Inventory at Net Realizable Value: When Can It Exceed Cost?

Inventory at net realizable value (NRV) is reported at estimated selling price minus the costs to complete, sell, and deliver it. Under U.S. generally accepted accounting principles (GAAP), NRV is normally a ceiling, through the lower of cost or NRV rule. Harvested crops and livestock held for sale can be reported at NRV, even above cost, if three conditions hold.

The three conditions are a reliable market price the producer can actually obtain, small and predictable disposal costs (selling and delivery costs), and a product that is ready for immediate delivery. The Financial Accounting Standards Board (FASB) sets them out in Accounting Standards Codification (ASC) 905-330-35-3 through 35-4. Ordinary merchandise on a store shelf does not qualify, so it stays at cost or lower.

The distinction affects when earnings appear. Imagine two businesses that could each collect $13,260 by selling goods today. One may already report that amount as inventory. The other may have to wait until it sells the goods to recognize the margin.

Key takeaways

• NRV is estimated selling price minus the costs to complete, sell, and deliver.
• Most inventory follows the lower of cost or NRV rule, so it is never reported above cost.
• Harvested crops and livestock held for sale can be reported at NRV, even above cost, only when all three conditions are met.
• The three conditions are a reliable and obtainable market price, small and predictable disposal costs, and immediate delivery.
• If any one condition fails, go back to the ordinary rule.

What does inventory at net realizable value mean?

Net realizable value is the cash a business expects to keep from selling its inventory. The FASB Codification defines it as the estimated selling price in the ordinary course of business, minus reasonably predictable costs to complete, sell, and transport the goods.

NRV = estimated selling price minus costs to complete, sell, and transport

Here is a quick example. Goods should sell for $1,000. They still need $80 of finishing work and $40 of delivery. NRV is $880.

U.S. GAAP uses NRV in two very different ways.

The video below covers the first column. The rest of this guide covers the second, because that is where students get surprised.

Video: The lower of cost or NRV rule

In this video, Professor Farhat walks through the lower of cost or NRV rule, the everyday rule for most inventory. Watch it first if that rule is new to you, then come back for the producer exception below.

Watch Lower of Cost or Net Realizable Value Rule on YouTube

When can a producer measure inventory at net realizable value?

Start with two questions. What is the product, and who is holding it? A grower’s harvested grain and an animal ready for sale can qualify for the agricultural guidance. An unfinished crop, an animal still being raised, and merchandise on a supermarket shelf each present a different fact pattern. A price quote alone tells you little about which rule applies.

Think of these as questions about the actual lot on the reporting date. A premium quote for a few bags of one grade does little to establish what a producer could collect on a truckload of a different grade. A crop that still needs substantial drying may have both a delivery problem and a cost-estimation problem.

The FASB describes this option in its agricultural inventory guidance. See ASC 905-330-35-3 through 35-4 and FASB Accounting Standards Update 2015-11, which amended this guidance in 2015. Paragraph 35-3 lists the three conditions for animals held for sale. Paragraph 35-4 applies the same conditions to harvested crops.

A harvested grain example

Suppose Cedar Field Farm has 2,400 bushels of harvested, graded wheat. The local elevator will accept the entire shipment today at $5.60 per bushel. Cedar Field will pay a predictable delivery charge of $0.075 per bushel. No further processing is required. The crop cost $11,400 to produce, and the farm consistently uses the permitted NRV basis for qualifying harvested crops.

The farm reports $13,260 of inventory, or $5.525 per bushel before rounding. The $1,860 excess over cost ($13,260 minus $11,400) increases the farm’s earnings now, before a single bushel is sold. That early income is the reason the rule is so narrow. The gross quote of $13,440 overstates the proceeds available to the farm because it ignores the delivery charge.

Now give a retailer that uses FIFO the same total cost and the same estimated net proceeds for its merchandise. The retailer follows the lower of cost or NRV rule in ASC 330-10-35-1B, so its inventory stays at $11,400, the lower amount. If the retailer later sells at the estimated price, it recognizes the sale then. A useful check is to write the two labels above your calculations: “measure at NRV” and “compare cost with NRV.”

One more trap. Inventory measured using last-in, first-out (LIFO) or the retail inventory method does not use the lower of cost or NRV rule. It still uses the older lower of cost or market rule (ASC 330-10-35-1C). Either way, ordinary merchandise is never written up above cost.

Want more worked examples like this one? The Intermediate Accounting course has more inventory valuation lessons.

What if separate product costs are difficult to trace?

Cost can be hard to assign when one input produces several saleable outputs. A processor might buy one whole fish and sell different cuts at quite different prices. Its invoice supplies the total cost of the fish but gives no separate price for each cut. That is one reason GAAP allows NRV in a few industries. When cost is hard to pin down but a dependable market price exists, NRV can be the more reliable number. Difficulty tracking cost, by itself, gives a retailer no authority to increase inventory.

Another way to handle a common cost is to allocate the actual purchase price. In the relative sales value method for a basket purchase, estimated selling prices determine each group’s share of cost. The allocated amounts still add up to the invoice. Measuring inventory directly at NRV can produce a different total.

ASC 330-10-35-15 through 35-16 also address mineral products. To report them above cost, all three conditions must hold: the units are interchangeable, they can be sold immediately at quoted prices, and their cost is difficult to determine. Gold and silver have a separate exception when an effective government-controlled market fixes their monetary value and marketing costs are insignificant. For ordinary merchandise, a higher selling price alone does not justify a write-up.

The exception is older than the FASB itself. It goes back to chapter 4, statement 9 of Accounting Research Bulletin 43, issued in 1953 by the Committee on Accounting Procedure of the American Institute of Accountants (now the AICPA). Today that guidance sits in ASC 330-10-35-15 through 35-16.

Common mistakes students make

• Treating NRV above cost as a reason to write inventory up. For ordinary merchandise, the answer is always cost or lower.
• Using the gross quote. NRV is the quote minus disposal and delivery costs. In the wheat example, that is $13,260, not $13,440.
• Counting two conditions as enough. All three must be met.
• Applying the rule to a growing crop or an animal still being raised. Those are not ready for immediate delivery, so they follow the ordinary inventory rules.
• Mixing up the labels. Lower of cost or NRV is a comparison. Measured at NRV is the reported amount.

Practice questions and answers

1. A grower can quote the price of ripe fruit, but its own crop is still growing. Can it use that quotation to carry the crop above cost?

No. The quotation describes a different condition. The grower still has to finish growing and harvest its fruit, so the immediate-delivery condition fails.

2. A qualifying producer has 600 units at a quoted $18 each. Predictable selling costs total $150. What amount does its NRV policy produce?

$10,650. Gross proceeds are $10,800. Deduct $150 once because it is a total for the lot. Multiplying $150 by the unit count would mix a lot-level cost with a per-unit price.

3. A store using first-in, first-out has merchandise costing $8,800 and NRV of $9,350. How much appears in inventory?

$8,800. Apply the lower-of-cost-or-NRV comparison to this retailer. The $550 margin becomes relevant when the merchandise sells.

Frequently asked questions

What is net realizable value for inventory?

Net realizable value (NRV) is the estimated selling price of inventory in the ordinary course of business, minus reasonably predictable costs to complete, sell, and deliver it. It is the amount a business expects to keep from the sale.

Can inventory be reported above cost under U.S. GAAP?

Yes, but only in narrow cases. Harvested crops and livestock held for sale can be reported at NRV, even above cost, when the market price is reliable and obtainable, disposal costs are small and predictable, and the product is ready for immediate delivery. Ordinary merchandise cannot.

What is the difference between lower of cost or NRV and inventory measured at NRV?

Lower of cost or NRV is a one-way test. Inventory is written down when NRV drops below cost, but it is never written up above cost. Inventory measured at NRV is carried at NRV itself, whether that amount is above or below cost.

Do LIFO and the retail inventory method use the lower of cost or NRV rule?

No. Inventory measured using last-in, first-out (LIFO) or the retail inventory method still uses the lower of cost or market rule. The lower of cost or NRV rule applies to other methods, such as FIFO and average cost.

Can a producer choose whichever amount gives the best result each period?

No. The agricultural guidance offers a choice between two bases, but it is an accounting policy choice, not a period-by-period pick. Apply the chosen basis consistently to similar inventory. Disclose the basis, and disclose the fact that goods are stated above cost (ASC 330-10-50).

Is a quoted price the same as NRV?

No. A quote is only the starting point. NRV reflects the estimated proceeds after applicable completion, disposal and transportation costs. For harvested goods ready for delivery, the remaining deduction may be small.

Does this rule apply to goods a buyer has only ordered?

No. The NRV rule in this lesson applies to inventory a producer already holds and can deliver right away. Goods that are only on order are not yet the buyer’s inventory. A binding order raises a different question, which is whether to record a loss before delivery. That is covered in purchase commitment accounting.

About the author

Mansour Farhat, CPA, CIA, CFE, CGMA, is the founder of Farhat Lectures and a college accounting professor. He teaches the video lectures on this site and on the Farhat Lectures YouTube channel.