item in the balance sheet or statement of financial position
 Details shall be disclosed in the notes to financial statements

 Notes about valuing inventory

Companies have two inventory issues that must be disclosed in the notes: the basis
upon which the company states inventory (lower of cost or market) and the method in
use to determine cost. GAAP allows three different cost flow assumptions: specific
identification; weighted average; and first in, first out (FIFO)
 Breakdown of amounts of inventory in the face of FS
REASON OF WRITTEN DOWN INVENTORY TO NRV
 Notes
 Inventory are damaged  Raw material – 10, 000
 Inventory is wholly or partially obsolete  Work in process – 20, 000
 Selling price of the inventory decline  Finished goods – 65, 000
 Estimated cost of completion increased  Out for consignment – 5, 000
 Total – 100, 000
NECESSARY DISCLOSURE
 Accounting policy in measuring inventory and cost formula use
 Total carrying amount of inventories and the carrying amount in classification
appropriate to the entity
 Carrying amount carried at fair value less cost to sell
 Amount of inventory recognize as an expense during the period
 Amount of any write down
 Amount of any reversal of write down
 Circumstances that led to the reversal of a write down
 Carrying amount of inventory pledged as security for liability
 Inventory from consignment
 Inventory out for consignment