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CFA Level I Exam · Analysis of Inventories

Inventory Write-Downs and Reversals: IFRS vs US GAAP

Updated 7 October 2026 · Fact-checked

An inventory write-down cuts the carrying amount of inventory when its recoverable value falls below cost. IFRS compares cost with net realisable value (NRV). Reversals are required under IFRS, up to original cost, if NRV recovers. US GAAP forbids reversals. Solve by comparing, writing down the shortfall, then checking ratio effects.

Understand Inventory Write-Downs and Reversals

Inventory is carried at the lower of cost and net realisable value under IFRS. If goods become damaged, obsolete or the selling price drops, the cost may no longer be recoverable. You then write the inventory down so the balance sheet does not show an asset worth more than the cash it will bring in.

Net realisable value (NRV) = estimated selling price in the ordinary course of business − estimated costs of completion − estimated costs necessary to make the sale. The write-down is the amount by which cost exceeds NRV, and you assess it item by item or by group of similar items.

US GAAP differs by method. For inventory valued using FIFO or average cost, it uses the lower of cost and net realisable value, the same test as IFRS. For inventory valued using LIFO or the retail inventory method, it uses the lower of cost and market. Market is the middle value of three amounts: replacement cost, the ceiling (NRV) and the floor (NRV less a normal profit margin).

The write-down is an expense. It is usually included in cost of goods sold, so it lowers gross profit, operating profit and net income in the period. If it is shown as a separate line instead, it lowers operating profit and net income but not gross profit. The journal entry is: Dr Loss on inventory write-down (or COGS), Cr Inventory.

Reversals are the key difference. IFRS requires you to reverse a write-down if NRV later rises, but only up to the original cost, so inventory never exceeds cost. The reversal is a credit to COGS (reducing the expense). US GAAP does not allow reversals. The written-down amount becomes the new cost basis.

Ratio effects: a write-down lowers inventory, current assets, working capital and equity. The current ratio also falls, because current assets decrease while current liabilities are unchanged. The effects on turnover, days of inventory and gross margin assume the write-down is recorded in COGS. In that case it raises inventory turnover (COGS up, inventory down), lowers days of inventory on hand, and lowers gross margin. If the write-down is shown separately, COGS and gross margin do not change. A later reversal under IFRS does the opposite and, when credited to COGS, can lift profit in that period.

Key formulas to remember

Net realisable value
NRV = estimated selling price − estimated costs of completion − estimated costs to sell
Used under IFRS, and under US GAAP for FIFO and average cost.
Write-down amount
Write-down = carrying amount (cost) − NRV, if cost > NRV
Zero if NRV is at or above cost. Recognised as an expense.
Journal entry for write-down
Dr COGS (or loss on write-down); Cr Inventory
Reduces assets and net income by the same pre-tax amount.
IFRS reversal limit
Reversal = min(NRV − current carrying amount, original cost − current carrying amount)
Carrying amount can never exceed original cost. Credit to COGS.
US GAAP market (LIFO or retail)
Market = middle value of (replacement cost, NRV ceiling, NRV − normal profit margin floor)
Carry at lower of cost and market. No reversals allowed.
Inventory turnover and days
Turnover = COGS ÷ average inventory; DOH = 365 ÷ turnover
If the write-down is recorded in COGS, it raises turnover and lowers DOH.

How to solve Inventory Write-Downs and Reversals questions

Use this order for any question on write-downs, reversals or their ratio effects.

  1. 1Identify the framework: IFRS or US GAAP, and for US GAAP the cost method (FIFO or average cost versus LIFO or retail).
  2. 2Compute NRV: selling price less costs of completion and costs to sell.
  3. 3Compare cost (or carrying amount) with NRV, or with market for LIFO and retail under US GAAP.
  4. 4If cost is higher, write down the difference: Dr COGS, Cr Inventory. If not, no entry.
  5. 5For a later recovery, apply the framework: IFRS reverses up to original cost; US GAAP does not reverse.
  6. 6Work out the effect on COGS, gross profit, net income and inventory.
  7. 7Check ratio direction, assuming the write-down is recorded in COGS: turnover up, days of inventory down, gross margin down. The current ratio falls because current assets fall with liabilities unchanged. Reverse these for an IFRS reversal.

Quickest way: Three-option elimination for write-down questions

When to use it: Use this when you have about 90 seconds and the question asks for direction of effect or a reversal rule.

  1. Underline the framework word (IFRS or US GAAP). If US GAAP and a reversal is asked, the answer is no reversal.
  2. If IFRS, reversal is allowed but capped at original cost. Eliminate any option above cost.
  3. For numbers: NRV = price − costs, then cost − NRV. Eliminate options that ignore selling costs.
  4. For ratios, if the write-down is recorded in COGS, COGS goes up and inventory goes down, so turnover rises and margin falls.

Common mistakes in Inventory Write-Downs and Reversals

  • Ignoring selling costs when computing NRV

    Students use the selling price as the recoverable amount.

    Fix: Always subtract costs of completion and costs to sell before comparing with cost.

  • Allowing reversals under US GAAP

    Students carry IFRS rules into every question.

    Fix: Tie reversals to IFRS only. Under US GAAP the written-down value is the new cost.

  • Reversing above original cost under IFRS

    Students reverse the full rise in NRV.

    Fix: Cap the reversal so the carrying amount equals original cost at most.

  • Saying turnover falls after a write-down

    Students think lower inventory means less activity.

    Fix: When the write-down is in COGS, COGS rises and average inventory falls, so turnover rises and days of inventory fall.

  • Booking the reversal as revenue or other income

    A gain feels like income.

    Fix: Under IFRS the reversal reduces COGS in the period it occurs.

  • Applying lower of cost and market to FIFO under US GAAP

    Students memorise one US GAAP rule.

    Fix: Lower of cost and NRV applies to FIFO and average cost. Lower of cost and market applies to LIFO and retail.

Worked examples

Example 1

Under IFRS, a company holds 1,000 partly complete units of a product costing $50 each. The expected selling price is $58 per unit, with $6 per unit of costs to complete the units and $4 per unit of selling costs. Which write-down is recognised? A) $2,000 B) $4,000 C) $8,000

Show the solution
  1. The units are partly complete, so completion costs apply as well as selling costs.
  2. NRV per unit = 58 − 6 − 4 = $48.
  3. Cost per unit is $50, which exceeds NRV by $2.
  4. Write-down = 2 × 1,000 = $2,000.
  5. Entry: Dr COGS $2,000; Cr Inventory $2,000.

Answer: A) $2,000

Example 2

At the end of Year 1 an IFRS reporter wrote inventory down from a cost of €100,000 to NRV of €80,000. At the end of Year 2 the same inventory is unsold and its NRV is €110,000. What is the carrying amount at the end of Year 2 under IFRS? A) €80,000 B) €100,000 C) €110,000

Show the solution
  1. IFRS requires a reversal when NRV recovers.
  2. Reversal is capped at original cost: the carrying amount rises from €80,000 to at most €100,000, so the reversal is €20,000, credited to COGS.
  3. IFRS carrying amount = €100,000, not €110,000.
  4. For comparison, US GAAP prohibits reversal, so the carrying amount would stay at €80,000.

Answer: B) €100,000

Exam tips

  • Tie every reversal question to the framework named in the stem. IFRS allows it, US GAAP does not.
  • Check for the cap at original cost in IFRS reversal calculations. It is a common trap option.
  • Know the direction of each ratio. Write-down: current ratio down. If the write-down is in COGS: turnover up, days of inventory down, gross margin down. If it is shown separately, COGS and gross margin do not change.
  • Remember the US GAAP split: NRV for FIFO and average cost, lower of cost and market for LIFO and retail.
  • Options are listed smallest to largest, so after computing, check you did not stop at an intermediate value such as selling price minus cost.

Practice questions from Analysis of Inventories

Inventory Write-Downs and Reversals: frequently asked questions

Can inventory write-downs be reversed under IFRS?

Yes. If NRV later increases, IAS 2 requires you to reverse the write-down. The reversal is limited so that the carrying amount does not exceed the original cost, and it is recognised as a reduction in COGS.

Why does US GAAP not allow reversals?

US GAAP treats the written-down amount as the new cost basis of the inventory. Later recovery in value is therefore not recognised until the goods are sold.

How does a write-down affect financial ratios?

It lowers inventory, current assets, working capital and equity, and the current ratio falls. If the write-down is recorded in COGS, COGS rises, so gross margin falls while inventory turnover rises and days of inventory on hand fall. If it is shown as a separate line, COGS and gross margin do not change.

What is the journal entry for a write-down to NRV?

Debit COGS (or a loss on inventory write-down) and credit Inventory for the excess of cost over NRV. A reversal under IFRS debits Inventory and credits COGS.