Net Realizable Value (NRV)

Net realizable value (NRV) is the estimated amount that a business will receive when it sells an asset or collects a receivable, minus the costs it expects to incur to complete and sell the asset or to collect the amount owed. It is one of the main measurement bases in accounting for current assets. NRV is used to make sure that inventory and receivables are not reported at more than the cash they are likely to produce, in line with the principle of conservatism. When applied to receivables, it is often called cash realizable value.

The concept appears in three main areas: valuing inventory, where it is compared with cost; valuing accounts receivable, where it is the amount expected to be collected; and allocating joint production costs among products. It is an entity-specific estimate, based on the business's own selling prices and costs, and so differs from fair value, which reflects what market participants would pay.

For inventory, the formula is:

• $\text{Estimated selling price}$ is the expected price in the ordinary course of business, taking into account market conditions at the reporting date.
• $\text{Costs to complete}$ are the further production costs needed to finish partly made goods.
• $\text{Costs to sell}$ include commissions, packaging, shipping and other costs that will be incurred to make the sale.

Under both US GAAP and IFRS, most inventory is carried at the lower of cost and NRV. A clothing retailer holds 500 winter coats that cost $90 each. Late in the season they are expected to sell for $110, but only after a markdown and with $12 of selling and shipping cost per coat, giving an NRV of $98. The coats stay at cost of $90. Another line of 300 jackets cost $70 each but will now sell for only $65, with $8 of costs to sell, so their NRV is $57. The retailer writes them down by $13 each, a total of $3,900, charged to cost of goods sold or a separate write-down expense. The reduction can be recorded directly against inventory or through an allowance to reduce inventory to net realizable value. IFRS requires the write-down to be reversed if NRV recovers while the goods are still held; US GAAP does not allow reversal.

For receivables, NRV is the gross amount owed by customers minus the estimate of amounts that will not be collected. If a company has $800,000 of receivables and expects $32,000 to go unpaid, it records an allowance for doubtful accounts of $32,000 and reports accounts receivable, net of $768,000. Since 2020 for large US public companies, the allowance has been measured under the current expected credit loss (CECL) model in ASC 326, which requires lifetime expected losses to be estimated from the start; IFRS 9 uses a similar expected loss approach.

When a single process produces several products, such as a refinery producing petrol, diesel and jet fuel, the shared costs up to the split-off point must be allocated. Under the NRV method, each joint product receives a share of joint costs in proportion to its final selling value minus the separable costs incurred after split-off. A minor byproduct is often recorded at its NRV and deducted from joint costs.

NRV depends on estimates of future prices and costs, so it requires judgment and supporting evidence, such as sales made after the reporting date, current price lists and ageing reports. Common errors include ignoring the costs to sell, using list prices that are rarely achieved, testing inventory only in total rather than by item or product group, and failing to update collectability estimates when a large customer runs into trouble. Auditors focus on NRV for slow-moving and obsolete stock and for old receivables, because overstated NRV leads directly to overstated assets and profit. NRV write-downs differ from impairment of long-term assets, which uses recoverable amount or fair value rather than NRV.