By Ashani Wick, Certified Business Accountant, FMAAT, B.Com.(Special)
Effective inventory control is all about having the right product and quantities in the right place, at the right time. Maintaining accurate inventory records and inventory levels is key to the success of any business that deals with tangible product sales.
Accurate inventory valuation is crucial for proper financial reporting. Incorrect Inventory valuations will affect financial reporting which leads to wrong decision making in the business operations
So, let’s get an understanding of inventory management and the trends of future of inventory controls.
Costing methods of inventory
- First In, First Out (FIFO)
- Weighted Average method
- Last In, First Out (LIFO)
Each of above three costing approaches will produce a different result over the same accounting period. Therefore, it is necessary to choose one method and apply consistently across future reporting periods to maintain accuracy and consistency.
At the end of an accounting period, the total value of stock-in-hand, is recorded as inventory under current assets.
An inventory discrepancy is when the actual on-hand inventory stock is different from the item quantity recorded in an inventory system or records
Inventory discrepancies affect the ‘Cost of Goods Sold’ (COGS) calculation. The COGS is subtracted from sales to get the gross profit. So, differences in COGS will have a direct impact on a company’s income statements. An overstated inventory will inflate gross profits and conversely understating inventory will harm gross profits.
Inventory adjustments are used to correct these differences to avoid overstating or understating the income statement.
Reconciling inventory discrepancies
The ending inventory amount of the current period is the beginning inventory amount for the next period.
Therefore, when a business misrepresents its ending inventory, the company carries forward that mistake to the following accounting periods.
Inventory reconciliation, when accounting for inventory, is not simply an adjustment of the book balance to match the physical count. It is necessary to compare the inventory counts recorded to actual quantities in the stores and assess why differences have occurred before adjusting the data.
Methods and Techniques of Inventory Control
- ABC analysis: ABC Analysis is a technique which divides the inventory in to three main categories based on the importance of the inventory items, namely A, B and C in the descending order of value of inventory items.
- Economic order quantity model: Economic Order Quantity (EOQ) level is the ideal order quantity that minimize the cost of holding and ordering inventory.
- Minimum Safety Stocks: Minimum safety stock indicates the minimum stock that company should maintain to avoid any risk of stock outs.
- Re-order point: Re-order point represents the level of inventory that company should have before company needs to order more units/items.
Trends of small business’s inventory control
Inventories no longer need to be tracked down and written down on papers separately, most of the small businesses use sophisticated inventory management applications and methods.
Followings are a few trends of inventory management in small businesses nowadays,
- Cloud software systems: Most inventory systems are now cloud-based and can be integrated with other online products, that will flow information from inventory management system to accounting system, and other production systems. Combining different cloud-based software can be a cost-effective solution for small businesses and will gain many advantages.
- Barcodes: The barcode system is an efficient, affordable and widely adopted tool to replace tracking inventory by hand, with barcode scanners. Manual inventory counting process is replaced with automated process that counts and keeps track of the inventory stock. Barcode systems provides real-time updates every time a product is moved or sold.
- Point of Sale systems: Point of Sale (POS) systems can replace time-consuming manual billing systems. POS inventory management is a useful tool to run a business in different locations. So, business owners can monitor several stores effectively.