For some reason accounting for inventory is one of the most hated tasks of accountants and bookkeepers. Perhaps it’s because it can be a tedious process, however it can be an extremely important accounting function for many businesses.
When is Accounting for Inventory Important?
Inventory is not necessarily important for all companies that have it. If you fall into one of these categories, you definitely need to be paying attention to your inventory:
- You are a retailer or wholesaler
- You are a manufacturer
- Your Inventory value is significant to your balance sheet
- Your Inventory is inherently susceptible to risk
Why is Accounting for Inventory Important?
According to AccountingCoach…
Having an accurate valuation of inventory is important because the reported amount of inventory will affect 1) the cost of goods sold, gross profit, and net income on the income statement, and 2) the amount of current assets, working capital, total assets, and stockholders’ or owner’s equity reported on the balance sheet.
Retailers & Wholesalers
If you fall into this category, the importance of accounting for inventory is pretty obvious, it’s your bread and butter. Everything you do from an operations standpoint relies on an accurate accounting of your inventory. If your inventory records are inaccurate you will have misleading data regarding your sales and cost of sales, as well as your assets. This can lead to bad management decisions that can irreparably harm your business.
Manufacturers have it more difficult than most because they not only need to keep track of inventory for sale, but raw materials and work in process too. If you don’t keep an accurate accounting of your inventory at each level it can cause major problems such as:
- How much of each raw material goes into the finished product?
- How do we price the finished product based on the materials used?
- Is there waste in the production process?
High Value or Risky Inventory
This is an important category to consider. High value inventory is important, well… because of it’s value. Therefore, poor accounting for high value inventory can have a pervasive effect on the bottom line and your balance sheet or financial position.
I define “risky inventory” as inventory that is highly susceptible to misuse or theft. For example, cleaning products, car parts or just about any other household item. These items may not be significant in value, but they sure do have a tendency to “walk away” on their own and you could be out big bucks by the time the theft or misuse is discovered.
Accounting for inventory can be a tedious task but an important one too. If your business falls into one of the categories described above and you don’t have a good handle on your inventory, now might be a good time to get started. Here are a few things to consider:
- Do cycle counts and match the quantities on hand to your books. Investigate significant differences and adjust as you go
- Cycle counts should be done by those that do not have regular duties in handling inventory
- Do a complete physical count at least once a year. This should be done more often if you are noticing frequent differences in the cycle counts.
- Have you accountant perform analytical procedures and ratio analysis on a monthly basis
To Your Success,
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