Inventory in the public sector rarely looks like a shop’s stockroom. It is military stores, strategic fuel reserves, unissued postal stamps, drugs in a hospital pharmacy, spare parts for plant and equipment, training materials, and land held for sale. IPSAS 12 gives one set of rules for all of it: how to measure it, when to write it down, and when it becomes an expense.

1.What IPSAS 12 coversIPSAS 12.1

The objective of IPSAS 12 is to prescribe the accounting treatment for inventories — principally, how much cost to recognise as an asset and carry forward, and when that cost becomes an expense, including any write-down to net realizable value. One standard, five jobs:

1. Identify

What counts as inventory under the definition

2. Measure

The cost to carry it on the statement of financial position

3. Write down

To net realizable value (NRV) when cost is not recoverable

4. Recognise expense

Move the carrying amount to surplus or deficit

5. Disclose

By classification, with policies and write-down detail

Scope — what’s in and what’s out IPSAS 12.2–8

Every entity preparing accrual-basis financial statements applies IPSAS 12 to all inventories, except for three carve-outs that belong to other standards.

Within IPSAS 12

Goods held for sale or distribution · materials and supplies awaiting use · work-in-progress of goods (including educational materials and chargeable client services such as auditing)

Outside IPSAS 12

Financial instruments (IPSAS 41) · biological assets and agricultural produce at the point of harvest (IPSAS 27) · work-in-progress of services provided for no or nominal consideration (a public-sector-specific exclusion)

Two further measurement carve-outs exist for producers of agricultural, forest, and mineral products, and for commodity broker-traders, where well-established industry practice measures inventory at net realizable value or fair value less costs to sell — these are excluded only from the measurement requirements, not the standard entirely.

2.Key definitionsIPSAS 12.9

Three terms carry the whole standard. Get these fixed before moving to measurement.

TermMeaning
InventoriesAssets (a) in the form of materials or supplies to be consumed in production; (b) materials or supplies to be consumed or distributed in rendering services; (c) held for sale or distribution in the ordinary course of operations; or (d) in the process of production for sale or distribution.
Net realizable value (NRV)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. NRV is entity-specific — it is not the same as fair value less costs of disposal.
Current replacement costThe cost the entity would incur to acquire the same asset on the reporting date. Used as the measurement floor for goods held for free or nominal distribution.

Inventories in the public sector IPSAS 12.11–12

Government stock goes well beyond goods purchased for resale. IPSAS 12 specifically lists the kinds of items public entities are likely to be carrying:

Military inventories

Single-use items: ammunition, missiles, rockets, bombs

Strategic stockpiles

Energy reserves held for emergencies (e.g. oil)

Stamps & currency

Unissued currency and postal supplies — measured at printing/minting cost, never face value

Spare parts

For plant and equipment, other than those covered by IPSAS 45

Consumable & maintenance stores

General stores and maintenance materials

Work-in-progress

Training course materials; chargeable client services such as audits; land/property held for sale

Where government controls the right to create an asset — postal stamps, currency — those items are still recognised as inventory under IPSAS 12, but at their printing or minting cost, never at face value IPSAS 12.13.

3.Measurement: the lower of cost and NRVIPSAS 12.15–17

The general rule is simple: inventories are measured at the lower of cost and net realizable value. Two exceptions sit either side of that rule, depending on how the inventory was acquired and what it will be used for.

Q1.Is net realizable value below cost?

No → carry at costYes → go to Q2

Q2.Is the item held for distribution at no charge or for a nominal charge (or consumed to produce such goods)?

No → use NRV as the carrying amount; write down the differenceYes → carry at the lower of cost and current replacement cost instead of NRV

Acquired through a non-exchange transaction(e.g. donated)?

Initial cost = fair value at the date of acquisition

Worked Example 1

Kenyatta Referral Hospital — drugs near expiry

A national referral hospital holds antibiotics that are close to their expiry date. Demand has fallen and they can only be used at a reduced value.

KES 800,000Cost

KES 620,000Net realizable value

Required:

  1. At what amount are the drugs carried?
  2. Give the journal entry for any write-down.

Solution

NRV (620,000) is below cost (800,000), so the drugs are carried at the lower of the two — KES 620,000. The difference of KES 180,000 is written down through surplus or deficit.

Dr  Write-down expense ............ 180,000
   Cr  Inventory                            180,000

4.Cost of inventories: three componentsIPSAS 12.18–27

The cost of inventories comprises all costs of purchase, costs of conversion, and other costs incurred in bringing the inventories to their present location and condition. Nothing more.

Costs of purchase

Purchase price + import duties and other non-recoverable taxes + transport, handling, and other costs directly attributable to acquisition — less trade discounts, rebates, and similar items

Costs of conversion

Direct labour, plus a systematic allocation of fixed and variable production overheads (based on normal capacity for fixed overheads, and actual usage for variable overheads)

Other costs

Only to the extent they are incurred in bringing inventories to their present location and condition — e.g. non-production overheads attributable to a specific customer’s design requirements

Worked Example 2

KEMSA imports medical supplies

A state corporation imports medical supplies for a national programme. Import duties are not recoverable. VAT charged on the import is recoverable from KRA. A trade discount was negotiated.

ItemKES
Purchase price5,000,000
Import duties (non-recoverable)400,000
VAT (recoverable from KRA)800,000
Transport250,000
Trade discount(300,000)

Required:

  1. Compute the cost of purchase under IPSAS 12.
  2. State which items are excluded and why.

Solution

Recoverable VAT is excluded — it is recoverable from the taxing authority and so never forms part of the cost of inventory. Non-recoverable duties are included, as are transport and handling. The trade discount is deducted.

ComponentKES
Purchase price5,000,000
Import duties (non-recoverable) — included400,000
VAT (recoverable from KRA) — excluded—
Transport and handling250,000
Less: trade discount(300,000)
Cost of purchase5,350,000

Costs you must exclude IPSAS 12.25

These are expensed as incurred and never capitalised into inventory:

  • Abnormal amounts of wasted materials, labour, or other production costs
  • Storage costs, unless those costs are necessary in the production process before a further production stage
  • Administrative overheads that do not contribute to bringing inventories to their present location and condition
  • Selling costs

5.Cost formulas: FIFO and weighted averageIPSAS 12.32–37

Where items are not ordinarily interchangeable — goods or services segregated for a specific project — cost is assigned by specific identification of individual costs. For everything else, an entity uses either FIFO or weighted average, applying the same formula consistently to all inventories of similar nature and use.

First-in, first-out (FIFO)

Assumes the items purchased first are sold first. Items remaining in inventory at the end of the period are those most recently purchased or produced.

Weighted average

The cost of each item is the weighted average of similar items at the start of the period and those purchased or produced during it. May be recalculated periodically or with each shipment received.

Worked Example 3

National Fuel Reserve — strategic stockpile

A strategic reserve agency holds fuel and buys more during the year. Issues are valued using the weighted average cost formula.

10,000 L @ 150Opening

20,000 L @ 165Purchase

12,000 LIssued

Required:

  1. Compute the weighted average cost per litre.
  2. Value the closing stock of 18,000 litres.

Solution

MovementLitresKES
Opening (10,000 @ 150)10,0001,500,000
Purchase (20,000 @ 165)20,0003,300,000
Weighted average = 4,800,000 ÷ 30,000—160 / L
Closing stock (18,000 @ 160)18,0002,880,000

Total value of 4,800,000 over 30,000 litres gives a weighted average rate of KES 160 per litre. The 18,000-litre closing stock is therefore valued at KES 2,880,000.

6.When inventory becomes an expenseIPSAS 12.44–46

The carrying amount of inventory moves to surplus or deficit at one of three trigger points:

Sold or exchanged

Expensed in the period the related revenue is recognised

Distributed free of charge

Expensed as a transfer expense under IPSAS 48

Write-downs and losses

Expensed in the period the write-down or loss occurs; reversals reduce the expense in the period of reversal

Tracking the year’s movement

A typical stores account for a water company over the year, in KES ‘000:

MovementKES ‘000
Opening balance1,200
Purchases+3,500
Issued to expense−3,000
Write-down−200
Closing balance1,500

Worked Example 4

A public university clinic — service provider expense

A public university health unit issues medical supplies from its stores to treat students during the semester.

KES 350,000Cost of supplies issued

Required:

  1. When is the cost recognised as an expense?
  2. Give the journal entry.

Solution

For a service provider, inventory is recognised as an expense when the service is rendered (or upon billing for chargeable services) IPSAS 12.45.

Dr  Consumption of supplies ......... 350,000
   Cr  Inventory                              350,000

7.When to write down to NRVIPSAS 12.38–42

Cost may not be recoverable for one of four reasons:

01 · Damaged

Physical loss of usable value

02 · Wholly or partly obsolete

No longer needed or saleable

03 · Selling prices have declined

Market value has fallen below cost

04 · Costs to complete or sell have risen

Less is recoverable on disposal

Write-downs are made item by item (grouping is only appropriate for similar or related items that cannot practicably be evaluated separately). A new assessment of NRV is made each period — if the circumstances that caused a write-down no longer exist, the write-down is reversed, but only up to the amount of the original write-down, so the new carrying amount never exceeds the lower of cost and the revised NRV.

Worked Example 5

State Department stores — obsolete stationery

A State Department holds pre-printed stationery that is now obsolete after a rebrand. It can only be recycled for a small amount.

KES 500,000Cost

KES 120,000Net realizable value

Required:

  1. Compute the write-down.
  2. Give the journal entry.

Solution

Write-down = Cost (500,000) − NRV (120,000) = KES 380,000, recognised as an expense in the period identified.

Dr  Write-down expense ............ 380,000
   Cr  Inventory                            380,000

8.Disclosure requirementsIPSAS 12.47–50

The financial statements must give users enough information to understand how inventory was measured and how it moved during the period.

DisclosureDetail
Accounting policyThe measurement basis and cost formula used
Carrying amountsTotal, and by classification appropriate to the entity (merchandise, production supplies, materials, work-in-progress, finished goods)
Expense for the periodThe amount of inventory recognised as an expense, including unallocated production overheads and abnormal production costs
Write-downs & reversalsThe amount written down, any reversals, and the circumstances or events that led to a reversal
Pledged inventoryThe carrying amount of inventories pledged as security for liabilities

Where inventory is measured at fair value after initial recognition, additional disclosures under IPSAS 46 apply — measurement techniques and inputs, the fair value hierarchy level, and for Level 3 measurements, a reconciliation of opening to closing balances and sensitivity to unobservable inputs IPSAS 12.50A–50F.

9.Common mistakesIPSAS 12.15–25

Where public sector entities most often go wrong with this standard:

Mistake: Carrying postal stamps or unissued currency at face value.

Reality: These are measured at their printing or minting cost, not at the value printed on them IPSAS 12.13.

Mistake: Capitalising storage, administrative, or selling costs into the cost of inventory.

Reality: These are expensed as incurred — storage only qualifies if it is a necessary step before a further stage of production IPSAS 12.25.

Mistake: Ignoring write-downs on damaged or obsolete stock because “it’s still on the shelf”.

Reality: If NRV has fallen below cost, the write-down is recognised in the period — carrying value above recoverable amount overstates assets IPSAS 12.38–39.

Mistake: Recording donated inventory at zero cost.

Reality: Inventory acquired through a non-exchange transaction is initially measured at its fair value as at the date of acquisition — not at nil IPSAS 12.16, 31.

10.Check your understandingIPSAS 12.15

Drugs cost KES 800,000; NRV is now KES 620,000. At what amount are they carried?

A. KES 800,000 — always at cost

B. KES 620,000 — the lower of cost and NRV

C. KES 710,000 — the average of the two

D. KES 1,420,000 — cost plus NRV

Answer: B. NRV of 620,000 is below cost, so the drugs are carried at 620,000 and the 180,000 difference is written down.