NRV testing for inventory

NRV stands for Net realizable value. This value is calculated by deducting all the selling and other relevant costs to execute the sales, such as the cost of marketing or modification from sales price.

In simple words, the expense required to execute the sell is deducted from estimated selling price to reach NRV.

NRV testing

NRV testing states, “The inventory needs to be recorded at lower cost and NRV,” which is as per the IAS-2 requirement.

Cost = the economic benefits incurred to produce/purchase the goods.

NRV = NRV means the net economic benefits that will be realized when the product is sold. This value is calculated by deducting the estimated selling cost from the estimated sales price. This can be given as below.

NRV = Estimated selling price – (modification cost + marketing cost + other selling cost)

Is NRV testing in line with the prudence concept of accounting?

Yes, NRV states that the inventory should be valued at the lower of Net Realizable value or cost. Choosing a lower value for the valuation reflects NRV and is in line with the prudence concept of accounting.

Example of applying NRV in the inventory valuation

Consider product A, which was purchased for $1200 back in 2022. The business has been unable to sell the item for the last few years. To assess the inventory valuation, the business needs to apply NRV testing. As part of the testing, the business estimates the selling price will be $1300. However, they’ll incur $100 for modification and $100 for marketing the product.

So, the total cost is $1200, and NRV can be calculated by following the formula,

NRV = Estimated selling price – (modification cost + marketing cost + other selling cost)

NRV = $1300 – ($100+$100)

NRV = $1300 – $200

NRV = $1100

So, the NRV is $1100, and the total original cost is $1200. As per the NRV rule, we have to value inventory at the lower of cost and NRV. In this example, the NRV of $1100 is lower than the cost of $1200. Hence, inventory is valued at $1100.

Conclusion

NRV testing stands for net realizable value testing. As per IAS-2, the inventory should be valued at a lower cost and NRV.

Cost means the economic benefits paid to acquire or produce the asset. This value can be copied from the purchase invoice or the production cost card.

On the other hand, NRV refers to estimated economic benefits that will be realized/received when the product is sold. As per IAS-2, the business needs to value inventory at a lower cost than NRV, which is in line with the prudence concept of accounting.