December 31, 2016. Warehouse Inventory. It’s That Time Again!
The end of the year is almost upon us. Commercial and industrial companies should make an overall assessment of the warehouse in regard to unsold stocks. This is an important activity that may affect theoperating income/loss result of the budget.
What is inventory?
Inventory refers to:
- raw materials
- work in progress goods
- finished goods
- and other tangible items that a business holds, intended ultimately for sale.
Companies that buy raw materials or basic parts, and then manufacture finished goods from them normally classify inventory as either raw materials, work in progress, or finished goods.
- Raw materials: include goods in the form acquired from suppliers. For an oil production company, raw materials include untreated crude oil. For a sheet metal stamping company that produces automobile parts, raw materials include unworked sheet metal as acquired from the supplier.
- Work in progress: includes goods that have been worked or partially assembled, but which are not yet finished goods. For an automobile manufacturer, vehicles half way through the assembly line process are work in progress inventory.
- Finished goods: include goods the company may have manufactured from raw materials and work in progress which are now in condition to be sold and shipped. For the automobile manufacturer, finished vehicles not yet purchased or shipped to dealers are finished goods stock.
FIFO vs. LIFO accounting
When a merchant buys goods from inventory, the value of the inventory account is reduced by the cost of goods sold (COGS). This is simple where the CoG has not varied across those held in stock; but where it has, then an agreed method must be derived to evaluate it. For commodity items that one cannot track individually, accountants must choose a method that fits the nature of the sale.
Two popular approaches to valuing the inventory account are:
- FIFO accounting: (first in – first out) regards the first unit that arrived in inventory as the first one sold.
- LIFO accounting: (last in – first out) considers the last unit arriving in inventory as the first one sold. Using LIFO accounting for inventory, a company generally reports lower net income and lower book value, due to the effects of inflation. This generally results in lower taxation.
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