Inventory Price Decline After Year-End | Ind AS 2 Analysis

1. Facts

A company engaged in trading and manufacturing of commodities holds significant inventory as of the reporting date. The inventory primarily consists of raw materials and finished goods that are actively traded in the market.

At the year-end, the company determines the cost of inventory to be lower than its Net Realisable Value (NRV) based on prevailing market prices. Accordingly, no write-down is recognised in the financial statements.

However, shortly after the reporting date and before the approval of financial statements, the following developments occur:

(a) There is a sharp and sustained decline in commodity prices due to global market disruptions and weakening demand conditions.

(b) The decline is not temporary in nature, and market prices remain significantly lower than the year-end levels over the subsequent period.

(c) The company is unable to sell its inventory at prices prevailing at the reporting date, and actual sales in the subsequent period are realised at lower prices.

(d) Management takes a view that the decline in prices represents a post-balance sheet event, and therefore does not adjust the inventory valuation as at the reporting date.

(e) The financial statements are prepared without any write-down, though a general disclosure about market volatility is included.

In this context, the question arises whether such post year-end price decline should be considered in determining NRV, and whether the inventory valuation as at the reporting date is appropriate under Ind AS 2.

2. Relevant Provisions under Ind AS 2 and Ind AS 10

Ind AS 2, Inventories

Para 9 – Inventories shall be measured at the lower of cost and net realisable value (NRV).

Para 28 – The cost of inventories may not be recoverable if those inventories are damaged, if they have become wholly or partially obsolete, or if their selling prices have declined. The cost of inventories may also not be recoverable if the estimated costs of completion or the estimated costs to be incurred to make the sale have increased. The practice of writing inventories down below cost to net realisable value is consistent with the view that assets should not be carried in excess of amounts expected to be realised from their sale or use.

Para 30 – Estimates of net realisable value are based on the most reliable evidence available at the time the estimates are made, of the amount the inventories are expected to realise. These estimates take into consideration fluctuations of price or cost directly relating to events occurring after the end of the period to the extent that such events confirm conditions existing at the end of the period.

3. Ind AS 10, Events after the Reporting Period

Para 3 – The following terms are used in this Standard with the meanings specified:

Events after the reporting period are those events, favourable and unfavourable, that occur between the end of the reporting period and the date when the financial statements are approved by the Board of Directors in case of a company, and, by the corresponding approving authority in case of any other entity for issue. Two types of events can be identified:

(a) those that provide evidence of conditions that existed at the end of the reporting period (adjusting events after the reporting period); and

(b) those that are indicative of conditions that arose after the reporting period (non-adjusting events after the reporting period).

Para 8 – An entity shall adjust the amounts recognised in its financial statements to reflect adjusting events after the reporting period.

Para 10 – An entity shall not adjust the amounts recognised in its financial statements to reflect non-adjusting events after the reporting period.

Para 21 – If non-adjusting events after the reporting period are material, non-disclosure could reasonably be expected to influence decisions that the primary users of general purpose financial statements make on the basis of those financial statements, which provide financial information about a specific reporting entity. Accordingly, an entity shall disclose the following for each material category of non-adjusting event after the reporting period-

(a) the nature of the event; and

(b) an estimate of its financial effect, or a statement that such an estimate cannot be made.

Para 22 – The following are examples of non-adjusting events after the reporting period that would generally result in disclosure:

(a) a major business combination after the reporting period Ind AS 103, Business Combinations, requires specific disclosures in such cases) or disposing of a major subsidiary;

(b) announcing a plan to discontinue an operation;

(c) major purchases of assets, classification of assets as held for sale in accordance with Ind AS 105, Non-current Assets Held for Sale and Discontinued Operations, other disposals of assets, or expropriation of major assets by government;

(d) the destruction of a major production plant by a fire after the reporting period;

(e) announcing, or commencing the implementation of, a major restructuring (see Ind AS 37);

(f) major ordinary share transactions and potential ordinary share transactions after the reporting period (Ind AS 33, Earnings per Share, requires an entity to disclose a description of such transactions, other than when such transactions involve capitalisation or bonus issues, share splits or reverse share splits all of which are required to be adjusted under Ind AS 33);

(g) abnormally large changes after the reporting period in asset prices or foreign exchange rates;

(h) changes in tax rates or tax laws enacted or announced after the reporting period that have a significant effect on current and deferred tax assets and liabilities (see Ind AS 12, Income Taxes);

(i) entering into significant commitments or contingent liabilities, for example, by issuing significant guarantees; and

(j) commencing major litigation arising solely out of events that occurred after the reporting period

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