Monday, September 15, 2008

IAS 2 Inventories, How and When to Determine the Ownership of Goods

Inventory can only be an asset of the reporting entity if it is an economic resource of the entity at the date of the statement of financial position.

In general, an enterprise should record purchases and sales of inventory when legal title passes. Although strict adherence to this rule may not appear to be important in daily transactions, a proper inventory cut off at the end of an accounting period is crucial for the correct determination of periodic results of operations. Thus, for accounting purposes, to obtain an accurate measurement of inventory quantity and corresponding monetary representation of inventory and cost of goods sold in the financial statements, it is necessary to determine when title has passed.

The most common error made in this regard is to assume that title is synonymous with possession of goods on hand. This may be incorrect in two ways: (1) the goods on hand may not be owned, and (2) goods that are not on hand may be owned.

There are four matters that may cause confusion about proper ownership: (1) goods in transit, (2) consignment sales, (3) product financing arrangements, and (4) sales made with the buyer having generous or unusual right of return.

Good in transit. At year end, any goods in transit from seller to buyer may properly be includable in one, and only one, of those parties’ inventories, based on the terms and conditions of the sale.

Under traditional legal and accounting interpretation, goods are included in the inventory of the firm financially responsible for transportation costs. This responsibility may be indicated by shipping terms such as FOB, which is used in overland shipping contracts, and by FAS, CIF, C&F and ex-ship, which are used in maritime contracts.

The term FOB stands for “free on board”. If goods are shipped FOB destination, transportation costs are paid by the seller and title does not pass until the carrier delivers the goods to the buyer; thus these goods are part of the seller’s inventory while in transit.

If goods are shipped FOB shipping point, transportation costs are paid by the buyer and title passes when the carrier takes possession; thus these goods are part of the buyer’s inventory while in transit.

The terms FOB destination and FOB shipping point often indicate a specific location at which title to the goods is transferred, such as FOB Milan. This means that the seller retains title and risk of loss until the goods are delivered to a common carrier in Milan who will act as an agent for the buyer.

A seller who ships FAS (free alongside) must bear all expense and risk involved in delivering the goods to the dock next to (alongside) the vessel on which they are to be shipped. The buyers bears the cost of loading and of shipment; thus title passes when the carrier takes possession of the goods.

In a CIF (cost, insurance and freight) contract the buyer agrees to pay in a lump sum the cost of the goods, insurance costs, and freight charges.

In a C&F contract, the buyer promises to pay a lump sum that includes the cost of the goods and all freight charges.

In either case, the seller must deliver the goods to the carrier and pay the costs of loading; thus both title and risk of loss pass to the buyer upon delivery of the goods to the carrier.

A seller who delivers goods ex-ship bears all expense and risk until the goods are unloaded, at which time both title and risk of loss pass to the buyer.

Consignment sales. There are specifically defined situations where the party holding the goods is doing so as an agent for the true owner.

In consignments, the consignor (seller) ships goods to the consignee (buyer), which acts as the agent of the consignor in trying to sell the goods.

In some consignments, the consignee receives a commission; in other arrangements, the consignee “purchases” the goods simultaneously with the sale of goods to the final customer.

Goods out on consignment are properly included in the inventory of the consignor and excluded from the inventory of the consignee.

Disclosure may be required of the consignee, however, since common financial analytical inferences, such as days’ sales in inventory or inventory turnover, may appear distorted unless the financial statement users are informed. However, IFRS does not explicitly address this (to be continued).

Source of this article : WILEY - IFRS 2008 Interpretation and Application of IFRS


  1. Does transportation costs arising from goods in-transit from head office to branch, for example, form part of cost of inventories or is it just recognized as an expense in the period in which it is in incurred?

  2. In my opinion, transportation costs arising from goods in transit from head office to branch is not part of the purchase (acquisition) costs of Inventory. So, it has to be recorded as an expense in the period in which it is incurred.

  3. Can consigned inventory held for sale be treated as a depreciable fixed asset on the consignor's books?

  4. I think we can't treat inventory as depreciable fixed assets. We acquire or produce an inventory with the purpose to sell them out, while fixed assets were acquired to use.

  5. Good article. However, normally there's no practice to keep goods in transit as current asset. As per industry practices they record sales at the time of shipment.

  6. Hello, is it possible the car use of employees (eg company's car) can be classify as inventory in automotive nature of business?

    Thank you