Net Realizable Value
Meaning and definition
Generally, in the field of accounting, the net realizable value is a technique used to calculate the worth of an asset while in inventory. To define the net realizable value in a proper way, it can be stated as the value of an asset which can be realized by a business entity or company upon the sale of asset, minus a logical prediction of the costs associated with either the ultimate sale or the disposal of the asset in question.
Investopedia explains Net realizable value as a part of GAAP rules which apply to evaluating inventory, so as to not understate or overstate the value of inventory products. Besides, the Net Realizable Value is also related to accounts receivable. In such a situation, the net realizable value refers to the amount of accounts receivable which iss expected to convert into cash.
The formula used to calculate the Net Realizable Value is:
Net Realizable Value = Inventory Sales Value – Estimated Cost of Completion and Disposal
Calculating the Net Realizable Value
Generally, the net realizable value is calculated by deducting the selling costs from the selling price of the inventory goods. The key steps involved in calculating the net realizable value are:
- Sum up the total market value of all inventory held by the company. This is the amount which can be received on the sale of its assets. For example, a company has 2,000 teddy bears and 500 board games in the inventory which are sold for $15 and $10 each, respectively. The total market value, therefore, comes to 2,000 bears X $15 + 500 X $10 = $35,000.
- Add the costs related with the sale of each asset possessed by the company. This includes the shipping expenses and the cost of completing unfinished goods. Continuing the aforesaid example, the cost of distributing a board game or a teddy bear to stores and selling it for $5 per piece. 2,000 X $ 5 + 500 X$ 5 = $12,500.
- Deduct the costs from the total market value to obtain the net realizable value. Putting an end to the example, NRV = $35,000 - $12,500 = $22,500