AS-2 – VALUATION OF INVENTORIES

Area
1. A complete list should be maintained for the following :

• Inventory items and codes

• Note on procedure for valuing inventory
• Inventory valuation statement as at valuation date.
• Groups
• Cost sheets
• Note on method of determining net realisable prices (NRV)
2. Ensure that only the following are considered as inventories:
• Assets held for sale in the ordinary course of business.
• Assets which are in the process of production for such sale.
• Assets in the form of materials or supplies to be consumed in the
production process or rendering of services.
3. Verify and corroborate the above with the following to the extent deemed
necessary
• The business and product profile of the enterprise.
• The production process.
4. Following are not considered as inventories for the purposes of this Standard:
• Work-in-progress arising under construction contracts.
• Work-in-progress arising in the ordinary course of business as service
providers. (However, finished goods in respect of service providers
are to be considered).
• Shares, debentures and other financial instruments held as stock-in –
trade.
• Inventories of livestock, agricultural and finished products.
• Machinery spares.
5. Inventory should be valued at the lower of cost and net realisable value?
6. Cost of inventories comprises of the following:
• Cost of purchase.
• Cost of conversion.
• Other costs necessary to bring the inventory to its present location and
condition.
7. A particulars of major raw materials used in respect of each of the inventory
items from the cost sheet should be maintained.
8. In respect of the above, purchase price includes the following:
• Duties and taxes ( other than those which are subsequently recoverable i.e.
rebates)
• Transport, handling and other costs which are directly attributable to the
purchases.
9. Details as per (8) above are based on the Purchase Orders, suppliers /
transporters invoices and other appropriate documentary evidence.
10. Purchase cost should be identified against each individual item of inventory.
11. Above base should reasonable, appropriate and consistent.
12. If enterprise entitled to any of the following in respect of raw materials
purchased. [ as per (8) earlier]:
• Trade discounts.
• Rebates.
• Duty drawbacks and other similar claims.
13. Ensure that the above are excluded whilst determining the cost of purchase.
14. Ensure that the details as per (13) above are based on the purchase orders,
contracts and the relevant statutes, if any.
15. Based on the cost sheets, ascertain the costs of conversion (i.e. overheads) for each
item of inventory.
16. Ensure that only the following are considered as costs of conversion:
• Direct labour.
• Fixed production overheads.
• Variable production overheads.
17. Only the costs of production which are constant regardless of the volume of
production should be considered as part of fixed overheads.
18. Fixed overheads allocated on the basis of the normal level of activity /
production?
19. The overhead allocation factors used (as indicated in the Appendix) should be
reasonable in relation to the nature of the item.
20. A details of the various variable production overheads from the cost sheet should
maintained.
21. Only those indirect costs of production which vary directly or indirectly with the
volume of production are considered as variable production overheads.
22. A note on the basis of allocation of variable production overheads should
prepare.
23. A detail of the actual level of production for each of the products manufactured
by the enterprise should prepare.
24. Variable overheads should be allocated based on the actual level of production.
25. A certified list of the following should prepare
• Joint products.
• By products.
• Non re-usable waste.
26. Ensure that only products which emerge from the same production process and
are of significant value are considered as joint products.
27. Ensure that only products which emerge from a process along with one or more
main products which are incidental and of insignificant value are considered as
by-products.
28. Costs of conversion of by-products and joint products should be separately
identifiable.
29. Ensure that the basis of allocation is reasonable and consistent. (Refer to
Appendix II for an illustrative list of the basis of allocation, since the Standard
does not specify any specific method.)
30. Based on the cost sheets, ascertain any other costs (non production overheads)
which are considered as part of inventory.
31. Ensure that the above comprises only of the following:
 • Costs incurred to bring the inventory to their present location and
condition.
• Costs of designing in respect of items manufactured for special customers.
• Depreciation on fixed assets used in the production process.
• Amortisation of intangible assets like patents, licences etc. used in the
manufacture or providing of services.
32. Ensure that the allocation of the above costs is on the same basis as indicated
earlier, depending upon whether it is a fixed or variable overhead.
33. If the enterprise involved in the manufacture of any other item which falls within
the definition of a “qualifying asset” under AS-16?
34. If the answer to (47) above is in the affirmative, ensure that the borrowing costs
are included therein in accordance with AS-16. (Complete the relevant checklist).
35. Ensure that the following items are excluded from the cost of inventory:
• Abnormal loss on use of materials and labour.
• Storage costs in respect of finished products.
• Administrative overheads other than those as per (43) above.
• Selling and distribution overheads.
36. Ensure that the NRV is computed as per the method indicated in APPENDIX II
and check the computation thereof.
37. Ensure that the NRV is based on the sales order, invoices or other documentary
evidence.
38. A statement should be prepare to compare the cost and NRV for:
• Each item of inventory.
• Groups of similar items.
39. Ensure that the valuation is proper and consistent. In case of any material change,
compute the financial impact thereof for disclosure.
40. If the comparison as per (53) above is for group of items, ensure whether:
• The items relate to the same product line.
• The items are produced and marketed in the same geographical area.
41. The details as per (55) above should be corroborated with the product profile,
marketing and distribution set up, customer profile or any other appropriate
evidence.
42. Any of following methods for determining the cost of inventories can be adopt.
• FIFO or Weighted Average– if the business is of a general nature.
• Specific Identification – if goods are made for a specific purpose or project
and are not ordinarily interchangeable
• Adjusted Selling Price – In respect of retail business or business where
costs are not readily ascertainable.
43. Ensure that the following disclosures have been made:
• The accounting policies adopted in measuring inventories.
• The cost formulae used in measuring inventories.
• Total carrying amount of inventories.
• Classification of inventories appropriate to the Enterprise.(such as raw
materials and components, finished goods, stores and spares, loose tools
etc.)
• Carrying amount of each classification of inventories.
APPENDIX I TO AS-2 VALUATION OF INVENTORIES

OVERHEAD ALLOCATION RATE = TOTAL OVERHEADS (ANNUALISED )

_________________________________

OVERHEAD ALLOCATION FACTOR

OVERHEAD ALLOACTION FACTOR COULD BE EITHER OF THE FOLLOWING: (ONLY

ISSUSTRATIVE)

• Number of Employees.
• Normal units of production.
• Machine hour rate.

APPENDIX I TO AS-2 VALUATION OF INVENTORIES

BASIS OF ALLOCATION FOR JOINT PRODUCTS AND BY PRODUCTS

JOINT PRODUCTS:

Relative sales value of each product at the stage in the production process when:

• Products become separately identifiable.

• On completion of the production.

BY PRODUCTS:

At net realisable value which is deducted from the cost of the main product. The net realisable
value is computed as under:

SALES VALUE
LESS: SEPARATE PROCESSING COSTS

LESS: PACKING AND DISTRIBUTION COSTS

LESS: REASONABLE PROFIT