Inventories invariably form a significant part of the assets on the balance sheet for a board game publishing company. A look at the profit and loss statement for most companies shows that “costs of goods sold” is typically presented after revenue or sales and is a direct cost for the production of goods or services. Gross profit is a simple mathematical equation of revenue less cost of goods sold.
As mentioned previously in the blog “5 Revenue Recognition Scenarios for Board Games Publishing Company”, companies incorporated in Singapore are obligated to comply with the Companies Act and adopt Singapore Financial Reporting Standards (“SFRS”), broadly similar to International Financial Reporting Standards.
The applicable SFRS in this case is FRS2 Inventories. Paragraph 6 stipulates that Inventories are assets:
(a) Held for sales in the ordinary course of business;
(b) In the process of production for such sale or
(c) In the form of materials or supplies to be consumed in the production process or in the rendering of services
If a board game publishing company is manufacturing its own board games, then (a) to (c) are applicable. Otherwise, only (a) is appropriate and refers to board game sets held in the ordinary course of business, before any sale to customers.
Under paragraph 9, inventories shall be measured the lower of cost and net realisable value. The definition of cost is provided in paragraph 10 and “shall comprise all costs of purchase, costs of conversion and other costs incurred in bringing the inventories to their present location and condition.” In layman terms, to summarise, this simply means the cost of manufacturing including applicable duties or taxes and less discounts, if any. Net realisable value is basically the amounts expected to be realised from the sale of the inventories or their use. The rationale behind the measurement of inventories at a lower of cost or net realisable value is that in the event if the inventories become obsolete such that the costs may not be recoverable, it will be prudent to write down the value to a lower amount recoverable, i.e. the net realisable value. This assessment should be done in each reporting period. A stock take is usually conducted at the end of a reporting period and any difference is accounted for accordingly.
When the inventories are sold and performance obligations are fulfilled such that revenue can be recognised, the corresponding cost of the goods sold should be recognised as an expense in the same period. The carrying amount of the inventories will be reduced by the same amount. This is in line with the matching principle for accounting.
Ideally, specific costing should be applied to the goods. However, this makes sense for unique goods and a board game company that may manufacture or order hundreds or thousands of sets, this costing method is not practical.
There are 3 alternative inventory costing methods available. Using a simple example of 2 identical units of goods manufactured at cost prices of $10 and $20 respectively in periods 20x1 and 20x2 to illustrate the differences in the 3 methods as follows:
(a) First-in, first-out (FIFO) – the first unit sold will be recorded with a cost of $10 in the profit and loss statement while the second unit sold at a cost of $20.
(b) Weighted average – the average cost of each unit is $15 (being [$10 + $20]/2) and this will be the cost recorded for each unit sold.
(c) Last-in, first out (LIFO) – the first unit sold will be recorded at a cost of $20 while the next unit sold at $10. This is however not explicitly provided for in the FRS and hence, should not be used.
Once the measurement or costing method is chosen, this has to be adhered to and applied consistently. Should there be a need for a change in the measurement or costing method, documentation or justification is required. To analyse or utilise the balance sheet or the profit and loss statement meaningfully, it is important to look beyond the numbers and comprehend the underlying accounting principles at work, including the recognition criteria and costing methods. Once again, complying with the relevant FRSs will prevent any potential breach of the regulations.
The above is strictly for information purposes only and does not constitute any accounting or technical advice. Any opinion is made on a general basis. A professional accountant or auditor or lawyer should be engaged for accounting advice on specific contracts or scenarios.
