## Inventory Valuation under AS 2: Lower of Cost or NRV

AS 2 – Inventories requires inventory to be valued at the lower of cost and net realisable value (NRV). The auditor must verify both components independently.

### What is 'Cost' of Inventory?

Included in cost:

Purchase cost of materials
Costs to bring inventory to its present location and condition
e.g., allocated transport/freight inward costs
Direct labour, direct material, and manufacturing overheads (for WIP/finished goods)

Excluded from cost:

Abnormal wastage (must be expensed to P&L)
General and administrative overheads not related to production
Selling and distribution costs
Storage costs (unless necessary in production process)
Borrowing costs (unless specifically qualifying asset)

### Cost Formulas (Valuation Methods)

FIFO (First In First Out)
Weighted Average Cost
LIFO is NOT permitted under Indian AS 2

### Net Realisable Value (NRV)

```

NRV = Estimated selling price − Estimated costs to complete − Estimated selling costs

```

### The Valuation Decision

```

Inventory Value = Lower of (Adjusted Cost, NRV)

```

If Adjusted Cost < NRV → carry at Adjusted Cost
If NRV < Adjusted Cost → write down to NRV (mandatory)

Worked example

### Example 1

Q (based on Q23): ABC & Co. (toy manufacturer) uses FIFO. As at 31.03.2024:

Material purchase cost: ₹25,05,000
Allocated transport cost: ₹18,000
Abnormal wastage: ₹2,000
Stated cost: ₹25,25,000
NRV: ₹25,24,000

What is the correct inventory value per AS 2?

Step 1 — Compute adjusted cost:

Include: Material ₹25,05,000 + Transport ₹18,000 = ₹25,23,000
Exclude: Abnormal wastage ₹2,000 (must be expensed)
Adjusted Cost = ₹25,23,000

Step 2 — Compare with NRV:

NRV = ₹25,24,000
Lower of ₹25,23,000 and ₹25,24,000 = ₹25,23,000

Inventory should be valued at ₹25,23,000 (carried at cost since cost < NRV).

⚠️ Common exam mistakes

Including abnormal wastage in the cost of inventory — it must always be excluded and expensed
Forgetting that transport/freight inward costs ARE included in inventory cost (they are costs to bring inventory to location)
Applying NRV without first adjusting cost for excluded items — always compute adjusted cost first, then compare
Using LIFO — not permitted under Indian AS 2; only FIFO and Weighted Average are acceptable
Writing UP inventory when NRV > cost — the lower of cost or NRV rule only allows write-DOWN, never write-up

Bare-Act text Paras 5, 6, 13 · AS 2 – Inventories · click to expand

Inventories should be valued at the lower of cost and net realisable value. The cost of inventories should comprise all costs of purchase, costs of conversion and other costs incurred in bringing the inventories to their present location and condition. Abnormal amounts of wasted materials, labour, or other production costs are excluded from cost of inventories and such costs are recognised as expenses in the period in which they are incurred.

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Inventory Valuation under AS 2 – Lower of Cost or NRV

Worked example

⚠️ Common exam mistakes