🎯 Objective:

To prescribe the accounting treatment for inventories—their recognition, measurement, and disclosure.

1. Scope

IAS 2 applies to all inventories, except:

• Construction contracts (IAS 11)
• Financial instruments (IFRS 9)
• Biological assets related to agriculture (IAS 41)

2. Definition of Inventories

Inventories are assets:

• Held for sale in the ordinary course of business
• In the process of production for such sale
• In the form of materials or supplies to be consumed in production

3. Measurement Rule

📌 Inventories must be measured at the lower of:

• Cost
• Net Realizable Value (NRV)

4. Cost of Inventories Includes:

a) Costs of Purchase

• Purchase price (net of trade discounts)
• Import duties and taxes (non-refundable)
• Transport, handling, and other costs

b) Costs of Conversion

• Direct costs: Labor, materials, subcontracted work
• Fixed production overheads: Allocated based on normal capacity
• Variable production overheads

c) Other Costs

• Design or development for a specific customer

🚫 Costs Excluded (Expensed in P&L):

• Abnormal waste
• Storage costs (unless part of production)
• Administrative overheads (not production-related)
• Selling/distribution costs

5. Net Realizable Value (NRV)

NRV falls below cost when:

• Market prices fall
• Goods are damaged, obsolete, or defective
• Selling costs increase
• Strategic discounts apply

6. Cost Formulas for Interchangeable Items

✅ Allowed Methods:

• FIFO (First-In, First-Out)
• Weighted Average Cost

❌ LIFO is not allowed

Must apply the same method consistently for similar nature and use items.

7. Disclosure Requirements

• Accounting policy for cost measurement
• Carrying amounts classified appropriately (raw materials, WIP, finished goods)
• Inventory write-downs and reversals (if any)
• Amount of inventory recognized as expense during the period

🎯 Objective:

Prescribe when to adjust or disclose events that occur after the reporting period but before financial statements are authorized for issue.

Types of Events

1. Adjusting Events

Events that provide evidence of conditions existing at the reporting date.

Action: Adjust the financial statements

Examples:

• Settlement of a court case that confirms a present obligation
• Bankruptcy of a customer confirming bad debt
• Discovery of fraud or errors
• Sale of inventory below cost confirming NRV write-down

2. Non-Adjusting Events

Events that are indicative of conditions arising after the reporting date.

Action: Disclose in notes if material

Examples:

• Major business combination after year-end
• Decline in market value of investments
• Fire or natural disaster
• Announcement of major restructuring
• Proposed dividends (disclose, don't recognize)

Going Concern

If events after the reporting period indicate the entity is not a going concern, financial statements should not be prepared on a going concern basis.

🎯 Objective:

To prescribe how to recognize, measure, and depreciate tangible non-current assets such as buildings, machinery, and vehicles.

Definition

PPE are:

• Tangible Assets
• Held for use in:
  • Production of goods/services
  • Rental to others
  • Administrative purposes

Recognition Criteria

PPE item is recognized as an asset when:

1. Probable future economic benefits will flow to the entity
2. Cost of the item can be measured reliably

📌 If not — treat as an expense

Initial Measurement: At Cost

Cost Includes:

• Purchase price (less trade discounts)
• Non-refundable import duties and taxes
• Delivery, handling, installation, and site preparation costs
• Professional fees (such as engineers and architects)
• Testing costs (net of revenue from test production)
• Dismantling and restoration costs (present value of future obligations)

Excluded Costs (Charged to P&L):

• Admin & general overheads
• Initial operating losses
• Relocation or training
• Repairs or maintenance

Subsequent Expenditure

Measurement Models

📌 Revaluation must be done for entire asset class, not just individual items.

Methods of Depreciation

• Straight Line: (Cost - Residual Value) ÷ Useful Life
• Reducing Balance: Carrying Amount × Reducing Rate
• Units of Production: Based on actual usage

Revaluation Accounting

Revaluation Gain:

Revaluation Loss:

First offset against surplus, then to P&L

Excess Depreciation Transfer:

If new depreciation > old:

Done in Statement of Changes in Equity (SOCIE) — not through P&L

Disposal of PPE

Gain/Loss = Sale Proceeds − Carrying Value

🎯 Objective:

Prescribe accounting for government grants and disclosure of other forms of government assistance.

Recognition

Recognize when:

• Reasonable assurance that conditions will be met
• Grant will be received

Types of Grants

1. Grants Related to Assets

Two methods allowed:

• Deferred income method: Recognize as deferred income and release to P&L over asset life
• Deduction method: Deduct from asset cost, depreciate net amount

2. Grants Related to Income

Recognize in P&L on a systematic basis over the periods matching the related costs

Repayment

If a grant becomes repayable, treat as a change in estimate and adjust prospectively.

🎯 Objective:

Prescribe treatment of borrowing costs directly attributable to the acquisition, construction, or production of a qualifying asset.

Qualifying Asset

An asset that necessarily takes a substantial period of time to get ready for its intended use or sale.

Treatment

Capitalize borrowing costs that are directly attributable to acquiring or constructing a qualifying asset.

All other borrowing costs are expensed in the period incurred.

Capitalization Period

• Begins: When expenditures and borrowing costs are being incurred and activities necessary to prepare the asset are in progress
• Ends: When substantially all activities necessary to prepare the asset for use/sale are complete
• Suspend: During extended periods of suspended development

🎯 Objective:

Prescribe principles for determining and presenting earnings per share to improve performance comparisons.

Basic EPS

Diluted EPS

Adjusts basic EPS for the effects of all dilutive potential ordinary shares (e.g., convertible bonds, options, warrants).

Presentation

Both basic and diluted EPS must be presented on the face of the statement of profit or loss for each class of ordinary shares.

🎯 Objective:

Ensure assets are carried at no more than their recoverable amount.

Recoverable Amount

Impairment Loss

If carrying amount > recoverable amount, recognize an impairment loss in P&L.

Reversal

Impairment losses can be reversed (except for goodwill) if:

• There has been a change in estimates used to determine recoverable amount
• Limited to the carrying amount that would have been determined (net of depreciation) had no impairment been recognized

🎯 Objective:

Ensure that appropriate recognition criteria and measurement bases are applied to provisions, contingent liabilities, and contingent assets.

Definitions

Provision

A liability of uncertain timing or amount.

Contingent Liability

• A possible obligation dependent on uncertain future events, OR
• A present obligation not recognized because payment is not probable or cannot be measured reliably

Contingent Asset

A possible asset arising from past events whose existence will be confirmed by uncertain future events.

Recognition of Provisions

Recognize a provision when:

1. Entity has a present obligation (legal or constructive) from a past event
2. Probable that an outflow of resources will be required
3. Amount can be reliably estimated

Measurement

Provisions should be measured at the best estimate of the expenditure required to settle the obligation. If material, use present value.

Treatment Summary

Common Examples

• Warranty provisions: Recognize if probable and estimable
• Restructuring provisions: Only when detailed formal plan exists and valid expectation raised
• Onerous contracts: Recognize provision for unavoidable costs
• Legal cases: Provision if probable outflow; contingent liability if possible but not probable

🎯 Objective:

Prescribe accounting treatment for intangible assets that are not dealt with specifically in another standard.

Definition

An intangible asset is an identifiable non-monetary asset without physical substance.

Examples: Patents, copyrights, franchises, software, trademarks

Recognition

Recognize when:

• Probable future economic benefits
• Cost can be measured reliably
• Asset is identifiable (separable or arises from contractual/legal rights)

Measurement

• Initially: At cost
• Subsequently: Cost model or revaluation model (similar to PPE)

Amortization

• Finite useful life: Amortize systematically over useful life
• Indefinite useful life: Do not amortize; test for impairment annually

Research and Development

• Research costs: Expense as incurred
• Development costs: Capitalize if all criteria met (technical feasibility, intention to complete, ability to use/sell, future economic benefits, adequate resources, reliable measurement)

🎯 Objective:

Prescribe accounting treatment for investment property and related disclosure requirements.

Definition

Property (land or building) held to earn rentals or for capital appreciation, rather than for use in production/supply of goods/services or administrative purposes.

Measurement

• Initially: At cost (including transaction costs)
• Subsequently: Choose either:
  • Fair value model (gains/losses to P&L)
  • Cost model (as per IAS 16)

Fair Value Model

Changes in fair value are recognized in profit or loss (not OCI).

🎯 Objective:

Prescribe accounting treatment for agricultural activity and related disclosures.

Key Definitions

• Biological asset: A living animal or plant
• Agricultural produce: The harvested product of biological assets
• Agricultural activity: Management of biological transformation and harvest

Measurement

• Biological assets: Measured at fair value less costs to sell at each reporting date
• Agricultural produce: Measured at fair value less costs to sell at the point of harvest
• Changes in fair value are recognized in profit or loss

Examples

• Biological assets: Sheep, trees in a timber plantation, dairy cattle
• Agricultural produce: Wool, logs, milk
• Products after harvest: Yarn, lumber, cheese (covered by IAS 2)

🎯 Overview:

Business combinations involve preparing consolidated financial statements when a parent company controls one or more subsidiaries.

Key Concepts

Control

Control exists when the parent has power over the investee, exposure to variable returns, and the ability to use power to affect returns.

Subsidiary

An entity controlled by another entity (the parent).

Associate

An entity over which the investor has significant influence (typically 20-50% ownership).

Consolidation Process

Key Steps:

1. Combine like items: Add parent and subsidiary line by line (assets, liabilities, income, expenses)
2. Eliminate intra-group transactions: Remove internal sales, receivables, payables
3. Calculate goodwill: At acquisition date
4. Calculate non-controlling interest (NCI): Minority shareholders' interest in subsidiary
5. Remove unrealized profits: On inventory or fixed assets sold between group entities

Goodwill Calculation

📌 Goodwill is tested for impairment annually and is not amortized.

Non-Controlling Interest (NCI)

Two methods for measuring NCI at acquisition:

1. Fair value method: NCI's share of fair value of subsidiary
2. Proportionate share method: NCI's share of net assets only

Post-Acquisition Adjustments

• Fair value adjustments: Revalue subsidiary's assets to fair value at acquisition
• Fair value depreciation: Depreciate the fair value adjustment over remaining useful life
• Unrealized profit (PUP): Eliminate profit on inventory still held within the group
• Intra-group transactions: Eliminate receivables, payables, sales, purchases between group entities

Consolidated Statement of Financial Position

Assets:

• PPE: Parent + Subsidiary + Fair value adjustment − Extra depreciation − Unrealized profit
• Goodwill: Calculated at acquisition − Impairment
• Investment in subsidiary: Eliminated (replaced by goodwill)
• Inventory: Parent + Subsidiary − Provision for unrealized profit (PUP)
• Receivables: Parent + Subsidiary − Intra-group balances

Equity:

• Share capital: Parent only
• Retained earnings: Group retained earnings (parent + parent's share of post-acquisition subsidiary profits)
• NCI: NCI at acquisition + NCI share of post-acquisition profits

Liabilities:

• Payables/Loans: Parent + Subsidiary − Intra-group balances

Important Exam Tips

• Always calculate net assets at acquisition and reporting date
• Remember to eliminate 100% of intra-group balances (not just parent's share)
• PUP adjustments reduce profit of the seller and inventory of the group
• Fair value depreciation reduces post-acquisition profits
• Goodwill impairment reduces goodwill and group profits
• NCI gets a share of post-acquisition profits and net assets