For any business, it’s a sound idea to keep a tab on all assets, liabilities, receivables and payables, as part of generally accepted accounting principles. For this purpose, it will be easier for any entrepreneur to keep track of raw materials, works in progress, finished goods for sale, and other items with the use of a business inventory.
A business inventory is essentially a record of the stock of goods that a business has on hand. Some businesspeople treat their inventory as something similar to a cash flow, since an inventory keeps track of the flow of goods in and out of the company or store, including raw materials that are bought, and products that are sold.
Accounting. Accounting for inventory generally involves three things. First is the beginning inventory, then purchases, then the cost of goods sold. At the end of every inventory period (usually monthly or quarterly), the ending inventory equals the beginning inventory, plus net purchases, less the cost of goods sold during this period.
Recording. A business inventory is often recorded in an accounting ledger, with item descriptions, and a debit and credit column. For example, if you are just starting an inventory for your business, you account for all items you have on stock, including raw materials, works in progress and items that are ready for sale. These all have corresponding amounts. The sum of these is then your beginning inventory.
During regular business operations, your business should account for all activities, such as purchases of raw materials, sale of goods, and running costs that are directly attributed to producing your products. These will all be accounted for in the inventory, with their corresponding amounts. The amounts for purchased items go under the “credit” column, while the amounts for costs of goods sold go under the “debit” column. At the end of the inventory period, you would have your new ending inventory, which then carries over to the next period as the beginning inventory.
First in, first out. Most businesses practice the “first in, first out” or FIFO liquidation principle. This means you account for the movement of inventory on the basis of which came first. This is for purposes of reflecting profits more accurately, especially in the light of changing prices of goods and services. For instance, if you purchase raw materials at a certain price this week, and next week the price decreases, you should first account for the amount corresponding to the materials purchased earlier, and then move on to the ones purchased at a later time, when the corresponding number of raw materials has been used up. Otherwise, with a last-in, first-out (LIFO) system, your figures—especially cost of goods sold—can be significantly skewed lower or higher, depending on the movement of prices, and will therefore distort your profit figures.
Tools and software. Big corporations often have dedicated accounting departments that handle the management and accounting of inventory based on documents like purchase receipts, sales receipts, and the like. Keeping an up to date and accurate inventory is essential for both big business and small enterprises, though. If you run a small enterprise, and prefer to keep inventory management yourself, most accounting tools can manage inventory quite well. These include QuickBooks and Quicken. Some companies even offer online services, such as Netsuite (www.netsuite.com). Some service providers also offer auditing and accounting services, which will help you fine-tune your inventory for reporting and taxation purposes.
Educate yourself. The importance of having a thorough understanding of best practices in accounting so that you can have an accurate idea of what your inventory is worth cannot be stressed enough. To this end, it's a great idea to pick up a few accounting courses online so that you're approaching your company's inventory process from a knowledgeable position.