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ASLB 12 Inventories

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Accounting Standard for Local Bodies (ASLB) 12

Inventories

Contents
Paragraphs
OBJECTIVE 1

SCOPE 2-8

DEFINITIONS 9-14

Net Realisable Value 10

Inventories 11-14

MEASUREMENT OF INVENTORIES 15-43

Cost of Inventories 18-31

Cost of Purchases 19

Cost of Conversion 20-23

Other Costs 24-27

Cost of Inventories of a Service Provider 28

Techniques for the Measurement of Costs 30-31

Cost Formulas 32-37

Net Realisable Value 38-42
Compendium of ASLBs

Distributing Goods at No Charge or for a
Nominal Charge 43

RECOGNITION AS AN EXPENSE 44-46

DISCLOSURE 47-50

APPENDICES:

APPENDIX 1: Comparison with IPSAS 12, Inventories

APPENDIX 2: Comparison with existing AS 2, Inventories

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Inventories

Accounting Standard for Local Bodies (ASLB) 12

Inventories
(This Accounting Standard includes paragraphs set in bold italic type and plain
type, which have equal authority. Paragraphs in bold italic type indicate the
main principles. This Accounting Standard should be read in the context of its
objective and the Preface to the Accounting Standards for Local Bodies1).

The Accounting Standard for Local Bodies (ASLB) 12, ‘Inventories’, issued by
the Council of the Institute of Chartered Accountants of India, will be
recommendatory in nature in the initial years for use by the Local Bodies. This
Standard will be mandatory for Local Bodies in a State from the date specified
in this regard by the State Government concerned2.

The following is the text of the Accounting Standard for Local Bodies.
PUBLIC SECTOR
Objective
1. The objective of this Standard is to prescribe the accounting treatment for
inventories. A primary issue in accounting for inventories is the amount of cost
to be recognised as an asset and carried forward until the related revenues are
recognised. This Standard provides guidance on the determination of cost and
its subsequent recognition as an expense, including any write-down to net
realisable value. It also provides guidance on the cost formulas that are used to
assign costs to inventories.

Scope
2. An entity that prepares and presents financial statements under the
accrual basis of accounting should apply this Standard in accounting for
all inventories except:
1
Attention is specifically drawn to paragraph 4.2 of the ‘Preface to the Accounting
Standards for Local Bodies’, according to which Accounting Standards are intended to
apply only to items which are material.
2
Reference may be made to the paragraph 7.1 of the ‘Preface to the Accounting
Standards for Local Bodies’ providing the discussion on the compliance with the
Accounting Standards for Local Bodies.
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Compendium of ASLBs

(a) Work-in-progress arising under construction contracts,
including directly related service contracts (see ASLB 11
‘Construction Contracts’);

(b) Shares, debentures, derivative contracts and, other financial
instruments of similar nature held as stock-in-trade; and

(d) Work-in-progress of services to be provided for no or nominal
consideration directly in return from the recipients.

3. This Standard does not apply to the measurement of inventories
held by producers of agricultural and forest products, and minerals and
mineral products, to the extent that they are measured at net realisable
value in accordance with well-established practices in those industries.
When such inventories are measured at net realisable value, changes in
that value are recognised in surplus or deficit in the period of the change.

4. This Standard applies to entities described as local bodies in the
Preface to the Accounting Standards for Local Bodies3.

5. [Refer to Appendix 1]

6. The inventories referred to in paragraph 2(d) are not encompassed by AS
2, ‘Inventories’, and are excluded from the scope of this standard.

7. The inventories referred to in paragraph 3 are measured at net realisable
value at certain stages of production. This occurs, for example, (a) when
agricultural crops have been harvested or minerals have been extracted and
sale is assured under a forward contract or a government guarantee, or (b)
when an active market exists and there is a negligible risk of failure to sell.
These inventories are excluded only from the measurement requirements of this
Standard.

8. [Refer to Appendix 1]

3
Refer paragraph 1.3 of the ‘Preface to the Accounting Standards for Local Bodies’.
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Inventories

Definitions
9. The following terms are used in this Standard with the meanings
specified:

Current replacement cost is the cost the entity would incur to
acquire the asset on the reporting date.

Inventories are assets:

(a) In the form of materials or supplies to be consumed in the
production process;

(b) In the form of materials or supplies to be consumed or
distributed in the rendering of services;

(d) In the process of production for sale or distribution.

Net realisable value is the estimated selling price in the ordinary
course of operations, less the estimated costs of completion and the
estimated costs necessary to make the sale, exchange, or distribution.

Terms defined in other Accounting Standards for Local Bodies are
used in this Standard with the same meaning as in those Standards.

Net Realisable Value

10. Net realisable value refers to the net amount that an entity expects to
realise from the sale of inventory in the ordinary course of operations. Fair value
reflects the amount for which the same inventory could be exchanged between
knowledgeable and willing buyers and sellers in the marketplace. The former is
an entity-specific value; the latter is not. Net realisable value for inventories may
not equal fair value less costs to sell.

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Compendium of ASLBs

Inventories

11. Inventories encompass goods purchased and held for resale including,
for example, merchandise purchased by an entity and held for resale, or land
and other property held for sale. Inventories also encompass finished goods
produced, or work-in-progress being produced, by the entity. Inventories also
include (a) materials and supplies awaiting use in the production process, and
(b) goods purchased or produced by an entity, which are for distribution to other
parties for no charge or for a nominal charge, for example, educational books
produced by a health authority for donation to schools. In many entities,
inventories will relate to the provision of services rather than goods purchased
and held for resale or goods manufactured for sale. In the case of a service
provider, inventories include the costs of the service, as described in paragraph
28, for which the entity has not yet recognised the related revenue (guidance on
recognition of revenue can be found in ASLB 9, ‘Revenue from Exchange
Transactions’).

12. Inventories in the local bodies may include:

(a) Consumable stores;

(b) Maintenance materials;

(d) Work-in-progress, including educational/training course materials;
and

(e) Land/property held for sale.

13. [Refer to Appendix 1]

14. [Refer to Appendix 1]

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Inventories

Measurement of Inventories
15. Inventories should be measured at the lower of cost and net realisable
value, except where paragraph 16 or paragraph 17 applies.

16. Where inventories are acquired through a non-exchange transaction,
their cost should be measured at their fair value as at the date of acquisition.
Provided a Local Body falling in Level II may not measure an inventory
acquired through non-exchange transaction at fair value and may measure
the same at nominal value of Re. 14.

17. Inventories should be measured at the lower of cost and current
replacement cost where they are held for:

(a) Distribution at no charge or for a nominal charge; or

(b) Consumption in the production process of goods to be
distributed at no charge or for a nominal charge.

Cost of Inventories

18. 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.

Costs of Purchase

19. The costs of purchase of inventories comprise (a) the purchase price, (b)
import duties and other taxes (other than those subsequently recoverable by the
entity from the taxing authorities), and (c) transport, handling, and other costs
directly attributable to the acquisition of finished goods, materials, and supplies.
Trade discounts, rebates, and other similar items are deducted in determining
the costs of purchase.

4
Criteria for classification of Local Bodies in different Levels is being prepared.
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Compendium of ASLBs

Costs of Conversion

20. The costs of converting work-in-progress inventories into finished goods
inventories are incurred primarily in a manufacturing environment. The costs of
conversion of inventories include costs directly related to the units of production,
such as direct labour. They also include a systematic allocation of fixed and
variable production overheads that are incurred in converting materials into
finished goods. Fixed production overheads are those indirect costs of production
that remain relatively constant regardless of (a) the volume of production, such
as depreciation and maintenance of factory buildings and equipment, and (b)
the cost of factory management and administration. Variable production
overheads are those indirect costs of production that vary directly, or nearly
directly, with the volume of production, such as indirect materials and indirect
labour.

21. The allocation of fixed production overheads to the costs of conversion is
based on the normal capacity of the production facilities. Normal capacity is the
production expected to be achieved on average over a number of periods or
seasons under normal circumstances, taking into account the loss of capacity
resulting from planned maintenance. The actual level of production may be
used if it approximates normal capacity. The amount of fixed overhead allocated
to each unit of production is not increased as a consequence of low production
or idle plant. Unallocated overheads are recognised as an expense in the period
in which they are incurred. In periods of abnormally high production, the amount
of fixed overhead allocated to each unit of production is decreased, so that
inventories are not measured above cost. Variable production overheads are
allocated to each unit of production on the basis of the actual use of the production
facilities.

22. For example, the allocation of costs, both fixed and variable, incurred in
the development of undeveloped land held for sale into residential or commercial
landholdings could include costs relating to landscaping, drainage, pipe laying
for utility connection, etc.

23. A production process may result in more than one product being produced
simultaneously. This is the case, for example, when joint products are produced
or when there is a main product and a by-product. When the costs of conversion
of each product are not separately identifiable, they are allocated between the
products on a rational and consistent basis. The allocation may be based, for
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Inventories

example, on the relative sales value of each product either at the stage in the
production process when the products become separately identifiable, or at the
completion of production. Most by-products, by their nature, are immaterial.
When this is the case, they are often measured at net realisable value, and this
value is deducted from the cost of the main product. As a result, the carrying
amount of the main product is not materially different from its cost.

Other Costs

24. Other costs are included in the cost of inventories only to the extent that
they are incurred in bringing the inventories to their present location and condition.
For example, it may be appropriate to include non-production overheads or the
costs of designing products for specific customers in the cost of inventories.

25. Examples of costs excluded from the cost of inventories and recognised
as expenses in the period in which they are incurred are:

(a) Abnormal amounts of wasted materials, labour, or other production
costs;

(b) Storage costs, unless those costs are necessary in the production
process before a further production stage;

(d) Selling costs.

26. ASLB 5, ‘Borrowing Costs’, identifies limited circumstances where
borrowing costs are included in the cost of inventories.

27. An entity may purchase inventories on deferred settlement terms. When
the arrangement effectively contains a financing element, that element, for
example a difference between the purchase price for normal credit terms and
the amount paid, is recognised as interest expense over the period of the
financing.

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Compendium of ASLBs

Cost of Inventories of a Service Provider

28. To the extent that service providers have inventories except those referred
to in paragraph 2(d), they measure them at the costs of their production. These
costs consist primarily of the labour and other costs of personnel directly engaged
in providing the service, including supervisory personnel and attributable
overheads. The costs of labour not engaged in providing the service are not
included. Labour and other costs relating to sales and general administrative
personnel are not included, but are recognised as expenses in the period in
which they are incurred. The cost of inventories of a service provider does not
include surplus margins or non-attributable overheads that are often factored
into prices charged by service providers.

29. [Refer to Appendix 1]

Techniques for the Measurement of Cost

30. Techniques for the measurement of the cost of inventories, such as the
standard cost method or the retail method, may be used for convenience if the
results approximate cost. Standard costs take into account normal levels of
materials and supplies, labour, efficiency, and capacity utilisation. They are
regularly reviewed and, if necessary, revised in the light of current conditions.

31. Inventories may be transferred to the entity by means of a non-exchange
transaction. For example, an international aid agency may donate medical
supplies to a hospital promoted by the entity in the aftermath of a natural
disaster. Under such circumstances, the cost of inventory is its fair value as at
the date it is acquired. In case of a Local Body falling in Level II, inventory is
valued at nominal cost, i.e., Re.1.

Cost Formulas

32. The cost of inventories of items that are not ordinarily
interchangeable, and goods or services produced and segregated for
specific projects, should be assigned by using specific identification of
their individual costs.

33. Specific identification of costs means that specific costs are attributed to
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Inventories

identified items of inventory. This is an appropriate treatment for items that are
segregated for a specific project, regardless of whether they have been bought
or produced. However, specific identification of costs is inappropriate when
there are large numbers of items of inventory that are ordinarily interchangeable.
In such circumstances, the method of selecting those items that remain in
inventories could be used to obtain predetermined effects on the net surplus or
deficit for the period.

34. When applying paragraph 33 an entity should use the same cost
formula for all inventories having similar nature and use to the entity. For
inventories with different nature or use (for example, certain commodities
used in one segment and the same type of commodities used in another
segment), different cost formulas may be justified. A difference in
geographical location of inventories (and in the respective tax rules), by
itself, is not sufficient to justify the use of different cost formulas.

35. The cost of inventories, other than those dealt with in paragraph 32,
should be assigned by using the first-in, first-out (FIFO) or weighted average
cost formulas. An entity should use the same cost formula for all inventories
having a similar nature and use to the entity. For inventories with a different
nature or use, different cost formulas may be justified.

36. For example, inventories used in one segment may have a use to the
entity different from the same type of inventories used in another segment.
However, a difference in geographical location of inventories, by itself, is not
sufficient to justify the use of different cost formulas.

37. The FIFO formula assumes that the items of inventory that were purchased
first are sold first, and consequently the items remaining in inventory at the end
of the period are those most recently purchased or produced. Under the weighted
average cost formula, the cost of each item is determined from the weighted
average of the cost of similar items at the beginning of a period, and the cost of
similar items purchased or produced during the period. The average may be
calculated on a periodic basis, or as each additional shipment is received,
depending upon the circumstances of the entity.

Net Realisable Value

38. The cost of inventories may not be recoverable if those inventories are
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Compendium of ASLBs

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, exchange, or distribution have increased. The practice of writing inventories
down below cost to net realisable value is consistent with the view that assets
are not to be carried in excess of the future economic benefits or service
potential expected to be realised from their sale, exchange, distribution, or use.

39. Inventories are usually written down to net realisable value on an item by
item basis. In some circumstances, however, it may be appropriate to group
similar or related items. This may be the case with items of inventory that have
similar purposes or end uses, and cannot practicably be evaluated separately
from other items in that product line. It is not appropriate to write down inventories
based on a classification of inventory, for example, finished goods, or all the
inventories in a particular operation or geographical segment. Service providers
generally accumulate costs in respect of each service for which a separate
selling price is charged. Therefore, each such service is treated as a separate
item.

40. Estimates of net realisable value also take into consideration the purpose
for which the inventory is held. For example, the net realisable value of the
quantity of inventory held to satisfy firm sales or service contracts is based on
the contract price. If the sales contracts are for less than the inventory quantities
held, the net realisable value of the excess is based on general selling prices.
Guidance on the treatment of provisions or contingent liabilities, such as those
arising from firm sales contracts in excess of inventory quantities held, and on
firm purchase contracts can be found in ASLB 19, ‘Provisions, Contingent
Liabilities and Contingent Assets’.

41. Materials and other supplies held for use in the production of inventories
are not written down below cost if the finished products in which they will be
incorporated are expected to be sold, exchanged, or distributed at or above
cost. However, when a decline in the price of materials indicates that the cost of
the finished products exceeds net realisable value, the materials are written
down to net realisable value. In such circumstances, the replacement cost of
the materials may be the best available measure of their net realisable value.

42. A new assessment is made of net realisable value in each subsequent
period. When the circumstances that previously caused inventories to be written
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Inventories

down below cost no longer exist, or when there is clear evidence of an increase
in net realisable value because of changed economic circumstances, the amount
of the write down is reversed (i.e., the reversal is limited to the amount of the
original write down) so that the new carrying amount is the lower of the cost and
the revised net realisable value. This occurs, for example, when an item of
inventory that is carried at net realisable value because its selling price has
declined, is still on hand in a subsequent period and its selling price has increased.

Distributing Goods at No Charge or for a Nominal Charge

43. A local body may hold inventories whose future economic benefits or
service potential are not directly related to their ability to generate net cash
inflows. These types of inventories may arise when an entity has determined to
distribute certain goods at no charge or for a nominal amount. In these cases,
the future economic benefits or service potential of the inventory for financial
reporting purposes is reflected by the amount the entity would need to pay to
acquire the economic benefits or service potential if this was necessary to
achieve the objectives of the entity. Where the economic benefits or service
potential cannot be acquired in the market, an estimate of replacement cost will
need to be made. If the purpose for which the inventory is held changes, then
the inventory is valued using the provisions of paragraph 15.

Recognition as an Expense
44. When inventories are sold, exchanged, or distributed, the carrying
amount of those inventories should be recognised as an expense in the
period in which the related revenue is recognised. If there is no related
revenue, the expense is recognised when the goods are distributed or the
related service is rendered. The amount of any write-down of inventories
and all losses of inventories should be recognised as an expense in the
period the write-down or loss occurs. The amount of any reversal of any
writedown of inventories should be recognised as a reduction in the amount
of inventories recognised as an expense in the period in which the reversal
occurs.

45. For a service provider, the point when inventories are recognised as
expenses normally occurs when services are rendered, or upon billing for
chargeable services.

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Compendium of ASLBs

46. Some inventories may be allocated to other asset accounts, for example,
inventory used as a component of self-constructed property, plant, or equipment.
Inventories allocated to another asset in this way are recognised as an expense
during the useful life of that asset.

Disclosure
47. The financial statements should disclose:

(a) The accounting policies adopted in measuring inventories,
including the cost formula used;

(b) The total carrying amount of inventories and the carrying
amount in classifications appropriate to the entity;

(d) The amount of inventories recognised as an expense during
the period;

(e) The amount of any write-down of inventories recognised as an
expense in the period in accordance with paragraph 42;

(f) The amount of any reversal of any writedown that is recognised
in the statement of income and expenditure in the period in
accordance with paragraph 42;

(g) The circumstances or events that led to the reversal of a write-
down of inventories in accordance with paragraph 42; and

(h) The carrying amount of inventories pledged as security for
liabilities.

48. Information about the carrying amounts held in different classifications of
inventories and the extent of the changes in these assets is useful to financial
statement users. Common classifications of inventories are merchandise,
production supplies, materials, work-in-progress, and finished goods. The
inventories of a service provider may be described as work-in-progress.
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Inventories

49. [Refer to Appendix 1]

50. ASLB 1 prescribes a format for surplus or deficit that results in amounts
being disclosed other than the cost of inventories recognised as an expense
during the period. Under this format, an entity presents an analysis of expenses
using a classification based on the nature of expenses. In this case, the entity
discloses the costs recognised as an expense for (a) raw materials and
consumables, (b) labour costs, and (c) other costs, together with the amount of
the net change in inventories for the period.

51. [Refer to Appendix 1]

51A. [Refer to Appendix 1]

52. [Refer to Appendix 1]

53. [Refer to Appendix 1]

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Compendium of ASLBs

Appendix 1
Note: This Appendix is not a part of the Accounting Standard for Local Bodies.
The purpose of this appendix is only to bring out the major differences between
this Accounting Standard for Local Bodies (ASLB) 12 and the corresponding
International Public Sector Accounting Standard (IPSAS) 12, ‘Inventories’.

Comparison with IPSAS 12, ‘Inventories’

1. Paragraph 5 of IPSAS 12 which provides that Government Business
Enterprises should use IFRSs has been deleted as it is not relevant for
ASLB 12, which is applicable to Local Bodies of India. However, paragraph
number 5 is retained in ASLB 12, in order to maintain consistency with
IPSAS 12.

2. Certain items of inventories such as ammunition, strategic stock piles,
stock of unissued currency, postal service supplies held for sale and
work-in-progress on account of client service for e.g., auditing services,
where those services are sold at arm’s length prices etc., given in the
IPSAS 12 have been removed in the ASLB 12, keeping in view that these
are not relevant for local bodies. Paragraphs dealing with the recognition
of above invetnory items have also been deleted. However, paragraph
number 13 & 14 have been retained in the Standard in order to maintain
consistency with IPSAS 12.

3. IPSAS 12 excludes financial instruments from its scope as there are
separate IPSASs on the subject. This exclusion from the scope has been
deleted in the ASLB 12 keeping in view that the Standards on the subject
are not proposed to be issued in the near future. However, the ASLB 12
excludes ‘shares, debentures, derivative contracts and, other similar
financial instruments held as stock-in-trade’ from its scope.

4. IPSAS 12 specifies that it does not apply to measurement of inventories
held by commodity broker-traders, who measure their inventories at fair
value less costs to sell. However, this aspect has been excluded from the
ASLB 12 keeping in view that Local Bodies do not induldge in activities
carried on by commodity broker-traders. However, paragraph number 8

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Inventories

has been retained in the Standard in order to maintain consistency with
IPSAS 12.

5. IPSAS 12 excludes biological assets related to agricultural activity and
agricultural produce at the point of harvest from its scope as there is
separate IPSAS on agriculture. This exclusion from the scope has been
deleted in the ASLB 12 keeping in view that the Standard on the subject
is not proposed to be issued in the near future and certain consequential
changes have been made. Paragraph dealing with the measurement of
agricultural produce harvested from biological assets has also been deleted.
However, paragraph number 29 has been retained in the Standard in
order to maintain consistency with IPSAS 12.

6. IPSAS 12 requires that inventories acquired through a non-exchange
transaction should be valued at fair value. ASLB 12 prescribes that Local
Bodies falling in Level II may not measure such inventories at fair value
and measure the same at nominal value, i.e., Re. 1.

7. Paragraph 49 of IPSAS 12 dealing with recognition of Inventories as an
expense based on function wise classification has been deleted keeping
in view the fact that option provided in IPSAS 1 to present an analysis of
expenses recognised in profit or loss using a classification based on their
function within the entity has been removed and ASLB 1 requires only
nature wise classification of expenses. However, in order to maintain
consistency with paragraph numbers with IPSAS 12, the paragraph number
49 is retained in ASLB 12.

8. Paragraphs relating to effective date have been removed as the ASLB 12
would become mandatory for Local Bodies in a state from the date specified
by the State Government concerned. Paragraph numbers have been
retained in order to maintain consistency with IPSAS 12.

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Compendium of ASLBs

Appendix 2
Note: This Appendix is not a part of the Accounting Standard for Local Bodies.
The purpose of this appendix is only to bring out the major differences between
this Accounting Standard for Local Bodies (ASLB) 12 and the corresponding
existing Accounting Standard (AS) 2, ‘Valuation of Inventories’.

Comparison with Existing AS 2, ‘Valuation of Inventories’
(Revised 1999)

1. The ASLB 12 deals with the subsequent recognition of cost/carrying amount
of inventories as an expense, whereas the existing AS 2 does not provide
the same.

2. ASLB 12 includes valuation of work-in-progress in case of services to be
provided by local bodies except where no or nominal consideration is to
be received directly in return from recipients. Existing AS 2 specifically
excludes work-in-progress arising in the ordinary course of business of
service providers.

3. ASLB 12 uses a different definition of inventories from existing AS 2, the
difference recognises that in local bodies some inventories are distributed
at no charge or for a nominal charge.

4. ASLB 12 deals with valuation of inventories acquired through a non-
exchange transaction. However, existing AS 2 does not deal with
transactions relating to exchange or distribution consequently no such
guidance is given.

5. ASLB 12 requires that where inventories are provided at no charge or for
a nominal charge, they are to be valued at the lower of cost and current
replacement cost. As existing AS 2 does not recognise the situation of
distribution of inventories at no charge or nominal charge, no such guidance
is given. In accordance with the above, the ASLB 12 defines ‘current
replacement cost’.

6. ASLB 12 contains additional commentary for applying Standard to local
bodies.
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Inventories

7. The ASLB 12 deals with reversal of the write-down of inventories to net
realisable value to the extent of the amount of original write-down, and the
recognition and disclosure thereof in the financial statements. The existing
AS 2 does not deal with such reversal.

8. Existing AS 2 specifically provides that the formula used in determining
the cost of an item of inventory should reflect the fairest possible
approximation to the cost incurred in bringing the items of inventory to
their present location and condition, whereas the ASLB 12 does not
specifically state so and requires the use of consistent cost formulas for
all inventories having a similar nature and use to the entity. The ASLB 12
also explains this aspect.

9. The ASLB 12 requires more disclosures as compared to existing AS 2.

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