INVENTORIES AND REVENUE FROM CONTRACTS WITH CUSTOMERS: COMPLETE GUIDE TO IAS 2 AND IFRS 15
Inventory and revenue are two sides of the same coin. One represents the goods you have on hand waiting to be sold. The other represents the income you earn when those goods finally reach your customers. Getting both right is essential for accurate financial reporting and informed decision-making.
Get this wrong, and your financial statements will be misleading. You may overstate or understate assets, misrepresent profitability, and face regulatory scrutiny. Get it right, and you provide a clear, transparent picture of your business performance, building trust with investors and stakeholders. This guide breaks down everything: the definition of inventories, measurement and cost formulas under IAS 2, and the five-step model for revenue recognition under IFRS 15. Let us get into it.
The Pain Points: Why Businesses Struggle with Inventory and Revenue Accounting
The Cost Allocation Challenge
One of the biggest challenges businesses face is determining the cost of inventory. The cost includes all costs of purchase, costs of conversion (direct labour and production overhead), and other costs incurred in bringing the inventories to their present location and condition. But allocating these costs to individual units of inventory is not always straightforward.
Should you use the first-in, first-out (FIFO) method or the weighted average cost formula? The choice affects both the balance sheet and the income statement. Under IAS 2, the same cost formula must be used for all inventories with similar characteristics. Businesses with different types of inventory may need to use different formulas, adding complexity.
The Net Realisable Value Trap
Inventory must be measured at the lower of cost and net realisable value (NRV). NRV is the estimated selling price in the ordinary course of business less the estimated costs of completion and the estimated costs necessary to make the sale. Estimating NRV requires judgment. What if the market price drops? What if the inventory becomes obsolete? What if the costs of selling increase? Making the wrong estimate can lead to significant write-downs or the failure to recognise losses that should have been taken.
The Revenue Recognition Maze
IFRS 15 introduced a comprehensive framework for revenue recognition that replaced multiple previous standards. The five-step model requires entities to identify contracts, identify performance obligations, determine the transaction price, allocate the transaction price, and recognise revenue when performance obligations are satisfied.
For businesses with complex contracts, multiple performance obligations, or variable consideration, applying the five-step model can be a significant challenge. Determining whether a good or service is distinct, estimating variable consideration, and allocating the transaction price all require significant judgment.
The Timing Mismatch
Revenue should be recognised when control of goods or services transfers to the customer. But determining exactly when control transfers is not always straightforward. Is it when the goods are shipped? When they are delivered? When the customer accepts them? The timing of revenue recognition can have a significant impact on reported profits and trends.
The Cost of Getting It Wrong
A manufacturing company in Lagos incorrectly capitalised production overheads that should have been expensed. The error inflated inventory and profits. The error was identified during an audit. The company had to restate its financial statements, which caused a drop in its share price and damaged investor confidence. The cost of getting it wrong was significant. Another company in Abuja correctly applied IAS 2 and IFRS 15, providing transparent financial statements that helped attract investment. The difference was clear.
Part 1: Inventories Under IAS 2
What Are Inventories?
IAS 2 defines inventories as assets held for sale in the ordinary course of business, assets in the process of production for such sale, and materials or supplies to be consumed in the production process or in the rendering of services. This definition covers raw materials, work in progress, finished goods, and goods held for resale.
Scope and Exclusions
IAS 2 applies to all inventories, except for financial instruments, biological assets related to agricultural activity, and agricultural produce at the point of harvest. The standard also does not apply to the measurement of inventories held by producers of agricultural and forest products, agricultural produce after harvest, and minerals and mineral products to the extent that they are measured at net realisable value in accordance with well-established practices in those industries.
Interestingly, the IFRS Interpretations Committee concluded that IAS 2 applies to cryptocurrencies when they are held for sale in the ordinary course of business. If IAS 2 does not apply, an entity applies IAS 38 to holdings of cryptocurrencies.
Measurement of Inventories
Inventories are measured at the lower of cost and net realisable value. This is a fundamental principle of IAS 2.
Cost of Inventories
The cost of inventories includes all costs of purchase, costs of conversion (direct labour and production overhead), and other costs incurred in bringing the inventories to their present location and condition.
Cost of Purchase: The purchase price plus import duties and other taxes (other than those subsequently recoverable from the taxing authorities), transport, handling, and other costs directly attributable to the acquisition of finished goods, materials, and services. Trade discounts, rebates, and other similar items are deducted in determining the costs of purchase.
Costs of Conversion: Costs directly related to the units of production, such as direct labour. It also includes a systematic allocation of fixed and variable production overheads that are incurred in converting materials into finished goods. Fixed production overheads are those indirect costs of production that remain relatively constant regardless of the volume of production, such as depreciation and maintenance of factory buildings and equipment, and the cost of factory management and administration. Variable production overheads are those indirect costs of production that vary directly, or nearly directly, with the volume of production, such as indirect materials and indirect labour.
Other Costs: Other costs are included in the cost of inventories only to the extent that they are incurred in bringing the inventories to their present location and condition.
Cost Formulas
IAS 2 provides guidance on the cost formulas used to assign costs to inventories. The cost of inventories is assigned by specific identification of cost for items of inventory that are not ordinarily interchangeable. For items that are ordinarily interchangeable (generally large quantities of individually insignificant items), the first-in, first-out (FIFO) or weighted average cost formula is used.
Specific Identification: This method applies to items that are not ordinarily interchangeable. It requires the actual cost of each specific item to be identified and assigned to that item.
First-In, First-Out (FIFO): This method assumes that the items of inventory that were purchased or produced first are sold first, and consequently the items remaining in inventory at the end of the period are those most recently purchased or produced.
Weighted Average Cost: This method calculates the average cost of all similar items in inventory at the beginning of the period and those purchased or produced during the period.
Net Realisable Value
Net realisable value is the estimated selling price in the ordinary course of business less the estimated costs of completion and the estimated costs necessary to make the sale. Inventories are written down to NRV when the cost of inventories is not expected to be recovered. The write-down is recognised as an expense in the period in which it occurs.
Recognition as an Expense
When inventories are sold, the carrying amount of those inventories is recognised as an expense in the period in which the related revenue is recognised. The amount of any write-down of inventories to net realisable value and all losses of inventories are recognised as an expense in the period the write-down or loss occurs.
Part 2: Revenue Recognition Under IFRS 15
The Core Principle
The core principle of IFRS 15 is that an entity shall recognise revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. The standard achieves this through a five-step model.
Step 1: Identify the Contract with a Customer
A contract is an agreement between two or more parties that creates enforceable rights and obligations. Contracts may be in different forms (written, verbal, or implied) but must be enforceable, have commercial substance, and be approved by the parties to the contract. The model applies once the payment terms for the goods or services are identified and it is probable that the entity will collect the consideration.
Step 2: Identify the Performance Obligations
A performance obligation is a promise in a contract to transfer to a customer a good or service that is distinct. Contracts can have more than one performance obligation, and each one must be identified separately. This is sometimes referred to as “unbundling” and is done at the beginning of a contract.
A good or service is distinct if the customer can benefit from the good or service on its own or together with other readily available resources, and it is separately identifiable from other elements of the contract.
Step 3: Determine the Transaction Price
The transaction price is the amount of consideration to which an entity expects to be entitled in exchange for transferring promised goods or services to a customer. This amount excludes amounts collected on behalf of a third party, such as government taxes.
The transaction price may include variable or contingent consideration. Variable consideration should be estimated as either the expected value or the most likely amount. An entity can only include variable consideration in the transaction price to the extent that it is highly probable that a subsequent change in the estimated variable consideration will not result in a significant revenue reversal.
Step 4: Allocate the Transaction Price
The transaction price is allocated to each performance obligation on the basis of the relative stand-alone selling prices of each distinct good or service promised in the contract. This allocation ensures that revenue is recognised in proportion to the value of each performance obligation.
Step 5: Recognise Revenue When Performance Obligations Are Satisfied
Revenue is recognised when a performance obligation is satisfied by transferring a promised good or service to a customer (which is when the customer obtains control of that good or service). A performance obligation may be satisfied at a point in time (typically for promises to transfer goods to a customer) or over time (typically for promises to transfer services to a customer).
For a performance obligation satisfied over time, an entity selects an appropriate measure of progress to determine how much revenue should be recognised as the performance obligation is satisfied. Methods include output methods (surveys of performance, appraisals of results achieved, milestones reached, time elapsed, units produced or delivered) and input methods (resources consumed, labour hours expended, costs incurred, time elapsed or machine hours used).
The Critical Interaction Between IAS 2 and IFRS 15
A critical interaction exists between IAS 2 and IFRS 15. IFRS 15 determines when revenue is recognised, and IAS 2 follows to determine when the related costs should be recognised as an expense.
Practical Example:
A company sells furniture and delivers goods worth N60 million to a customer in December 2025, with a cost of N40 million. However, the contract specifies that the customer will only take ownership after installation in January 2026.
Step 1: Apply IFRS 15
Under IFRS 15, revenue is recognised only when control transfers. Since the customer cannot use the goods yet, installation is a significant part of the contract, and ownership hasn’t passed, control has not transferred. No revenue is recognised in 2025.
Step 2: Apply IAS 2
Under IAS 2, inventory remains inventory until it is sold. “Sold” means control has passed under IFRS 15. Therefore, in 2025, the inventory remains on the books at N40 million.
Step 3: In January 2026
Installation is completed and the customer accepts the goods. Control has now transferred. Under IFRS 15, revenue of N60 million is recognised. Under IAS 2, the cost of goods sold of N40 million is recognised. The profit is N20 million.
Conclusion: Inventory does not become an expense (cost of goods sold) until revenue is recognised. IFRS 15 controls the timing of revenue while IAS 2 follows and determines when costs are released.
How Qeeva Advisory Helps You Navigate Inventory and Revenue Accounting
We understand that inventory and revenue accounting can be complex. Many businesses struggle with cost allocation, net realisable value estimation, and the five-step revenue recognition model. Our professionals specialise in financial reporting, auditing, and advisory services.
Our Advisory Services Nigeria help you understand the complexities of IAS 2 and IFRS 15. We assist with inventory valuation, cost formula selection, revenue recognition, and disclosure requirements.
Our Financial Advisory services help you structure contracts and transactions to optimise revenue recognition and inventory management.
Our Bookkeeping Services ensure your financial records are accurate and complete, supporting your inventory and revenue accounting.
Our Risk Management services help you identify and manage risks associated with inventory and revenue accounting, including valuation risk and fraud risk.
Our Internal Control Services help you strengthen internal controls over inventory and revenue, including purchase, production, sales, and collection processes.
Our Tax Strategies and Planning services help you understand the tax implications of inventory and revenue recognition, ensuring compliance with tax laws.
Our Management Consulting services help you redesign your processes and systems to improve inventory management and revenue tracking.
And because accurate records are the foundation of compliance, our Bookkeeping Services ensure your financial data is accurate and complete, supporting your IAS 2 and IFRS 15 compliance.
Our Service Methodology
We do not do generic. We do thorough, transparent, and actionable.
Step 1: Inventory Accounting Review
We review your inventory accounting policies, cost formulas, and valuation methods. We identify gaps, risks, and opportunities for improvement. This step draws on our Advisory Services Nigeria expertise and our Bookkeeping Services to ensure your records are accurate and complete.
Step 2: Revenue Recognition Review
We review your revenue recognition policies and practices. We assess compliance with IFRS 15, including identification of contracts, performance obligations, transaction price, and timing of revenue recognition. Our Financial Advisory team ensures your revenue recognition is robust and compliant.
Step 3: System and Control Development
We help you develop systems and controls for inventory and revenue accounting. We help you implement robust processes for tracking inventory costs, estimating NRV, and recognising revenue. Our Internal Control Services team ensures your controls are effective.
Step 4: Training and Support
We provide training and support to your finance team on IAS 2 and IFRS 15. We help you build the skills and knowledge needed for compliance. Our Management Consulting team ensures your team is equipped for the future.
Step 5: Ongoing Monitoring and Support
Inventory and revenue accounting are not one-time exercises. We help you monitor changes in the standards, update your policies, and stay current with regulatory developments. We provide ongoing support through our Advisory Services Nigeria , Risk Management , and Tax Strategies and Planning services.
Frequently Asked Questions
Q: What is the difference between IAS 2 and IFRS 15?
A: IAS 2 deals with inventories—how to value them, when to write them down, and how to recognise their cost as an expense. IFRS 15 deals with revenue—how to recognise it, when to recognise it, and how much to recognise.
Q: What is the lower of cost and net realisable value rule?
A: Inventories must be measured at the lower of cost and net realisable value. This means that if the cost of inventory exceeds its net realisable value, the inventory must be written down to its net realisable value.
Q: What are the cost formulas under IAS 2?
A: The cost formulas are specific identification, first-in, first-out (FIFO), and weighted average cost.
Q: What is the five-step model under IFRS 15?
A: The five steps are: identify the contract, identify the performance obligations, determine the transaction price, allocate the transaction price, and recognise revenue when performance obligations are satisfied.
Q: When is revenue recognised under IFRS 15?
A: Revenue is recognised when a performance obligation is satisfied by transferring a promised good or service to a customer (which is when the customer obtains control of that good or service).
Q: How do IAS 2 and IFRS 15 interact?
A: IFRS 15 determines when revenue is recognised, and IAS 2 follows to determine when the related costs should be recognised as an expense. Inventory does not become cost of goods sold until revenue is recognised.
Q: How can Qeeva Advisory help with inventory and revenue accounting?
A: We provide inventory accounting review, revenue recognition review, system and control development, training and support, and ongoing monitoring to help businesses navigate inventory and revenue accounting.
The Bottom Line
Inventory and revenue are two sides of the same coin. Understanding how to account for them under IAS 2 and IFRS 15 is essential for accurate financial reporting and informed decision-making.
The key is to understand the core principles. Inventories are measured at the lower of cost and net realisable value. Cost includes all costs of purchase, conversion, and other costs incurred in bringing the inventories to their present location and condition. The cost formulas are specific identification, FIFO, and weighted average cost. Revenue is recognised using a five-step model: identify the contract, identify the performance obligations, determine the transaction price, allocate the transaction price, and recognise revenue when performance obligations are satisfied.
The critical interaction between IAS 2 and IFRS 15 is that IFRS 15 controls the timing of revenue recognition, and IAS 2 follows to determine when the related costs are released. Inventory does not become cost of goods sold until revenue is recognised.
Your job is to be prepared. Understand the core principles. Choose the appropriate cost formula. Estimate NRV carefully. Apply the five-step model correctly. Seek professional guidance.
With the right approach and the right partner, you can turn inventory and revenue accounting from a compliance burden into a clear, transparent measure of your business performance.
The choice is yours.
Suggested Reading from Our Blog
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Earnings Per Share (IAS 33) – Understand the calculation of basic and diluted EPS.
Current Developments in Management Accounting – Explore how technology is transforming finance and accounting practices.
Related Services
Our Advisory Services Nigeria are staffed by professionals specialising in financial reporting, auditing, and advisory services.
Our Financial Advisory services help you structure contracts and transactions to optimise revenue recognition and inventory management.
Our Bookkeeping Services ensure your financial records are accurate and complete.
Our Risk Management services help you identify and manage risks associated with inventory and revenue accounting.
Our Internal Control Services help you strengthen internal controls over inventory and revenue.
Our Tax Strategies and Planning services help you understand the tax implications of inventory and revenue recognition.
Our Management Consulting services help you redesign your processes and systems to improve inventory management and revenue tracking.
Let’s Talk About Your Inventory and Revenue Accounting
Navigating inventory and revenue accounting can feel complex. At Qeeva Advisory, we understand the challenges businesses face in accounting for inventories under IAS 2 and revenue under IFRS 15.
Whether you need help with inventory valuation, cost formula selection, revenue recognition, or disclosure requirements, we are here to support you.
📞 Call us: (+234) 802 320 0801, (+234) 807 576 5799
📧 Email: info@qeeva.com
📍 Visit us: 5, Ishola Bello Close, Off Iyalla Street, Alausa, Ikeja, Lagos, Nigeria
Contact us today to schedule a consultation. Let us help you navigate inventory and revenue accounting with confidence.
Your journey to better financial reporting starts with a conversation. Let’s talk.
Reference Links / Sources
IFRS Foundation – IAS 2 Inventories (Overview)
IFRS Foundation – IAS 2 Inventories (Full Standard)
IFRS Foundation – IFRS 15 Revenue from Contracts with Customers (Overview)
IFRS Foundation – IFRS 15 Revenue from Contracts with Customers (Full Standard)
ACCA – Revenue Revisited: IFRS 15 Technical Article
