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Inventories

SME Par.IFRS SMEU.S. GAAP
Scope of this section
13.1 This section sets out the principles for recognizing and measuring inventories. Inventories are assets:
  1. held for sale in the ordinary course of business;
  2. in the process of production for such sale; or
  3. in the form of materials or supplies to be consumed in the production process or in the rendering of services.
 Same.
13.2 This section applies to all inventories, except:
  • work in progress arising under construction contracts, including directly related service contracts (see Section 23, Revenue).
  • financial instruments (see Section 11, Basic Financial Instruments, and Section 12, Other Financial Instruments Issues).
  • biological assets related to agricultural activity and agricultural produce at the point of harvest (see Section 34, Specialized Activities).
 U.S. GAAP contains separate inventory accounting guidance related to:
  • Agriculture
  • Airlines
  • Construction contractors
  • Federal government contractors
  • Entertainment – Films
  • Extractive activities – Mining
  • Extractive activities – Oil and Gas
  • Real Estate – Retail land
  • Real Estate – Time-sharing activities
  • Software
Like IFRS for SMEs, inventory accounting guidance does not apply to financial instruments.
13.3 This section does not apply to the measurement of inventories held by:
  1. producers of agricultural and forest products, agricultural produce after harvest, and minerals and mineral products, to the extent that they are measured at fair value less costs to sell through profit or loss, or
  2. commodity brokers and dealers that measure their inventories at fair value less costs to sell through profit or loss.
 See 13.2.
 Measurement of inventories
13.4 An entity shall measure inventories at the lower of cost and estimated selling price less costs to complete and sell. Inventory is measured at the lower of cost or market. The term market means current replacement cost (by purchase or by reproduction, as the case may be) provided that it meets both of the following conditions: [ARB 43, paragraph Ch. 4 Statement 6, sequence 180]]
  1. [Market shall not exceed the net realizable value (selling price less reasonably estimable costs of completion and disposal).[ARB 43, paragraph Ch. 4 Statement 6, sequence 182]]
  2. [Market shall not be less than net realizable value reduced by an allowance for an approximately normal profit margin.
Only in exceptional cases may inventories properly be stated above cost. For example, precious metals having a fixed monetary value with no substantial cost of marketing may be stated at such monetary value; any other exceptions must be justifiable by inability to determine appropriate approximate costs, immediate marketability at quoted market price, and the characteristic of unit interchangeability.

Exceptions for reflecting assets at selling prices are permissible for both of the following: [ARB 43, paragraph Ch. 4 Par. 16, sequence 194.1.1]]
  1. [Inventories of gold and silver, when there is an effective government-controlled market at a fixed monetary value [ARB 43, paragraph Ch. 4 Par. 16, sequence 194.1.2.1.1]]
  2. [Inventories representing agricultural, mineral, and other products, with all of the following criteria: [ARB 43, paragraph Ch. 4 Par. 16, sequence 194.1.2.1.2]]
    1. [Units of which are interchangeable [ARB 43, paragraph Ch. 4 Par. 16, sequence 194.1.2.2.1]]
    2. [Units of which have an immediate marketability at quoted prices [ARB 43, paragraph Ch. 4 Par. 16, sequence 194.1.2.2.2.1]]
    3. [Units for which appropriate costs may be difficult to obtain. [ARB 43, paragraph Ch. 4 Par. 16, sequence 194.1.2.2.2.2]]
[Where such inventories are stated at sales prices, they shall be reduced by expenditures to be incurred in disposal.
 Cost of inventories
13.5 An entity shall include in the cost of inventories all costs of purchase, costs of conversion and other costs incurred in bringing the inventories to their present location and condition. Same. As applied to inventories, cost means in principle the sum of the applicable expenditures and charges directly or indirectly incurred in bringing an article to its existing condition and location. [ARB 43, paragraph Ch. 4 Statement 3, sequence 169]][ It is understood to mean acquisition and production cost, and its determination involves many considerations. [ARB 43, paragraph Ch. 4 Par. 5, sequence 170.1.2]]
 Costs of purchase
13.6 The costs of purchase of inventories comprise the purchase price, import duties and other taxes (other than those subsequently recoverable by the entity from the taxing authorities), and transport, handling and other costs directly attributable to the acquisition of finished goods, materials and services. Trade discounts, rebates and other similar items are deducted in determining the costs of purchase. Same, except that handling costs are not ordinarily included in valuing inventories.
13.7 An entity may purchase inventories on deferred settlement terms. In some cases, the arrangement effectively contains an unstated financing element, for example, a difference between the purchase price for normal credit terms and the deferred settlement amount. In these cases, the difference is recognized as interest expense over the period of the financing and is not added to the cost of the inventories. Same. Interest costs related to assets constructed for internal use or assets produced as discrete projects (such as ships or real estate projects) for sale or lease should be capitalized. Interest costs should not be capitalized for inventories that are routinely manufactured or otherwise produced in large quantities on a repetitive basis.
 Costs of conversion
13.8 The costs of conversion of inventories include costs directly related to the units of production, such as direct labor. They also include a systematic allocation of fixed and variable production overheads that are incurred in converting materials into finished goods. Fixed production overheads are those indirect costs of production that remain relatively constant regardless of the volume of production, such as depreciation and maintenance of factory buildings and equipment, and the cost of factory management and administration. Variable production overheads are those indirect costs of production that vary directly, or nearly directly, with the volume of production, such as indirect materials and indirect labor. Same.
 Allocation of production overheads
13.9 An entity shall allocate fixed production overheads to the costs of conversion on the basis of the normal capacity of the production facilities. Normal capacity is the production expected to be achieved on average over a number of periods or seasons under normal circumstances, taking into account the loss of capacity resulting from planned maintenance. The actual level of production may be used if it approximates normal capacity. The amount of fixed overhead allocated to each unit of production is not increased as a consequence of low production or idle plant. Unallocated overheads are recognized as an expense in the period in which they are incurred. In periods of abnormally high production, the amount of fixed overhead allocated to each unit of production is decreased so that inventories are not measured above cost. Variable production overheads are allocated to each unit of production on the basis of the actual use of the production facilities. Same.
 Joint products and by-products
13.10 A production process may result in more than one product being produced simultaneously. This is the case, for example, when joint products are produced or when there is a main product and a by-product. When the costs of raw materials or conversion of each product are not separately identifiable, an entity shall allocate them between the products on a rational and consistent basis.

The allocation may be based, for example, on the relative sales value of each product either at the stage in the production process when the products become separately identifiable, or at the completion of production. Most by-products, by their nature, are immaterial. When this is the case, the entity shall measure them at selling price less costs to complete and sell and deduct this amount from the cost of the main product. As a result, the carrying amount of the main product is not materially different from its cost.		  
 Other costs included in inventories
13.11 An entity shall include other costs in the cost of inventories only to the extent that they are incurred in bringing the inventories to their present location and condition. Same.
13.12 Paragraph 12.19(b) provides that, in some circumstances, the change in the fair value of the hedging instrument in a hedge of fixed interest rate risk or commodity price risk of a commodity held adjusts the carrying amount of the commodity.  
 Costs excluded from inventories
13.13 Examples of costs excluded from the cost of inventories and recognized as expenses in the period in which they are incurred are:
  1. abnormal amounts of wasted materials, labor or other production costs.
  2. storage costs, unless those costs are necessary during the production process before a further production stage.
  3. administrative overheads that do not contribute to bringing inventories to their present location and condition.
  4. selling costs.
 Same.
 Cost of inventories of a service provider
13.14 To the extent that service providers have inventories, they measure them at the costs of their production. These costs consist primarily of the labor and other costs of personnel directly engaged in providing the service, including supervisory personnel, and attributable overheads. Labor and other costs relating to sales and general administrative personnel are not included but are recognized as expenses in the period in which they are incurred. The cost of inventories of a service provider does not include profit margins or non-attributable overheads that are often factored into prices charged by service providers.  
 Cost of agricultural produce harvested from biological assets
13.15 Section 34 requires that inventories comprising agricultural produce that an entity has harvested from its biological assets should be measured on initial recognition at their fair value less estimated costs to sell at the point of harvest. This becomes the cost of the inventories at that date for application of this section. Unlike IFRS for SMEs, agricultural produce is measured at sales price less costs of disposal when certain conditions are met. The term “harvested crops” and “animals held for sale” are used to describe what would be agricultural produce under IFRS for SMEs.
 Techniques for measuring cost, such as standard costing, retail method and most recent purchase price  
13.16 An entity may use techniques such as the standard cost method, the retail method or most recent purchase price for measuring the cost of inventories if the result approximates cost. Standard costs take into account normal levels of materials and supplies, labor, efficiency and capacity utilization. They are regularly reviewed and, if necessary, revised in the light of current conditions. The retail method measures cost by reducing the sales value of the inventory by the appropriate percentage gross margin. Same. Some inventory estimation methods used are the retail method, the LIFO retail method, and the gross profit method.
 Cost formulas
13.17 An entity shall measure the cost of inventories of items that are not ordinarily interchangeable and goods or services produced and segregated for specific projects by using specific identification of their individual costs.  
13.18 An entity shall measure the cost of inventories, other than those dealt with in paragraph 13.17, by using the first-in, first-out (FIFO) or weighted average cost formula. An entity shall use the same cost formula for all inventories having a similar nature and use to the entity. For inventories with a different nature or use, different cost formulas may be justified. The last-in, first-out method (LIFO) is not permitted by this IFRS. A variety of inventory costing methodologies are permitted, such as FIFO and the weighted average cost formula. Unlike IFRS for SMEs, LIFO is permitted.

Unlike IFRS for SMEs, the same cost formula need not be applied to all inventories having a similar nature and use to the entity.
 Impairment of inventories
13.19 Paragraphs 27.2–27.4 require an entity to assess at the end of each reporting period whether any inventories are impaired, i.e., the carrying amount is not fully recoverable (e.g., because of damage, obsolescence or declining selling prices). If an item (or group of items) of inventory is impaired, those paragraphs require the entity to measure the inventory at its selling price less costs to complete and sell, and to recognize an impairment loss. Those paragraphs also require a reversal of a prior impairment in some circumstances. A loss shall be recognized whenever the utility of goods is impaired by damage, deterioration, obsolescence, changes in price levels, or other causes. The measurement of such losses shall be accomplished by applying the rule of pricing inventories at the lower of cost or market.


Unlike IFRS for SMEs, a write-down of inventory to market is not reversed for subsequent recoveries in value.
 Recognition as an expense
13.20 When inventories are sold, the entity shall recognize the carrying amount of those inventories as an expense in the period in which the related revenue is recognized. Same.
13.21 Some inventories may be allocated to other asset accounts, for example, inventory used as a component of self-constructed property, plant or equipment. Inventories allocated to another asset in this way are accounted for subsequently in accordance with the section of this IFRS relevant to that type of asset.  
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