How much do you know about the FASB Update 2015-11?

How much do you know about the FASB Update 2015-11?

In July of 2015, the Financial Accounting Standards Board (FASB) issued Update 2015-11 Inventory (Topic 330), which will amend guidance within Topic 330.  If you are currently valuing your inventory using a method other than Last-in, First-out, (LIFO) or the retail inventory method, you need to make sure you are aware of this update to implement and follow it. This standard was written as part of FASB’s Simplification Initiative and should hopefully simplify your valuation of inventory approach. What this update does is change the approach to value inventory from a lower of cost or market test, to a lower of cost and net realizable value approach. The following is further information on what you need to be aware of and consider when implementing this update.

 

If you are currently following the FIFO, average cost, or any other method not listed above, the standards require the inventory to be measured at LCM (lower of cost or market). Topic 330 indicates that the term market value is the current replacement cost, which does not exceed the net realizable value and is not lower than the net realizable value reduced by an allowance for a normal profit margin.  Currently, what this translates to is that you are looking at three different potential values of inventory to come up with the value of inventory at valuation date.   The FASB received feedback which encouraged them to take a look at the guidance under Topic 330 and eliminate the more complex guidance and that is what the FASB updated 2015-11 is doing.

 

Under the FASB 2015-11 Update if you use the FIFO or average cost method you will follow the approach of lower of cost or market and net realizable value. The update has amended the valuation to no longer look at cost value and the three different potential value points within the market valuation, but rather to look at the net realizable value of the inventory. The updated standard indicates that the net realizable value is the “estimated selling prices in the ordinary course of business, less reasonably predictable costs of completion, disposal and transpiration.” With the amendment, you no longer have to gather information to perform three different calculations. Now, you are required to just look at what the cost was and what the net realizable value is.  As stated above, the FASB wanted to simplify their guidance and they have.

 

FASB has stated that the updated 2015-11 now brings the valuing of inventory under GAAP to be more in-line with International Financial Reporting Standards.  Under International Accounting Standards (IAS) 2 Inventories, guidance is given that states inventories should be measured at the lower of cost and net realizable value which means, the update from FASB is now in alignment with IAS 2.  Since we are talking about international standards, it is important to point out that while this update does bring GAAP more into alignment with IFRS, there is still some difference. One big difference is that IFRS does not recognize LIFO as an allowable method to derive the cost allocation. IFRS only recognizes that FIFO and weight-average cost as acceptable accounting methods.

 

If your inventory is valued within the scope of this guidance, you will want to begin to implement it. In order to do so, you will have to start by considering the difference between the cost and the NRV of the inventory at the valuation date.  Again, this will be simpler because you are only looking at two calculations instead of three.  If the net realizable value is less than the costs of the inventory, the guidance in the standard is to recognize the difference as a current period loss in earnings. When you implement this guidance you will also have to make sure that you disclose, in the notes, the change in accounting principle. No other additional note disclosures are required with this amendment. This amendment also should be applied prospectively after the date of adoption.

This amendment is effective for public entities for fiscal years beginning after December 15, 2016, including interim periods within those fiscal years.  For all other entities, it is effective for fiscal years beginning after December 15, 2016, and interim periods within fiscal years beginning after December 15, 2017.  The amendment should be applied prospectively with early application permitted.

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McLean, Koehler, Sparks & Hammond (MKS&H) is a professional service firm with offices in Hunt Valley and Frederick. MKS&H helps owners and organizational leaders become more successful by putting complex financial data into truly meaningful context. But deeper than dollars and data, our focus is on developing an understanding of you, your culture and your business goals. This approach enables our clients to achieve their greatest potential.

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