AS 2 is about one simple but high-stakes question: what value do you put on unsold stock at year-end? That closing stock number flows straight into your P&L (as it reduces Cost of Goods Sold) and sits on your Balance Sheet. Overstate it, profits look inflated. Understate it, you've violated matching. The examiner knows you know this — so they test the details.
The master rule: value inventories at the lower of Cost or Net Realisable Value (NRV). This is conservatism at work. If the market has moved against you, recognise the loss now. NRV = Estimated Selling Price − Estimated Completion Costs − Estimated Selling Costs. It is entity-specific — not the same as fair value or market price.
Cost of Inventory has three components: (1) Cost of Purchase — invoice price + import duties + freight inward − trade discounts. Include GST only if input tax credit is not available. (2) Cost of Conversion — direct labour + variable overheads + fixed overheads. Fixed manufacturing overheads are absorbed using normal capacity, not actual output — a perennial exam trap. If actual production is below normal, the unabsorbed overhead goes to P&L, not inventory. (3) Other Costs — only those directly needed to bring inventory to its present location and condition. Excluded from cost: abnormal wastage, storage costs (unless production-essential), selling overheads, and general admin overheads.
For cost formulas, AS 2 allows only two: FIFO and Weighted Average Cost. LIFO is prohibited — full stop. The same formula must be used for all inventories of a similar nature and use; you can switch formulas only for inventories with different natures. Disclosure of the cost formula used is mandatory. This topic shows up almost every attempt — expect a 6–8 mark numerical question.