IND AS 2 – Objective and Scope

IND AS 2 prescribes the accounting treatment for inventory (stock) under the historical cost
system. It provides guidance on determining the cost of inventories to be carried forward in
the balance sheet and its subsequent recognition as an expense, including any write-down
to net realisable value.

Definitions:

Inventories are assets:

– (a)     held for sale in the ordinary course of business;

– (b)     in 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

Measurement of inventories
Inventories shall be measured at the lower of cost and net realisable value.

Net Realisable Value

The estimated selling price in the ordinary course of business less the estimated costs of
completion and estimated costs necessary to make the sale .

Selling Price                            X

LESS Trade Discounts            (X)

LESS Costs to Completion     (X)        

LESS Marketing, Selling and
Distribution Costs                  (X)
Net Realisable Value               X

Cost of inventories
The cost of inventories shall comprise all costs of purchase, costs of conversion and other
cCosts of purchase
 Cost of purchase comprises
1. purchase price
2. import duties
3. transport and handling costs
4. any other directly attributable costs
5. less trade discounts, rebates and subsidies
May include foreign exchange differences, which arise directly on acquisition of inventories
invoiced in a foreign currency.

Costs of conversion
– direct labor, indirect variable and fixed production overhead costs

– variable production overhead: allocate to inventory based on actual usage

– fixed production overhead: allocate to production based on normal operating capacity

(except when abnormally high production).

Other Costs
Other costs are included in the cost of inventories only to the extent that they are incurred in
bringing the inventories to their present location and condition. For example, cost of
designing products for specific customers.
Do not add to inventory cost:
1. Costs of abnormal waste
2. Storage or warehousing costs unless necessary for next stage of production
3. Administrative overheads not associated with production
4. Selling costs
5. Financing charges above purchase price for normal credit terms
Cost of inventories of a service provider
Service providers shall measure their inventories at the costs of their production. These
costs consist primarily of the labour and other costs of personnel directly engaged in
providing the service, including supervisory personnel, and attributable overheads. Labour
and other costs relating to sales and general administrative personnel are not included but
are recognised 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.
EXAMPLE:

A management consultancy company is engaged by a client to analyse its internal control

systems and provide a report on the same for a fee of Rs. 20,00,000. As at the end of the
reporting period, i.e., on 31 st March, 2012, the report is not ready. The costs incurred
during the financial year for the project are follows:
Direct expenses:

 Salary expenses of staff engaged on the project: Rs. 4,50,000

 Overheads: Rs. 4,00,000 (1/5 directly attributable to the project)
 General administration expenses: Rs. 3,00,000
Assuming that at the end of the reporting period, in accordance with Ind AS 18, revenue has
not been recognised, what will be the cost of inventory with regard to this project?

costs incurred in bringing the inventories to their present location and condition.

Management consultancy company is a service provider and as per Ind AS 2, in case of a

service provider, inventories include the costs of service, for which the entity has not yet
recognised related revenue.Since in the present case revenue has not been recognised,
expenses incurred on the project will be treated as cost of inventory in accordance with
paragraph 19 of Ind AS 2, which provides as follows:

“19. To the extent that service providers have inventories, they measure them at the costs
of their production. These costs consist primarily of the labour and other costs of personnel
directly engaged in providing the service, including supervisory personnel,and attributable
overheads. Labour and other costs relating to sales and general administrative personnel
are not included but are recognised 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.”

In accordance with the above, cost of inventories will include:

Cost of personnel directly engaged in providing the services Rs. 4,50,000

Directly attributable overheads (Rs. 4,00,000/5) Rs. 80,000

Cost of Inventories Rs. 5,30,000

Expenses incurred on general overheads and any profit margin will not be included in the
cost of inventories.

question
What is the difference between ‘Net Realisable Value’ and ‘Fair Value’? Explain with
suitable example?
Response
Net realisable value 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.
Fair value is the amount for which an asset could be exchanged, or a liability settled,
between knowledgeable, willing parties in an arm’s length transaction.In accordance with
the above definitions, net realisable value refers to the net amount that an entity expects to
realise from the sale of inventory in the ordinary course of business. Whereas, fair value
reflects the amount for which the same inventory could be exchanged
between knowledgeable and willing buyers and sellers in the marketplace. The former is an
entity-specific measurement; the latter is market-based measurement. Net realisable value
for inventories may not be equal to fair value less costs to sell.
Example:
An entity holds inventories of 10000 units and it could sell the same in the market @ Rs.10/-
each after selling expenses. The entity has an order in hand to sell the inventories @ Rs.
11/-. In this situation, fair value is Rs 10/- each, but net realisable value is Rs. 11/- each.
Question 3
As per paragraph 8 of Ind AS 2, inventories include ‘materials and supplies awaiting use in
the production process’. Whether packing material and publicity material are covered by the
term ‘materials and supplies awaiting use in the production process’.

Response
 While the primary packing material may be included within the scope of the term ‘materials
and supplies awaiting use in the production process’ but the secondary packing material
and publicity material cannot be so included, as these are selling costs which are required
to be excluded
as per Ind AS 2. For this purpose, the primary packing material is one which is essential to
bring an item of inventory to its saleable condition,for example, bottles, cans etc., in case of
food and beverages industry.Other packing material required for transporting and forwarding
the
material will normally be in the nature of secondary packing material.