At the end of Year 1, a company writes an inventory item down below cost to reflect a decline in selling price. During Year 2, before the item is sold, market conditions reverse and its selling price recovers well above the Year 1 write-down level. Under IAS 2, and separately under US GAAP inventory guidance, how is this recovery treated?
- Neither framework permits any upward adjustment once inventory has been written down
- IAS 2 requires the write-down to be reversed, limited to the amount of the original write-down, while US GAAP prohibits reversing a write-down once recognized
- US GAAP requires the write-down to be reversed in full, while IAS 2 prohibits any reversal
- Both frameworks require the write-down to be reversed up to the full amount of the price recovery, with no ceiling
Why B? And why not the others?
Correct answer: B. IAS 2 requires the write-down to be reversed, limited to the amount of the original write-down, while US GAAP prohibits reversing a write-down once recognized
IAS 2 requires a previously recognized inventory write-down to be reversed when the circumstances that caused it no longer exist or when net realizable value has clearly increased, but the reversal is capped at the amount of the original write-down so the new carrying amount never exceeds the item's original cost. US GAAP inventory guidance, once a write-down establishes a new, lower cost basis, does not permit that basis to be written back up even if the item's market value later recovers. The option claiming neither framework allows any adjustment is wrong because IAS 2 explicitly mandates a capped reversal in these circumstances. The option reversing the frameworks' positions is wrong because it attributes the mandatory-reversal treatment to US GAAP and the no-reversal treatment to IAS 2, which is the opposite of each standard's actual rule. The option allowing an uncapped reversal under both frameworks is wrong because IAS 2's reversal is explicitly limited to the original write-down amount, and US GAAP does not permit any reversal at all, capped or otherwise.
Source: IFRS Foundation, IAS 2 Inventories, paragraphs 33-34 (reversal of write-down); FASB Accounting Standards Codification ASC 330-10-35 (subsequent measurement of inventory, no write-up after write-down)