OVERVIEW

This module prescribes to PAS 2 the accounting standards for inventories. PAS 2
recognizes the key concept in the accounting for inventories is the determination of cost
to be recognized as asset and carried forward until it is expensed. Accordingly, PAS 2
provides guidance in the determination of cost of inventories, including the use of cost
formulas, and their subsequent measurement and recognition criteria as expense.
The aim of this module is for the learners to understand and identify the key
concepts in recognizing the inventories.

LEARNING OUTCOMES
At the end of this module, you should be able to:
• To understand the meaning of inventories.
• To identify the items included in inventory cost.
• To identify the cost formulas required by IFRS.
• To know the measurement of inventory in the statement of financial
position.
• To apply the lower of cost and net realizable value basis of measurement.

Define inventories
4.1
Inventories are assets:
a. Held for sale in the ordinary course of business (finished
goods);
b. In the process of production for such sale (Work-in-Process);
or
c. In the form of materials or supplies to be consumed in the
production process or in the rendering of services (Raw
materials and manufacturing supplies).

Financial statement preparation

All items that meet the definition of inventory are presented on the
statement of financial position as one-line item under the caption
“Inventories.”
The breakdown of this line item (as finished goods, WIP and Raw
materials) is disclosed in the notes.
Inventories are normally presented in a classified statement of financial
position as current assets.
 Costs that are EXPENSED when incurred

1. Abnormal amounts of wasted materials, labor or other production costs.

2. Selling costs, for example, advertising and promotion costs and delivery expense or freight
out.
3. Administrative overheads that do not contribute to bringing inventories to their present
location and condition.
4. Storage costs, unless those costs are necessary in the production process before a further
production stage, (e.g., the storage costs of partly finished goods may be capitalized as
cost of inventory, but the storage costs of completed finished goods are expensed).

TRY THIS OUT

ASSESSMENT TASK 1
Revive Company incurred the following costs:

Cost of purchases 2,645,800

Storage costs of finished goods 140,300
Delivery to customers 57,100
Irrecoverable purchase taxes 72,450
Import duties 129,465
Freight and insurance on purchases 94,200
Sales commission paid to sales agents 150,000
Other handling costs relating to imports 35,600
Brokerage commission paid to agents for arranging imports 20,400
Salaries of accounting department 150,000

What is the total amount should the inventory be measured?

4.2 Cost Formulas

1. Specific identification - shall be used for inventories that are not ordinarily
interchangeable (i.e., used for inventories that are unique), not appropriate
when inventories consist of large number of items. Cost of sales is the cost
of the specific inventory that was sold.
Example: If an inventory with a serial number of “NBC-321 costing P 7,890 is sold,
the amount charged to cost of sales is also P7,890. If that inventory remains
unsold, the amount included in ending inventory is also P7,890.
2. FIFO – cost of sales is based on the cost of inventories that were purchased
first. Consequently, ending inventory represents the cost of the latest
purchases.
3. Weighted Average Cost – cost of sales is based on the average cost of all
inventories purchased during the period.
Weighted Average Cost = (TGAS in pesos ÷ TGAS in units)
*Total goods available for sale (TGAS)

Illustration
Entity A, a trading entity, buys and sells Product A. Movements in the inventory of Product A
during the period are as followes

Date Transaction Units Unit cost Total

Jan . 1 Beginning inventory 100 P 10.00 P 1,000
7 Purchase 300 12.00 3,600
12 Sale 320
21 Purchase 200 14.00 2,800

Compute for the ending inventory and cost of sales using the FIFO and Weighted Average
cost formula.
Case 1: FIFO
Jan . 1 Beginning inventory 100
7 Purchase 300 Note: cost of sales
12 Sale (320) is based on the
cost of inventories
21 Purchase 200 that were
Ending inventory (in units) 280 purchased first.
Consequently,
ending inventory
Units Unit Cost Total Cost represents the cost
of the latest
From Jan. 21 purchase 200 P 14.00 P 2,800
purchases.
From Jan. 7 purchase 80 12.00 960
Ending inventory (at cost) P 3,760

Date Transaction Units Unit cost Total

Jan . 1 Beginning inventory 100 P 10.00 P 1,000
7 Purchase 300 12.00 3,600
21 Purchase 200 14.00 2,800
Total goods available for sale 600 7,400
Less: Ending Inventory (280) (3,760)
Cost of Sales 320 P 3,640
Case 2: Weighted Average
Date Transaction Units Unit cost Total
Jan . 1 Beginning inventory 100 P 10.00 P 1,000
7 Purchase 300 12.00 3,600
21 Purchase 200 14.00 2,800
Total goods available for sale 600 7,400

Total goods available for sale (TGAS) in pesos

Weighted average unit cost = Total goods available for sale (TGAS) in units
7,400 ÷ 600
= P 12.33

Ending inventory ( in units) 280

Weighted average unit cost P 12.33
Ending inventory (at cost) P 3,452.40

Total goods available for sale (at cost) P 7,400

Less: Ending inventory 3,452.40
Cost of sales P 3,947.60

TRY THIS OUT

ASSESSMENT TASK 2
The following data pertain to an inventory item:

Date Transaction Units Unit cost

Mar. 1 Beginning inventory 900 P 200.00
8 Sale 500
17 Purchase 700 210.00
22 Sale 800
31 Purchase 500 220.00

Compute for the ending inventory and cost of sales using the FIFO and Weighted
Average cost formula.
 4.3 Measurement

• Inventories are measured at the lower of cost and net realizable value (NRV).
• The cost of inventories comprises all costs of purchase, costs of conversion and other
costs incurred in bringing the inventories to their present location and condition.
• Net realizable value (NRV) 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.
Illustration:
Information on Entity A’s inventories is as follows:
Product X Product Y
Cost 100,000 200,000
Estimated selling price 140,000 220,000
Estimated costs to sell 20,000 30,000

Compute for the valuation of Products X and Y in Entity A’s statement of financial position.

Note: Inventories are measured at the lower of cost and net realizable value.

Product X: Cost 100,000 vs Net realizable value (140,000 – 20,000) 120,000

Product Y: Cost 200,000 vs Net realizable value (220,000 – 30,000) 190,000

Write down of inventories

• Inventories are usually written down to net realizable value on an item by item basis.
• If the cost is lower than the net realizable value, the inventory is stated at cost and the
increase in value is not recognized. If the net realizable value is lower than cost, the
inventory is measured at net realizable value. The excess of cost over NRV represents
the amount of write-down.
Illustration
Product X: Cost 100,000 vs Net realizable value 120,000
Product Y: Cost 200,000 vs Net realizable value 190,000

Product X Product Y
Lower 100,000 190,000
Amount of write-down - 10,000
TRY THIS OUT

ASSESSMENT TASK 3

INVENTORY ITEM COST NET REALIZABLE VALUE LOWER (LCNRV)

C 2,500,000 2,400,000 ?
P 1,900,000 2,100,000 ?
A 3,400,000 3,100,000 ?

Compute the lower of cost and net realizable value applied on an item by
item or individual basis and what is the amount of inventory write-down
which is accounted for separately?

SUMMARY

Inventories are assets held for sale in the

ordinary course of business, in the process of production for
such sale or in the form of materials or supplies to be
consumed in the production process or in the rendering of
services.
This module has provided you with the items included
in inventory cost, the cost formulas required by IFRS, the
measurement of inventory in the statement of financial position
and the application of the lower of cost and net realizable value
basis of measurement.

REFERENCES

Millan, Z. B. (2020). Conceptual Framework and Accounting Standards. Sampaloc,

Manila: Bandolin Enterprise

Valix, Conrado. T (2020). Conceptual Framework and Accounting Standards.

Manila: GIC Enterprises & Co., Inc.