1401 OVERVIEW Objective Ü To prescribe the accounting treatment for inventories under historical cost.. Ü To provide practical guidance on: ̌ determination of cost; ̌ expense recogniti
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OVERVIEW
Objective
Ü To prescribe the accounting treatment for inventories under historical cost
Ü To provide practical guidance on:
̌ determination of cost;
̌ expense recognition (including any write-down to net realisable value);
̌ cost formulas
BASICS
NET REALISABLE VALUE COST
RECOGNITION
Ü Objective
Ü Scope
Ü Definitions
Ü Measurement
Ü Meaning of cost
Ü Components of cost
Ü Techniques
Ü Cost formulas
Ü As an expense
Ü As an asset
Ü Need for
Ü Considerations
Ü Materials
Ü Timing
DISCLOSURE Ü Ü In financial statements Expense recognition
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1.1 Objective
Ü To prescribe the accounting treatment for inventories
Ü Primary issue – the amount of cost to be recognised as an asset and carried forward until related revenue is recognised
Ü IAS 2 provides guidance on:
̌ cost determination;
̌ subsequent recognition as expense (including any write-down to net realisable value);
̌ cost formulas used to assign costs to inventories
1.2 Scope
Ü All inventories except:
̌ contract work in progress (IAS 11);
̌ financial instruments (IASs 32 and 39);
̌ biological assets related to agricultural activity and agricultural produce at the point of harvest (IAS 41)
Ü These inventories are entirely outside the scope of IAS 2 Some inventories that are within the scope of the Standard with regard to disclosure, but not measurement
Ü The measurement provisions of IAS 2 do not apply to inventories held by:
̌ 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 industry practices;
̌ commodity broker-traders who measure their inventories at fair value less costs to sell
Commentary
When such inventories are measured at net realisable value, changes in that value are
recognised in profit or loss in the period of the change
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1.3 Definitions
Ü Inventories are assets:
̌ held for resale in the ordinary course of business (e.g merchandise
purchased by retailer); or
̌ in the process of production for resale (e.g finished goods, work in
progress, raw materials); or
̌ in the form of materials or supplies to be consumed in the production
process or rendering of services
Ü Net realisable value is the estimated selling price in ordinary course of
business less the estimated cost of completion, and estimated costs
necessary to make the sale
1.4 Measurement
Ü Inventories are measured at the lower of cost and net realisable value
2.1 Meaning of cost
Ü Cost includes all costs involved in bringing the inventories to their present location and condition
Ü Componentsof cost:
̌ purchase costs
̌ costs of conversion
̌ other costs
2.2 Components of cost
Ü Purchase price
Ü Import
duties/non-refundable taxes
Ü Transport/handling
Ü Deduct trade
discounts/rebates
Ü Direct production costs
Ü Production Overheads Based On normal capacity – i.e expected
on average under normal circumstances
Ü Joint product costs
(deduct net realisable
value of by-products)
Ü Only if incurred in bringing inventories to present location and condition e.g non-production overheads (e.g storage in whiskey distillers) and specific design costs
Ü Borrowing costs in limited circumstances (in accordance with IAS 23)
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Ü The following expenditures are excluded:
̌ abnormal amounts of wasted materials, labour and other production costs;
̌ storage costs unless necessary to the production process;
̌ administrative overheads; and
̌ selling costs
Ü For service providers the cost of inventories consists primarily of labour including supervisory personnel and attributable overheads
Commentary
But not profit margins or non-production costs that are often factored into prices
charged by service providers
2.3 Techniques for measurement of cost
Ü Two costing methods can be used for convenience if results approximate actual cost
Ü Takes into account normal
levels of materials, labour,
efficiency and capacity
utilisation
Ü Standards must be regularly
reviewed and revised as
necessary
Ü For inventories of large numbers
of rapidly changing items with similar margins
Ü Reduces sales value by appropriate percentage gross margin
Ü This is a practical means of measurement for financial reporting purposes
This is a management tool which may
need to be adapted to conform to IAS 2 An average percentage for each retail department is often used
2.4 Cost formulas
Ü Specific identification of individual costs is required for:
̌ items not ordinarily interchangeable; and
̌ goods/services produced and segregated for specific projects
Commentary
This is not practicable in many businesses