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What is inventory accounting and why is it important?

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As an example, assume that Harry’s Auto Parts Store sells oil filters. Suppose that at the end of January 31, 2018, they had 50 oil filters on hand at a cost of $7 per unit.

However, collection agencies do not need to know the specific inventory items, but rather the costs of goods sold and net income, which are both calculated using the inventory balance. It’s highly likely that a business will not sell the entirety of its inventory at the end of each accounting period. Meaning any on-hand, unsold stock becomes an asset that must be valued and included in financial statements. The costing run shown in Figure 13 references the run template to determine the relevant ledger, company code and whether the costs apply to a single period or the year-to-date. As we saw in Product Cost Planning you will be calculating actual costs and updating the inventory and cost of goods sold values for each ledger separately. If you perform a costing run for the purposes of group valuation, the ledger includes all company codes in the controlling area, and you’ll need to set up the costing run to include all plants in those company codes.

Complete guide to accounting for inventory and best software choices

This applies to businesses that choose not to track cost per inventory unit for each separate purchase delivery. Instead, inventory value is based on the average cost of items throughout the relevant period. All products received and sold must be recorded individually when using the FIFO accounting method. It’s possible that the FIFO system can lead businesses to under or overestimate the value of inventory in the future, due to market changes down the line. Sticking to a specific method for inventory valuation is critical for consistent, accurate and legally acceptable financial statements. As the name suggests, COGS refers to the amount it cost a business to produce the products it sold, including everything that went into it – materials, labor, tools used, etc. But without factoring in costs not directly tied to the production process – like shipping, advertising and sales force costs, etc.

  • As such, if you expect to see a large amount of growth in the future, you may be better off choosing accounting software that can adapt to the needs of larger enterprises.
  • Inventory accounting is a process that businesses use to track the quantities of finished goods available for sale.
  • On January 15, you need to purchase an additional 100 crystals, but your regular supplier raised the price to $6 each.
  • The perpetual inventory system records and tracks inventory balances continuously.
  • Your regular inventory is received into “1001 – Inventory” (assuming you’re using a Cost of Sales accounting method).
  • Not every inventory item will have the same cost; however, some method must be determined to assign cost to each item.

Inventory Accounting management accounts for items, component parts, and raw materials that a company uses in production or sells. To calculate the cost of goods sold, you must use the same period for all calculations. This can be done weekly, monthly, quarterly, or yearly, depending on the volume of transactions you have. However, all transactions must be completed by June 30th to calculate the cost of goods sold accurately.

What Is Merchandising Inventory?

By taking these steps, you can be confident that your inventory records are accurate and up-to-date. High-dollar items should be secured with locks separate from the shared storage area. Label and store inventory in a manner that allows you to quickly access items and determine the quantity on hand. Separate and note obsolete or damaged products and record waste or damaged products on a waste sheet. Inventory analysis is the study of how product demand changes over time and it helps businesses stock the right amount of goods and project how much customers will want in the future.


Because of inflation as well as discounts and sales, however, prices tend to fluctuate. For instance, this retailer might buy 100 pairs of jeans on Monday for $1,000 ($10 per pair), and 200 pairs of jeans on Friday for $2,150 ($10.75 per pair).

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