Contracts with Customers. [IAS 2.8].
Collectibles, for example paintings or sculptures, acquired for short-term investment
purposes and traded in the ordinary course of business could be within scope of IAS 2.
Depending on the facts and circumstances, these could be either:
• inventories measured at the lower of cost and net realisable value; or
• commodities, measured at fair value less costs to sell.
There is a separate standard, IFRS 5 – Non-current Assets Held for Sale and
Discontinued Operations – that governs the accounting treatment of non-current assets
held for sale, for example a group of assets held for sale such as a business being
disposed of. An entity would apply IFRS 5 to any inventories that form part of a disposal
group. IFRS 5 is discussed in Chapter 4.
2.3.1
Practical application of the scope and recognition requirements of
IAS 2
2.3.1.A
Core inventories and spare parts – IAS 2 or IAS 16
It is our view that an item of inventory that is not held for sale or consumed in a
production process should be accounted for as an item of property, plant and equipment
(PP&E) under IAS 16 – Property, Plant and Equipment – if it is necessary to the
operation of a facility during more than one operating cycle and its cost cannot be
recouped through sale (or it is significantly impaired after it has been used to operate
the asset or obtain benefit from the asset). This applies even if the part of inventory that
is deemed to be an item of PP&E cannot physically be separated from other inventory.
By contrast, spare parts are classified as inventory unless they meet the definition of
PP&E. The recognition of spare parts as PP&E and the accounting treatment of core
inventories are discussed further in Chapter 18 at 3.1.1 and 3.1.5 respectively.
2.3.1.B
Broadcast rights – IAS 2 or IAS 38
Broadcasters purchase programmes under a variety of different arrangements. Often
they commit to purchasing programmes that are at a very early stage of development,
perhaps merely being concepts. The broadcaster may have exclusive rights over the
programme or perhaps only have the rights to broadcast for a set period of time or on a
set number of occasions. IFRS is not clear on how these rights should be classified and
when they should be recognised.
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We believe that an entity may either treat these rights as intangible assets and classify
them under IAS 38 – Intangible Assets, see Chapter 17 at 2.2.2, or classify them as
inventory under IAS 2. Such rights would certainly seem to meet the definition of
inventory under IAS 2. Given that the acquisition of these rights forms part of the cost
of the broadcaster’s programming schedule, they meet the general IAS 2 definition in
that they are:
(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. [IAS 2.6].
When classified as inventory, the rights will need to be disclosed within current
assets, even if the intention is not to consume them within 12 months. [IAS 1.68]. As
with costs of other inventory the cash outflow from acquisition will be classified as
an operating cash flow and the expense will be presented within cost of sales when
the right is consumed.
There is also the issue of the timing of recognition of these rights. In accordance
with paragraph 4.4 of The Conceptual Framework for Financial Reporting (2010)
an asset is a resource controlled by an entity as a result of past events and from
which future economic benefits are expected to flow to the entity. In March 2018,
the IASB issued a revised Conceptual Framework for Financial Reporting. The
revised framework became effective immediately for the IASB and IFRS
Interpretations Committee and is effective from 1 January 2020 for entities that use
the Conceptual Framework to develop accounting policies when no IFRS standard
applies to a particular transaction. Paragraph 4.3 of the revised Conceptual
Framework defines an asset as a present economic resource controlled by the
entity as a result of past events.
Hence it is necessary to determine when control is obtained. Under IFRS, executory
contracts where both parties are still to perform (such as purchase orders where
neither payment nor delivery has taken place) do not generally result in the
recognition of assets and liabilities. When a broadcaster initially contracts to
purchase a programme it will not usually result in immediate recognition of an asset
relating to that programme. At this point there will not normally be an asset under
the control of the broadcaster. Factors that may be relevant in determining when
the entity controls an asset include whether:
• the underlying resource is sufficiently developed to be identifiable (e.g. whether
the manuscript or screenplay has been written, and whether directors and actors
have been hired);
• the entity has legal, exclusive rights to broadcast, which may be in respect of a
defined period or geographic area;
• there is a penalty to the licensor for non-delivery of the content;
• it is probable that content will be delivered; and
• it is probable that economic benefits will flow to the entity.
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Where there is difficulty in determining when control of the asset is obtained it may be
helpful to assess at what point any liability arises, since a liability will generally indicate
that an asset has been acquired. In practice an entity might recognise an asset and
liability for a specific broadcast right on the following trigger dates:
• when a screening certificate is obtained;
• when programming is available for exhibition;
• the beginning of the season;
• the beginning of the license period; or
• the date the event occurs (e.g. game-by-game basis).
The issue of when a licensor recognises revenue under IFRS 15 on the sale of such
broadcast rights is covered in Chapter 28.
2.3.1.C
Emission rights – IAS 2 or IAS 38
In order to encourage entities to reduce emissions of pollutants, governments
around the world have introduced schemes that comprise tradeable emissions
allowances or permits. Entities using emission rights for their own purposes may
elect to record the rights as intangible assets, whether at cost, revalued amount or,
under the so-called ‘net liability’ approach, as rights that are re-measured to fair
value. See Chapter 17 at 11.2.
It may also be appropriate to recognise emission rights, whether granted by the
government or purchased by an entity, as inventory in accordance with IAS 2 if
they are held for sale in the ordinary course of business or to settle an emissions
liability in the ordinary course of business. If the purchased emission rights are
recognised as inventories, they are subsequently measured at the lower of cost or
net realisable value in accordance with IAS 2, unless they are held by commodity
broker-traders.
&nb
sp; Broker-traders account for emission rights as inventory. A broker-trader may
recognise emission rights either at the lower of cost and net realisable value, or at
fair value less costs to sell as permitted by IAS 2. An integrated entity may hold
emission rights both for own-use and for trading. An entity accounts for these
emission rights separately.
2.3.1.D
Bitcoin and other crypto-currencies
In recent years, numerous crypto-currencies (e.g. Bitcoin) and crypto-tokens have been
launched. Crypto-assets each have their own terms and conditions, and the purpose for
holding them differs between holders. As a result, the holders of a crypto-asset will need
to evaluate their own facts and circumstances in determining which IFRS recognition
and measurement requirements should be applied.
Many crypto-assets would meet the relatively wide definition of an intangible asset. An
intangible asset is defined by IAS 38 as an identifiable non-monetary asset without physical
substance. [IAS 38.8]. However not all intangible assets are within the scope of IAS 38 as the
standard is clear that it does not apply to items that are in the scope of another standard.
For example, IAS 38 excludes from its scope intangible assets held by an entity for sale in
the ordinary course of business, which are within scope of IAS 2 [IAS 38.3(a)] and financial
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assets as defined in IAS 32 – Financial Instruments: Presentation. [IAS 38.3(e)]. The
accounting for crypto-assets as intangible assets is discussed in Chapter 17 at 11.5.
Although this is often assumed, IAS 2 does not require inventory to be tangible. IAS 2
defines inventory as 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. [IAS 2.6].
Crypto-assets could be held for sale in the ordinary course of business, for example, by
a commodity broker-trader. Whether crypto-assets are held for sale in the ordinary
course of business would depend on the specific facts and circumstances of the holder.
In practice, crypto-assets are generally not used in the production of inventory and,
thus, would not be considered materials and supplies to be consumed in the production
process. However, in limited circumstances, a crypto-asset could be held for
consumption in the rendering of a service. For example, a crypto-asset, not readily
convertible to cash, that only entitles the holder to a specific service (e.g. server
capacity) could be considered inventory if the holder uses the underlying service to
deliver its own services in the ordinary course of its business.
The measurement of crypto-assets that meet the definition of inventory is addressed
at 3.4 below.
IAS 2 does not apply to financial instruments. [IAS 2.2(b)]. Thus, where a crypto-asset
meets the definition of a financial instrument, it should be accounted for under IFRS 9
– Financial Instruments – rather than as inventory under IAS 2. (See Chapter 41).
2.3.1.E
Transfers of rental assets to inventory
An entity may, in the course of its ordinary activities, routinely sell items that had
previously been held for rental and classified as property, plant and equipment. For
example, car rental companies may acquire vehicles with the intention of holding them
as rental cars for a limited period and then selling them. IAS 16 requires that when such
items become held for sale rather than rental they be transferred to inventory at their
carrying value. [IAS 16.68A]. Revenue from the subsequent sale is then recognised gross
rather than net, as discussed in Chapter 18 at 7.2.
2.3.1.F
Consignment stock and sale and repurchase agreements
A seller may enter into an arrangement with a distributor where the distributor sells
inventory on behalf of the seller. Such consignment arrangements are common in
certain industries, such as the automotive industry. Under IFRS 15, revenue would
generally not be recognised for stock delivered to the consignee because control has
not yet transferred (see Chapter 28 at 5.5), and the seller would continue to account for
the consignment inventory until control has passed.
Similarly, entities may enter into sale and repurchase agreements with a customer
where the seller agrees to repurchase inventory under particular circumstances. For
example, the seller may agree to repurchase any inventory that the customer has not
sold to a third party after six months. IFRS 15 contains complex guidance, explained in
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Chapter 28 at 8.4, which can result in the entity accounting for such arrangements as
financing arrangements, as leases, or as a sale with a right of return.
Where an arrangement is accounted for as a financing arrangement, the seller will
continue to recognise the inventory on its balance sheet and will also recognise a
financial liability for the consideration received. If IFRS 15 requires the arrangement to
be accounted for as a lease, the arrangement must be accounted for in accordance with
IFRS 16 – Leases (or IAS 17 – Leases – if that standard is still applied). If the seller is
considered to be acting as lessor in a finance lease, the inventory subject to the
arrangement would be derecognised and the seller would instead recognise a finance
lease receivable. If the seller is considered to be acting as lessor in an operating lease,
the seller would continue to recognise the inventory on balance sheet. For
arrangements that are considered to be a sale with a right of return, inventory will be
derecognised and the seller will instead recognise a right of return asset. Sales with a
right of return are considered further at 2.3.1.G below.
The entity will also have to consider appropriate disclosure for material amounts of
inventory that is held on consignment or sale and return at a third party’s premises.
2.3.1.G
Sales with a right of return
An entity may provide its customers with a right to return goods that it has sold to
them. The right may be contractual, or an implicit right that exists due to the
entity’s customary business practice, or a combination of both. Offering a right of
return in a sales agreement obliges the selling entity to stand ready to accept any
returned product. Under IFRS 15, the potential for customer returns needs to be
considered when an entity estimates the transaction price because potential
returns are a component of variable consideration. IFRS 15 also requires that the
selling entity recognise the amount received or receivable that is expected to be
returned to the customer as a refund liability, and recognise a return asset for its
right to recover goods returned by the customer. The carrying value of the return
asset is presented separately from inventory. Sales with a right of return are
discussed further in Chapter 28 at 5.7.
3 MEASUREMENT
The standard’s basic rule is that inventories are measured at the lower of cost and net
realisable value, apart from those inventories scoped out of its measurement
requirements as explained at 2.3 above. [IAS 2.9].
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’. [IAS 2.6]. This is different to fair
value, which IAS 2 defines in accordance with IFRS 13 – Fair Value Measurement, as
‘the price that would be received to sell an asset or paid to transfer a liability in an
orderly transaction between market participants at the measurement date’. [IAS 2.6].
The standard points out that net realisable value is an entity-specific value, the amount
that the entity actually expects to make from selling that particular inventory, while fair
value is not. Fair value reflects the price at which an orderly transaction to sell the same
inventory in the principal (or most advantageous) market for that inventory would take
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place between market participants at the measurement date. Therefore, net realisable
value may not be the same as fair value less costs to sell. [IAS 2.7]. This is illustrated in the
following extract in which AngloGold Ashanti discloses that net realisable value is based
on estimated future sales prices of the product.
Extract 22.1: AngloGold Ashanti Limited (2017)
GROUP – NOTES TO THE FINANCIAL STATEMENTS
For the year ended 31 December [extract]
1 ACCOUNTING
POLICIES
[extract]
1.2
SIGNIFICANT ACCOUNTING JUDGEMENTS AND ESTIMATES [extract]
USE OF ESTIMATES [extract]
Stockpiles and metals in process [extract]
Costs that are incurred in or benefit the production process are accumulated in stockpiles and metals in process values. Net realisable value tests are performed at least annually and represent the estimated future sales price of the product, based on prevailing and long-term metals prices, less estimated costs to complete production and bring the product to sale.
If there has been a downturn in a cyclical business such as real estate, an entity may
argue that net realisable value is higher than fair value because the entity intends to hold
the asset until prices recover. This is rarely supportable as the decline in fair value
usually indicates that the price that will be achieved in the ordinary course of business
has declined and time taken to dispose of assets has increased. Net realisable value is
International GAAP® 2019: Generally Accepted Accounting Practice under International Financial Reporting Standards Page 312