Inventory write-down

What it means

An inventory write-down temporarily reduces the carrying value of inventory when its net realisable value falls below cost. Typical cases are obsolete goods, damaged products, slow-selling seasonal collections or materials the company no longer has any use for.

It follows the prudence principle: assets must not be overstated on the balance sheet. Inventory is therefore measured at the lower of the two values and the difference is recognised as an expense. It is a specific case of the general impairment allowance, which is also made against receivables or fixed assets.

Unlike a shortage or the disposal of stock, the write-down is temporary. If the goods are eventually sold at a good price or the reason for the reduction disappears, the allowance is reversed or reduced. If the stock is physically scrapped, the allowance is released and the disposal itself is recorded instead.

How it works in practice

The basis is usually stocktaking combined with an analysis of stock turnover. Companies often set rules in an internal policy, such as a percentage reduction for goods unsold for more than a year, supplemented by an individual review of specific items.

It is generally not tax-deductible, so it is added back to the accounting result when the tax base is calculated. The cost becomes deductible only on an actual sale at a lower price or on a provable disposal of the stock, for instance destruction documented by a protocol.

In the financial statements the write-down shows in the valuation of inventory, and its creation and reversal are explained in the notes. This helps the reader understand why the valuation of assets changed year on year even though the volume of stock stayed similar.

What to watch out for

A write-down is not a tool for trimming profit at will. It needs a documented reason, such as price lists, customer offers or a technical assessment. Without that evidence an auditor or tax inspection will question the entire inventory valuation.

The opposite mistake is carrying unsaleable goods at full value for years. Both profit and equity are then overstated, and an unpleasant surprise follows when the company is sold or applies for a loan.