Question

Describe the net realizable value rule and when firms can use it.

Answer 1

Please find below answer:

Net realizable value is the value of assets that can be realized upon the sale of asset, less a reasonable estimate of the cost associated with the eventual sale of disposal of the assets.

It is mostly commonly used to evaluate an asset's value for inventory accounting. It is used in both GAAP and IFRS.

Net realizable value is a conservative method of valuing assets because it estimates the true amount the seller would receive net of costs if the assets were to be sold. NRV is used for both account recevaible and inventory.

For below asset class a firm can used NRV

1. Inventory: Company's now must record inventory at lower of cost or net realizable value.

Example: suppose a company’s has inventory which has a cost of USD 15000 at the end of accounting yea and which can be sold for USD 14000 after it spends $ 2000 on packaging, sales commission and shipping therefor NRV is USD 12000.

In the above situation inventory must be reported at lower of cost USD 15000 or NRV of USD 12000 which is at USD 12000.

In balance sheet inventory must be reported at USD 12000 and the income statement must report a loss USD 3000 due to write down of inventory.

2.Account Receivable: It has a debit balance of USD 100,00 and the allowance for doubtful accounts has a proper credit balance of USD 8000, the resulting net realizable value of the accounts receivable is USD 92000. Adjustment to account receivable are reported to the income statement as bad debts expenses.