Inventory Management & Accounting

Inventory management accounting involves tracking, recording, and valuing inventory throughout its lifecycle. It ensures accurate financial reporting and efficient stock control.

Below are key concepts and methods used in inventory accounting:

Key Components of Inventory Management Accounting

1.?? Inventory Types:

? Raw and Packing Materials: Items used to produce finished goods.

? Work-in-Progress (WIP): Goods partially completed.

? Finished Goods: Products ready for sale.

?2. Key Objectives:

? Minimize holding costs.

? Avoid stockouts or overstocking.

? Accurately value inventory for financial reporting.

?3. Inventory Costs:

? Acquisition Costs: Costs incurred to purchase inventory.

? Carrying Costs: Storage, insurance, and depreciation.

? Ordering Costs: Costs of procurement or replenishment.

? Stockout Costs: Lost sales or production halts due to insufficient inventory.

Inventory Valuation Methods

The method used impacts the cost of goods sold (COGS) and net income on financial statements.?

1. First-In, First-Out (FIFO):

? Assumes the oldest inventory is sold first.

? Reflects higher profits in periods of inflation (newer, higher-cost items remain in stock).

? Suitable for perishable items or industries with rapidly changing products.

2. Last-In, First-Out (LIFO):

? Assumes the newest inventory is sold first.

? Results in lower profits during inflation (higher-cost items sold first).

? Often used in industries with stable prices or non-perishable items.

? Note: Not allowed under IFRS but permitted under US GAAP.

3. Weighted Average Cost (WAC):?

? Calculates inventory value based on the average cost of all items.

? Smoothens price fluctuations.

Inventory Systems

1.??? Periodic Inventory System:

? Inventory levels updated at regular intervals.

? COGS calculated at the end of the accounting period.

2.??? Perpetual Inventory System:

? Real-time tracking of inventory using software.

? Provides accurate, up-to-date inventory data.

What Is an Inventory Write-Off?

An inventory write-off is an accounting term for the formal recognition of a portion of a company's inventory that no longer has value. An inventory write-off can be recorded in two ways. It can be expensed directly to the cost of goods sold (COGS) account or it can offset the inventory asset account in a contra asset account. This is commonly referred to as the allowance for obsolete inventory or inventory reserve.

Key Takeaways

1.??? An inventory write-off is the formal recognition of a portion of a company's inventory that no longer has value.

2.??? Write-offs typically happen when inventory becomes obsolete, spoils, becomes damaged, or is stolen or lost.

3.??? The two methods of writing off inventory include the direct write-off method and the allowance method.

Inventory Provision’s:

Provisions are funds set aside by a business to cover specific anticipated future expenses or other financial impacts. An example of a provision is the estimated loss in value of inventory due to obsolescence.

Key Takeaways

1.??? Provisions are funds set aside for specific probable future expenses or other financial impacts such as losses in value.

2.??? Financial obligations are categorized as provisions when they are likely to affect the company’s finances, but there is uncertainty about their value or timing.

3.??? Examples of expenses that provisions may target include bad debt, warranty-related costs, reductions in asset or inventory value and income tax liabilities.

Scenarios where we need to make a provision in books regarding Inventory:

1.??? Obsolescence

2.??? Near its Expiry or Shelf life due to liquidity issue

3.??? Non-Moving

4.??? Slow Moving

5.??? Lower Demand and etc....

Accounting Flow:

• At the time of Good Receipts without Purchase Price Variance:

Dr. Inventory a/c?????????????? XXX

????????? ????????? Cr. GRIR a/c???????????????????????????? XXX

At the time of Goods receipts with Purchase Price Variance if Standard Costing model is activated.

1.In case of favorable variance

Dr. Inventory A/c???? XXX

Cr. PPV a/c?????????? ??????????????????? XXX

Cr. GRIR???? ??????????????????? ????????? XXX??

2. In case of Unfavorable variance

Dr. Inventory A/c???? XXX

Dr. PPV a/c?????????????? XXX

Cr. GRIR???? ??????????????????? ????????? XXX??

• At the time of Inventory Consumption?

Dr. Consumption a/c???????????? XXX

????????? Cr. Inventory a/c?????????????????????????????? XXX?

• At the time of Finished Goods receipts from Production floor

Dr. FG Inventory a/c????????????? XXX

????????? Cr. Inventory Change/COGM???????? XXX?

• At the time of production order variance settlement

Dr. POV a/c????????????????????????????? XXX

????????? Cr. Inventory Change/COGM???????? XXX

????????? Visa Versa impact as per Gain/Loss in production order

Dr. Inventory Change/COGM???????? XXX

????????? Cr. POV a/c??????????????????????????????????????? XXX

• At the time of Post goods Issue (PGI) in Delivery

Dr. COGS a/c???????????????? XXX

????????? Cr. FG Inventory a/c?????????????? XXX

• Inventory Write off. (Direct Method)

Dr. Inventory Write off Exp??????????? XXX

????????? Cr. Inventory a/c?????????????????????????????? XXX

• Inventory Count cycle Adjustment.

Dr. Inventory Physical adj. Exp??????????????? XXX

????????? Cr. Inventory a/c?????????????????????????????? ????????? XXX

Note : Both kind of adjustment Gain/Loss could be happened here so accordingly GL's posting will be done.

• Inventory Provision Exp?(If we are making a inventory provision before write off.)

Dr. Inventory Provision. Exp?????????? XXX

Cr. Liability (Inventory Provision) a/c?????????????? XXX?

• LCN Adjustment (Lower of Cost or Net Realizable value)

Dr. Inventory LCN adj. Exp????????????? XXX

????????? Cr. Inventory a/c?????????????????????????????? ????????? XXX

Stay tuned for more updates. Happy Learning!!

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