Why grouping shrinks the write-down

LCNRV applied item by item and to a group of similar items on the same data, and why the item basis is the default.

The same three items, two ways

Kettle Creek Foods closes June holding three preserves:

Item	Units	Cost	NRV	Total cost
A	400	$12∣$ 10	$4, 800∣$ 4,000
B	250	$20∣$ 24	$5, 000∣$ 6,000
C	600	$8∣$ 7	$4, 800∣$ 4,200
Total				*$14, 600 * ∣ * $ 14,200*

Item basis

Apply LCNRV to each item on its own. Item A: NRV below cost, write-down 400 × 2 = $800 * * . I t e m B : N R V$ 24 is above cost $20 — the item stays at cost; the $1,000 by which B is worth more than its cost is never recorded, because cost is the ceiling. Item C: 600 × 1 = $600**.

$Write-down (item basis) = 800 + 0 + 600 = 1, 400$

Group basis

Now treat the three as one group and compare totals: cost $14, 600 a g ain s tN R V$ 14,200.

$Write-down (group basis) = 14, 600 - 14, 200 = 400$

The group write-down is $1,000 smaller. That $1,000 is exactly item B's excess of NRV over cost. Inside a group total, B's surplus offsets A's and C's shortfalls; on the item basis it cannot, because an item's NRV above cost is simply ignored. Grouping can never produce a larger write-down than the item basis — it can only let surpluses cancel shortfalls — which is why a company would prefer it, and why the standards restrict it.

When grouping is permitted

IAS 2 and Section 3031 make the item basis the default. Grouping is allowed only for items that are similar or related — the same product line, with similar purposes or end uses, produced and marketed in the same geographical area, and which cannot practicably be evaluated separately from other items in that line. Three preserves that happen to share a warehouse do not qualify; three sizes of the same blueberry preserve sold as one line might. Grouping by warehouse, by supplier, or by whatever set of items happens to net to the smallest write-down is not permitted.

Rework — what if B's NRV were $21?

B is still above cost, so the item basis is unchanged at $1, 400. T o t a l N R V b eco m es$ 4,000 + 250 × 21 + $4, 200 = * *$ 13,450, and the group write-down rises to $14, 600 -$ 13,450 = $1,150**. The gap between the two bases has shrunk from $1,000 to $250 — which is B's surplus, now only $1 × 250. The group basis always differs from the item basis by exactly the sum of the surpluses it is allowed to net.

Why the exam asks you to explain it

The midterm's version is a four-mark written question: why is the write-down $1,400 on one basis and $400 on the other, and when is the second permitted? Every mark is in the mechanism — surplus offsetting shortfall — and in the permission test. State both, in that order.