Inventories

Inventories- are assets held for sale in the ordinary course of business, in the 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.

Initial Recognition
An entity should recognize an inventory when:
 The entity controls the asset as a result of past events
 It is probable that future economic benefits will flow to the entity

Initial Measurement: Cost of Inventories

Inventories (initial) = cost of purchase + costs of conversion + other costs

A. Costs of purchase
1. Purchase price
2. Import duties and other taxes
-except those to be subsequently recovered by the entity from the taxing authorities
3. Transport, handling and other costs
-those only that are directly attributable to the acquisition of finished goods, materials,
and services

Interest expense- the excess of price paid over amount to be paid under normal credit terms
-present when the inventory is bought on deferred credit terms
-not treated as part of inventory
Exchange differences- are not treated as part of inventory, even if it arose directly on the acquisition
of inventories invoiced in a foreign currency

B. Costs of conversion
-may require the use of a sophisticated costing system to record the various inputs
1. Direct labor
2. Direct materials
3. Variable OH- those indirect costs of production that vary directly, or nearly directly, with
the volume of production
-are allocated to each unit of production based on the actual use of the
production facilities
4. Fixed OH- those indirect costs of production that remain relatively constant regardless
of the volume of production
-are allocated to each unit of production based on the normal capacity of the
production facilities
5. Joint products- costs of conversion are allocated between them on a rational and
consistent basis (if joint products are produced and their costs of
conversion is not separately identifiable
C. Other costs
 -are included in the cost of inventory only to the extent that they are incurred in bringing the
inventories to their present location and condition

1. Borrowing costs- can be included only if they relate to inventories which take a substantial
amount of time to create
-borrowing costs for inventories that are manufactured in large quantities on
a repetitive basis should be capitalized
2. Storage costs- can be included for products that require a maturation process or
substantial amount of time to create
3. Non-production overheads- also known as costs of designing products for specific
customer
-can only be included in cost if they contribute in bringing the
inventories to their present condition and location

Excluded from cost of inventories:

 Abnormal amounts of wasted materials, labor, or production costs (TMC)
 Storage costs (exception to costs for inventories that require a maturation process)
 Administrative overheads unrelated to production
 Selling costs
 Foreign exchange differences
 Interest expenses

Inventories of Merchandising and Manufacturing Companies

Merchandise inventory- the term for the inventories in a merchandising business

1. Direct or raw materials

2. Work in process
3. Finished goods
4. Factory supplies (including indirect materials)

Overview of Cost Flows

*Details: page 364*
*formulas: page 364*
DM, beg. xx WIP, beg. xx FG, beg. xx
Net purchases xx DM used xx COGM xx
DM used (xx) DL xx COGS (xx)
DM, end xx Applied FOH xx FG, end xx
DM, beg. xx COGM (xx)
Net purchases xx WIP, end xx
DM used (xx)
DM, end xx
Subsequent Measurement: Cost of Inventories
Inventories (subsequent) = Cost vs NRV (lower)

General rule: inventories are written down to NRV item by item

Exception: it may be appropriate to group similar or related items

Net Realizable Value

NRV- the estimated selling price in the ordinary course of business, less the estimated cost of
completion and the estimated costs necessary to make the sale (selling costs)

NRV of different types of inventories:

 Raw materials & factory supplies
- Replacement cost
*these types 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
 WIP
Estimated selling price xx
Estimated cost of completion (xx)
Estimated cost to sell (xx)
NRV – WIP xx
 Finished goods
Estimated selling price xx
Estimated cost to sell (xx)
NRV – FG xx

Write-down & reversal