PAS 2: INVENTORY

Conceptual Frameworks and Accounting Standards

Learning Objectives:

❑To understand the meaning of inventories.

❑To identify the items included in inventory cost.

❑To identify the cost formula 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.
What are Inventories?

According to PAS 2, paragraph 6, inventories are assets:

[Link] for sale in the ordinary course of business;
[Link] 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.

Since inventories are assets that are held by an entity for trading within the normal
operation cycle, inventories shall be reported as CURRENT ASSETS.
When can the company say the inventory is theirs?

OWNERSHIP > When the company has the title, regardless of the location of the
inventory.
1. Items currently on hand ( warehouse, store selling area)
2. Items purchased FOB shipping point currently in transit
3. Items sold FOB destination currently in transit
4. Items out on consignment to other entities
5. Items currently in the hands of sales agent are unsold

FOB shipping point > the buyer owns the goods

FOB shipping point > the seller owns the goods
FOB Shipping Point

Title is passed to the buyer at the point of shipment.

The buyer is responsible for the delivery charges.

FOB Destination

Title is passed to the buyer upon receipt of goods.

The seller is responsible for the delivery charges.
Consignment

Consignment > is a marketing technique whereby a company (called the consignor) requests another
entity to allow them to sell their goods, serving as an agent (called the consignor).

Goods out on consignment > company’s inventory

Goods held on consignment > inventory of original owner
Consignment

A consignee sells consigned goods for P100,000. this amount is remitted to the
consignor less commission of P15,000 and advertising of P2,000.
The consignor simply record the cash remittance from the consignee as follows:

Cash 83,000

Commission 15,000

Advertising 2,000

Sales 100,000
Two systems are offered in accounting for inventories:

Periodic Inventory System > facilitates the physical counting of inventories at the end
of an accounting period, whereby the updated balances of inventories is based on this
physical count.
The quantities are then multiplied by the corresponding unit costs to get the
inventory value for balance sheet purposes.
Applicable for low-value inventories
Perpetual Inventory System > facilitates recording of inventory movement in evenry
purchase and sale through the use of stick cards. Inventory records are upated in very
transactions.
Require the maintenance of records called stock cards that usually offer a running
summary of the inventory inflow and outflow.
Applicable for high-value inventories
Inventories shall be recorded at:

1. Cost of purchase ( purchase price, duties, irrevocable taxes, freight and handling)
2. Cost of conversion ( for manufacturing, direct labor and overhead)
3. Cost related to bringing the inventory items to their present location and condition.

Trade discount, rebates and other similar items are deducted in determining the cost of
purchase.
Excluded from cost of Inventories

1. Abnormal amount of wasted materials .

2. Storage cost, unless necessary in the production process prior to a further
production stage. Thus, storage cost on goods in process is capitalized but storage
cost on finished goods is expensed.
3. Administrative overhead
4. Distribution or selling cost
Inventory allocation techniques

1. Specific identification method

2. First-in-first-out (FIFO)
3. Weighted average
4. Moving average

Last-in-fist-out (LIFO) not permitted under PAS 2

First in, first out (FIFO)
• The rule is first come. First sold.
• The inventory is thus expressed in terms of recent or new prices while the cost of
goods sold is representative of earlier r old prices.
Method of Inventory

1. Gross profit method

2. Retail inventory method
Illustration:

The following information was made available by Bini Asuncion Manufacturing

Company.:
Illustration:

The following information was made available by Bini Asuncion Manufacturing

Company.:
Answer: P2,357,300
Illustration:

The following information was made available by Bini Asuncion Manufacturing Company:

How much the correct inventory balance as of Dec 31, 2020?

Answer: P3,060,000
First in, first out (FIFO)

❑ The rule is first come. First sold.

❑ The inventory is thus expressed in terms of recent or new prices while the cost of goods sold
is representative of earlier r old prices.

ILLUSTRATION:
First in, first out (FIFO)
WEIGHTED AVERAGE

WEIGHTED AVERAGE

The cost of beginning inventory plus the total cost of purchases during the period is divided by the total units purchased plus
those in the beginning inventory to get a weighted average unit cost.

Such weighted unit cost is then multiplied by the units on hand to derive the inventory value.

In other words, the average unit cost is computed by dividing the total cost of goods available for sale by the total number of
units available for sale.
WEIGHTED AVERAGE
Specific identification

Specific identification means that specific costs are attributed to identify items of inventory.

The cost of inventory is determined by simply multiplying the units on hand by the actual unit cost.

PAS 2, paragraph 23, provides that this method is appropriates for inventories that are segregated for a specific project
and inventories that are not ordinary interchangeable.

Measurement of Inventory

PAS 2, paragraph 9, provides that inventories shall be measured at the lower of cost and net realizable value.

The cost of inventory is determined using FIFO cost or Average cost.

The measurement of inventory at the lower cost and net realizable value is known as LCNRV.
Illustration:

JOURNAL ENTRIES:
The inventory on Dec. 31, 2022 is recorded at cost.
Inventory – Dec. 31, 2022 9,000,000
Income summary 9,000,000
The loss on inventory write-down is accounted for separately.
Loss on inventory write-down 500,000
Allowance for inventory write-down 500,000
The loss on inventory write-down is included in the computation of cost of goods sold.

The allowance for inventory write-down is presented as a deduction from inventory.

Inventory – Dec. 31, 2022 at cost 9,000,000

Allowance for inventory write-down (500,000)

Net realizable value 8,500,000

Illustration – Periodic system
Illustration – Periodic system – continuation
Illustration- Perpetual system
Illustration- Perpetual system-- continuation
Method of recording purchases

Gross Method – Purchases and accounts payable are recorded at gross.

Net Method – Purchases and accounts payable are recorded at net.

Illustration – Net method