Inventories - The 2009-10 Accounts for IFRS Transition

1. Inventories - The 2009-10 Accounts for IFRSTransition Roman Haluszczak, Manager, CIPFA Finance Networks E mail: Roman.Haluszczak@cipfa.org.uk

2. Inventories – CIPFA Code – Chapter 5.1 (IAS 2) 2

3. CIPFA Code – Chapter 5.1 (IAS 2) – Carrying Values (1) (Interpreted/Adapted in the Code through IPSAS 12) Usually measured at the lower of cost and net realisable value Acquired through ‘non-exchange’ transactions, cost is deemed to be fair value at the date of acquisition Where held for distribution at no charge or for nominal charge, lower of cost and current replacement cost Valuation/measurement methods should be consistently applied to inventory items of similar nature and use to the entity 3

4. CIPFA Code – Chapter 5.1 (IAS 2) – Carrying Values (2) IAS 2 and the Code permit the use of FIFO and AVCO – NOT LIFO where the cost cannot be directly attributed to items of inventory Damaged or obsolete inventory should be written down to net realisable value – expensed in the period Reversals of such write-downs are limited to the amount of the original write-down 4

5. Deferred Settlement Terms Purchase on deferred settlement terms indicates a ‘financing element’ Consistent with other areas of IFRS, financing is recognised as an interest expense over the period of credit Financing cost = the difference between price for normal credit terms and price actually paid IAS 2 represents little change to current practice, however it is a change in accounting policy and retrospective application applies 5

6. Inventories Transition to 1st of April 2009 - Position (1) The Code (following IFRS 1) requires local authorities to classify and account for inventories in their opening IFRS balance sheet (1 April 2009) in accordance with section 5.1 of the Code (see also IAS 2 and IPSAS 12). Treated as a change in accounting policy Where inventories are acquired through a non-exchange transaction (and held as at 31 March 2009) their carrying amount shall be adjusted to their fair value at the date of acquisition. Any previous adjustment to their carrying amount shall be reversed. Where inventories are provided at no charge or for a nominal charge (and held as at 31 March 2009) their carrying amount shall be adjusted to the lower of cost or current replacement cost probably at the reporting date. Any previous adjustment to their carrying amount shall be reversed. Transition accounting entries for inventories would generally be Dr\Cr GF and Dr\Cr Stock valuation – Donated inventories not recorded in the BS at 31st of March 2009 – Dr Stock Cr to Donated inventories Account at lower of cost or current replacement cost. 6

7. Inventories Transition to 1st of April 2009 - Position (2) Where inventories have been purchased on deferred settlement terms beyond normal credit terms (and held as at 31 March 2009) the carrying amount of the inventories shall be adjusted with the difference between the purchase price for normal credit terms and the amount paid. Credit Stock value Debit Deferred Debit The resultant deferred debit (in effect the financing element of the arrangement) shall be written down from the initial period of the arrangement to 31 March 2009. Assume the financing arrangement lasts for three years up to 31 March 2009 – entries would be Cr Deferred debit and Dr GF up until the 31st of March 2009 7

8. Inventories Transition to 1st of April 2009 – Further Issues IAS 2 Paragraph 8 definition: Inventories encompass goods purchased and held for re-sale including, for example, merchandise purchased by a retailer and held for resale, or land and other property held for resale. Land\Property being held for re-sale for a short period of time could be therefore be classified under IAS 2 as an inventory – Speak to your auditor – If you sell the asset it is not a credit to revenue just because you classified it as an inventory 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. 8

9. Inventories - The 2009-10 Transition Issues 9

10. Restate comparative figures for 2009/10 (inventories before to 1 April 2009) (1) Where inventories to be provided at no charge or for a nominal charge are still held at 31 March 2010, their carrying amount shall be adjusted to the lower of cost and current replacement cost (if required) as at that date. Any previous adjustment to their carrying amount shall be reversed. Where inventories purchased on deferred settlement terms beyond normal credit terms are still held at 31 March 2010 and the period of credit covers 2009/10, the deferred debit relating to 2009/10 shall be written down and recognised as interest in Surplus or Deficit on the Provision of Services. 10

11. Restate comparative figures for 2009/10 (inventories before to 1 April 2009) (2) Where inventories acquired through a non-exchange transaction were sold or used during 2009/10, the carrying amount of the inventories shall be charged to Surplus or Deficit on the Provision of Services as an expense. Any corresponding credit to match the inventories sold or used shall be charged to Surplus or Deficit on the Provision of Services. Any outstanding deferred debit associated with the inventories sold or used shall be written off to Surplus or Deficit on the Provision of Services. Transactions in relation to the previous accounting treatment shall be reversed. 11

12. Restate comparative figures for 2009/10 (inventories recognised in 2009/10) (1) Where inventories acquired through a non-exchange transaction were recognised during 2009/10 and are still held at 31 March 2010, their carrying amount shall be adjusted to their fair value as at the date of acquisition. Any previous adjustment to their carrying amount shall be reversed. Where inventories to be provided at no charge or for a nominal charge were recognised during 2009/10 and are still held at 31 March 2010, their carrying amount shall be adjusted to the lower of cost and current replacement cost as at that date. Any previous adjustment to their carrying amount shall be reversed. 12

13. Restate comparative figures for 2009/10 (inventories recognised in 2009/10) (2) Where inventories that have been purchased on deferred settlement terms beyond normal credit terms are held at 31 March 2010, the carrying amount of the inventories shall be adjusted with the difference between the purchase price for normal credit terms and the amount paid. The resultant deferred debit (in effect the financing element of the arrangement) shall be written down to reflect the period of credit covering 2009/10 and recognised as interest in Surplus or Deficit on the Provision of Services. 13

14. Restate comparative figures for 2009/10 (inventories recognised in 2009/10) (3) Where inventories acquired through a non-exchange transaction recognised during 2009/10 were sold or used during 2009/10, the carrying amount of the inventories shall be charged to Surplus or Deficit on the Provision of Services as an expense. Any corresponding credit to match the inventories sold or used shall be charged to Surplus or Deficit on the Provision of Services. Any outstanding deferred debit associated with the inventories sold or used shall be written off to Surplus or Deficit on the Provision of Services. Transactions in relation to the previous accounting treatment shall be reversed. 14

15. Restate comparative figures for 2009/10 (inventories recognised in 2009/10) (4) Where inventories to be provided at no charge or for a nominal charge were recognised during 2009/10 and sold or used during 2009/10, the carrying amount of the inventories shall be charged to Surplus or Deficit on the Provision of Services as an expense. Any outstanding deferred debit associated with the inventories sold or used shall be written off to Surplus or Deficit on the Provision of Services. Transactions in relation to the previous accounting treatment shall be reversed. 15

16. Inventories Summary Further text and examples of the accounting entries can be found at: http://www.cipfa.org.uk/pt/cipfalasaac/download/transition_5.1_inventories.pdf AND http://www.cipfa.org.uk/pt/cipfalasaac/download/transition_5.1_inventories.xls 16

17. Inventories – Glossary of Key Terms 17

18. Glossary for Inventories (1) Definition - Inventories are assets: held for sale in the ordinary course of business; in the process of production for sale, or in the form of materials or supplies to be consumed in production or in rendering services. [IAS 2 para 6]. An entity should initially recognise inventory when it has control of the inventory, expects it to provide future economic benefits and the cost of the inventory can be measured reliably. Initial measurement of inventories is at cost. Subsequent to initial recognition, entities should measure inventories at the lower of cost or net realisable value (defined as the estimated selling price in the ordinary course of business less the estimated costs of completion and the estimated selling costs). [IAS 2 paras 9, 6]. 18

19. Glossary for Inventories (2) Costing - There are a number of methodologies for inventory costing, which fall within the categories of weighted average and FIFO. Many methods are specific to an entity or industry and some are complex. IAS 2 describes methods of application only very generally and any method that produces a result consistent with the principles in the standard is acceptable. Whatever application method an entity uses, it should apply that method consistently to inventories of a similar nature and use to the entity. [IAS 2 para 25]. Non-exchange transactions are transactions that are not exchangetransactions. In a non-exchange transaction, an entity either receivesvalue from another entity without directly giving approximately equalvalue in exchange, or gives value to another entity without directlyreceiving approximately equal value in exchange. 19

20. Glossary for Inventories (3) Current replacement costis the cost the entity would incur to acquirethe asset on the reporting date. Net realisable value is the estimated selling price in the ordinary courseof operations less the estimated costs of completion and the estimatedcosts necessary to make the sale, exchange or distribution. Held for distribution at no charge - A public sector entity may hold inventories whose future economic benefits or service potential are not directly related to their ability to generate net cash inflows. These types of inventories may arise when a government has determined to distribute certain goods at no charge or for a nominal amount. 20