inventory

Dictionary: in·ven·to·ry (ĭn'vən-tôr'ē, -tōr'ē) pronunciation

n., pl. -ries.

1. A detailed, itemized list, report, or record of things in one's possession, especially a periodic survey of all goods and materials in stock.
2. The process of making such a list, report, or record.
3. The items listed in such a report or record.
4. The quantity of goods and materials on hand; stock.
An evaluation or a survey, as of abilities, assets, or resources.

tr.v., -ried, -ry·ing, -ries.

To make an itemized report or record of.
To include in an itemized report or record.

[Middle English inventorie, from Medieval Latin inventōrium, alteration of Late Latin inventārium, from Latin inventus, past participle of invenīre, to find. See invent.]

inventorial in'ven·to'ri·al adj.
inventorially in'ven·to'ri·al·ly adv.

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5min Related Video: inventory

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Investment Dictionary: Inventory

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The raw materials, work-in-process goods and completely finished goods that are considered to be the portion of a business's assets that are ready or will be ready for selling. Inventory represents one of the most important assets that most businesses possess, because the turnover of inventory represents one of the primary sources of revenue generation and subsequent earnings for the companies' shareholders/owners.

Investopedia Says:
Possessing a high amount of inventory for long periods of time is not usually good for a business, because there are inventory storage, obsolescence and spoilage costs. However, possessing not enough inventory isn't good either, because the business runs the risk of losing out on potential sales and potential market share as well.

Inventory management forecasts and strategies, such as a just-in-time inventory system, can help minimize inventory costs because goods are created or received as inventory only when needed.

Related Links:
We go over these methods of calculating this component of the balance sheet, and how the choice affects the bottom line. Inventory Valuation For Investors: FIFO And LIFO
Find out how a simple calculation can help you uncover the most efficient companies. Understanding The Cash Conversion Cycle
We look at a retailer's inventory turnaround times, its receivables as well as its collection period. Measuring Company Efficiency
Hit the mall and shop for future investments. Analyzing Retail Stocks

Financial & Investment Dictionary: Inventory

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Corporate finance: value of a firm's raw materials, work in process, supplies used in operations, and finished goods. Since inventory value changes with price fluctuations, it is important to know the method of valuation. There are a number of inventory valuation methods; the most widely used are First In, First Out (FIFO) andLast In, First Out (LIFO). Financial statements normally indicate the basis of inventory valuation, generally the lower figure of either cost price or current market price, which precludes potentially overstated earnings and assets as the result of sharp increases in the price of raw materials.

Personal finance: list of all assets owned by an individual and the value of each, based on cost, market value, or both. Such inventories are usually required for property insurance purposes and are sometimes required with applications for credit.

Securities: net long or short position of a dealer or specialist. Also, securities bought and held by a dealer for later resale.

Marketing Dictionary: inventory

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Supply of goods or materials on hand. In manufacturing, inventory consists of raw materials, work-in-process, and finished goods. In wholesaling and retailing, inventory is the stock of merchandise on hand. In direct marketing, inventory may refer to direct-mail package components that are available for mailing when needed. In the broadcast and print media industry, inventory is the time or space available for sale to advertisers. In magazine publishing, inventory is the number of copies of each issue available for distribution.

An ample inventory ensures that sales will not be lost or deadlines missed but can require a substantial cash investment in both material and storage space. There are also risks associated with excessive inventory, such as a change in circumstances that reduces or eliminates demand for an item in inventory or that renders the item obsolete or illegal, or the risk of loss due to theft, fire, aging, and so forth. The costs and risks must be weighed against the cost of lost sales and missed deadlines to determine the optimal inventory level.

Real Estate Dictionary: Inventory

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Property held for sale or to be used in the manufacture of goods held for sale. Does not qualify for Capital Gains tax treatment.
Examples: Examples of inventory are:

• raw materials

• work-in-progress

• finished goods

To a builder, property under construction and property completed are inventory. To a Subdivider vacant lots are inventory.

Small Business Encyclopedia: Inventory

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An inventory is a detailed, itemized list or record of goods and materials in a company's possession. "The main components of inventory, " wrote Transportation and Distribution contributors David Waller and Barbara Rosenbaum, "are cycle stock: the order quantity or lot size received from the plant or vendor; in-transit stock: inventory in shipment from the plant or vendor or between distribution centers; [and] safety stock: each distribution center's inventory buffer against forecast error and lead time variability."

Writing in Production and Operations Management, Howard J. Weiss and Mark E. Gershon observed that, historically, there have been two basic inventory systems: the continuous review system and the periodic review system. With continuous review systems, the level of a company's inventory is monitored at all times. Under these arrangements, businesses typically track inventory until it reaches a predetermined point of "low" holdings, whereupon the company makes an order (also of a generally predetermined level) to push its holdings back up to a desirable level. Since the same amount is ordered on each occasion, continuous review systems are sometimes also referred to as event-triggered systems, fixed order size systems (FOSS), or economic order quantity systems (EOQ). Periodic review systems, on the other hand, check inventory levels at fixed intervals rather than through continuous monitoring. These periodic reviews (weekly, biweekly, or monthly checks are common) are also known as time-triggered systems, fixed order interval systems (FOIS), or economic order interval systems (EOI).

Inventory and the Growing Company

Most successful small companies find that as their economic fortunes rise, so too do the complexity of inventory logistics. This increase in inventory management is primarily due to two factors: 1) greater volume and variety of products, and 2) increased allocation of company resources (such as physical space and financial capital) to accomodate that growth in inventory. "The transition from seat-of-the-pants ordering policies and little or no record keeping to a formal inventory system that includes specific ordering policies and a formalized inventory record file is a difficult one for most companies to make, " stated Weiss and Gershon. "It is but one of the many sources of growing pains that emerging companies experience, especially those in the fast-growing industries, such as fast food or high technology. This transition requires the creation of new job functions to identify the costs (holding, shortage) associated with inventory and to implement the inventory analysis. The inventory record file also must be maintained by someone, and, on a periodic basis, it must be audited by someone. In addition, the transition requires more coordination between different company functions." This transition, they note, often leads into computerization of inventory management. This can be a daunting prospect, particularly for companies lacking employees with appropriate data management backgrounds.

JUST-IN-TIME INVENTORY CONTROL. "Just-in-time production is a simple idea that may be difficult to implement, " wrote Gershon and Weiss. "The basic concept is that finished goods should be produced just in time for delivery, and raw materials should be delivered just in time for production. When this occurs, materials or goods never sit idle, which means that a minimum amount of money is tied up in raw materials, semifinished goods, and finished goods…. The just-in-time approach calls for slashing production and purchase lot sizes and also buffer stocks—but incrementally, a little at a time, month after month, year after year. The result is sustained productivity and quality improvement with greater flexibility and delivery responsiveness." This production concept, which originated in Japan and became immensely popular in American industries in the early and mid-1990s, continues to be hailed by proponents as a viable alternative for businesses looking for a competitive edge.

Setting an Inventory Strategy

No single inventory strategy is equally effective for all businesses. Indeed, there are many different factors that can impact the usefulness of a given inventory strategy, including positioning of inventory, rationalization, segmentation, and continuous improvement efforts. Moreover, small businesses in particular often face financial and logistical limitations when erecting their inventory systems. And of course, different industries have different inventory needs. Consumer goods producers, for instance, need to have well-balanced inventories at the point of sale, while producers of industrial and commercial products typically do not have clients that require the same degree of delivery lead time.

When a company is faced with a need to establish or reevaluate its inventory control systems, business experts often counsel their corporate clients to engage in a practice commonly known as "inventory segmenting" or "inventory partitioning." This practice is in essence a breakdown and review of total inventory by classifications, inventory stages (raw materials, intermediate inventories, finished products), sales and operations groupings, and excess inventories. Proponents of this method of study say that such segmentation break the company's total inventory into much more manageable parts for analysis.

KEY CONSIDERATIONS. Inventory management is a key factor in the successful operation of fledgling businesses and long-time industry veterans alike. For both kinds of companies, determining whether their inventory systems are successful or not is predicated on one fundamental question: Does the inventory strategy insure that the company has adequate stock for production and goods shipments while at the same time minimizing inventory costs? If the answer is yes, then the company in question is far more likely to be a successful one. Conversely, if the answer is no, then the business is operating under twin burdens that can be of considerable consequence to its ability to survive, let alone flourish.

According to business experts, perhaps no factor is more important in ensuring successful inventory management than regular analysis of policies, practices, and results. Companies that hope to establish or maintain an effective inventory system should make sure that they do the following on a regular basis:

Regularly review product offerings, including the breadth of the product line and the impact that peripheral products have on inventory.
Ensure that inventory strategies are in place for each product and reviewed on a regular basis.
Review transportation alternatives and their impact on inventory/warehouse capacities.
Undertake periodic reviews to ensure that inventory is held at the level that best meets customer needs; this applies to all levels of business, including raw materials, intermediate assembly, and finished products.
Regularly canvas key employees for information that can inform future inventory control plans.
Determine what level of service (lead time, etc.) is necessary to meet the demands of customers.
Establish and regularly review a system for effectively identifying and managing excess or obsolete inventory, and determining why these goods reached such status.
Devise a workable system wherein "safety" inventory stocks can be reached and distributed on a timely basis when the company sees an unexpected rise in product demand.
Calculate the impact of seasonal inventory fluctuations and incorporate them into inventory management strategies.
Review the company's forecasting mechanisms and the volatility of the marketplace, both of which can (and do) have a big impact on inventory decisions.
Institute "continuous improvement" philosophy in inventory management.
Make inventory management decisions that reflect a recognition that inventory is deeply interrelated with many other areas of business operation.

To summarize, inventory management systems should be regularly reviewed from top to bottom as an essential part of the annual strategic and business planning processes.

Indeed, even cursory examinations of inventory statistics can sometimes provide business owners with valuable insights into the company's foundations. Business consultants and managers alike note that if an individual business has an inventory turnover ratio that is low in relation to the average for the industry in which it operates, or if it is low in comparison with the average ratio for the business, it is pretty likely that the business is carrying a surplus of obsolete or otherwise unsalable stock inventory. Conversely, they note that if a business is experiencing unusually high inventory turnover when compared with industry or business averages, then the company may be losing out on sales because of a lack of adequate stock on hand. "It will be helpful to determine the turnover rate of each stock item so that you can evaluate how well each is moving, " noted The Entrepreneur Magazine Small Business Advisor. "You may even want to base your inventory turnover on more frequent periods than a year. For perishable items, calculating turnover periods based on daily, weekly, or monthly periods may be necessary to ensure the freshness of the product. This is especially important for food-service operations."

Inventory Accounting

The way in which a company accounts for its inventory can have a dramatic affect on its financial statements. Inventory is a current asset on the balance sheet. Therefore, the valuation of inventory directly affects the inventory, total current asset, and total asset balances. Companies intend to sell their inventory, and when they do, it increases the cost of goods sold, which is often a significant expense on the income statement. Therefore, how a company values its inventory will determine the cost of goods sold amount, which in turn affects gross profit (margin), net income before taxes, taxes owed, and ultimately net income. It is clear, then, that a company's inventory valuation approach can cause a ripple effect throughout its financial picture.

One may think that inventory valuation is relatively simple. For a retailer, inventory should be valued for what it cost to acquire that inventory. When an inventory item is sold, the inventory account should be reduced (credited) and cost of goods sold should be increased (debited) for the amount paid for each inventory item. This works if a company is operating under the Specific Identification Method. That is, a company knows the cost of every individual item that is sold. This method works well when the amount of inventory a company has is limited and each inventory item is unique. Examples would include car dealrships, jewelers, and art galleries.

The Specific Identification Method, however, is cumbersome in situations where a company owns a great deal of inventory and each specific inventory item is relatively indistinguishable from each other. As a result, other inventory valuation methods have been developed. The best known of these are the FIFO (first-in, first out) and LIFO (last-in, first-out) methods.

FIFO. First-in, first-out is a method of inventory accounting in which the oldest stock items in a company's inventory are assumed to have been the first items sold. Therefore, the inventory that remains is from the most recent purchases. In a period of rising prices, this accounting method yields a higher ending inventory, a lower cost of goods sold, a higher gross profit, and a higher taxable income.

The FIFO Method may come the closest to matching the actual physical flow of inventory. Since FIFO assumes that the oldest inventory is always sold first, the valuation of inventory still on hand is at the most recent price. Assuming inflation, this will mean that cost of goods sold will be at its lowest possible amount. Therefore, a major advantage of FIFO is that it has the effect of maximizing net income within an inflationary environment. The downside of that effect is that income taxes will be at their greatest.

LIFO. Last-in, first-out, on the other hand, is an accounting approach that assumes that the most recently acquired items are the first ones sold. Therefore, the inventory that remains is always the oldest inventory. During economic periods in which prices are rising, this inventory accounting method yields a lower ending inventory, a higher cost of goods sold, a lower gross profit, and a lower taxable income. The LIFO Method is preferred by many companies because it has the effect of reducing a company's taxes, thus increasing cash flow. However, these attributes of LIFO are only present in an inflationary environment.

The other major advantage of LIFO is that it can have an income smoothing effect. Again, assuming inflation and a company that is doing well, one would expect inventory levels to expand. Therefore, a company is purchasing inventory, but under LIFO, the majority of the cost of these purchases will be on the income statement as part of cost of goods sold. Thus, the most recent and most expensive purchases will increase cost of goods sold, thus lowering net income before taxes, and hence net income. Net income is still high, but it does not reach the levels that it would if the company used the FIFO method.

Given the importance differences that exist between the various inventory accounting methodologies, it is imperative that the inventory footnote be read carefully in financial statements, for this part of the document will inform the reader of the method of inventory valuation chosen by a company. Assuming inflation, FIFO will result in higher net income during growth periods and a higher, and more realistic inventory balance. In periods of growth, LIFO will result in lower net income and lower income tax payments, thus enhancing a company's cash flow. During periods of contraction, LIFO will result in higher income levels, but it will also undervalue inventory over time.

Small business owners weighing a switch to a LIFO inventory valuation method should note that while making the change is a relatively simple process (the company files IRS Form 970 with its tax return), switching away from LIFO is not so easy. Once a company adopts the LIFO method, it can not switch to FIFO without securing IRS approval.

Donating Excess Inventory

In recent years, many small (and large) businesses have gained valuable tax deductions by donating obsolete or excess inventory to charitable organizations, churches, and disaster relief efforts. The type of deduction that can be claimed depends on the business structure of the donating company. "If you're organized as an S corporation, a partnership, or a sole proprietorship and you donate inventory to a charity that uses the goods to assist the sick, the poor, or children, you're generally able to take a tax deduction for the cost of producing the inventory, " stated Joan Szabo in Entrepreneur. C Corporations, meanwhile, can deduct the cost of the inventory plus half the difference between the production cost and the inventory's fair market value, provided the deduction does not exceed twice the cost of the donated goods.

A number of organizations have been established for the express purpose of distributing donated inventory. Gifts in Kind International (based in Alexandria, Virginia) distributes used computers, high-tech equipment, and other donated inventory to approximately 50, 000 domestic and international charities. The Galesburg, Illinois-based National Association for the Exchange of Industrial Resources (NAEIR), meanwhile, distributes excess inventory to more than 5, 000 schools, churches, homeless shelters, and other charitable organizations. Office supplies comprise much of the NAEIR goods, but clothing, janitorial supplies, and computer equipment are also distributed. The NAEIR estimates that it has distributed more than $1 billion in corporate inventory donations to American schools and nonprofit organizations since 1977.

Origins of the word Inventory

The word inventory was first recorded in 1601. The French term inventaire, or "detailed list of goods," dates back to 1415. Inventory management is primarily about specifying the size and placement of stocked goods. Inventory management is required at different locations within a facility or within multiple locations of a supply network to protect the regular and planned course of production against the random disturbance of running out of materials or goods. The scope of inventory management also concerns the fine lines between replenishment lead time, carrying costs of inventory, asset management, inventory forecasting, inventory valuation, inventory visibility, future inventory price forecasting, physical inventory, available physical space for inventory, quality management, replenishment, returns and defective goods and demand forecasting.

Other definitions of inventory management from across the web:

Involves a retailer seeking to acquire and maintain a proper merchandise assortment while ordering, shipping, handling, and related costs are kept in check.

Systems and processes that identify inventory requirements, set targets, provide replenishment techniques and report actual and projected inventory status.

Handles all functions related to the tracking and management of material. This would include the monitoring of material moved into and out of stockroom locations and the reconciling of the inventory balances. Also may include ABC analysis, lot tracking, cycle counting support etc.

Management of the inventories, with the primary objective of determining.controlling stock levels within the physical distribution function to balance the need for product availability against the need for minimizing stock holding and handling costs.

In business management, inventory consists of a list of goods and materials held available in stock.

An inventory can also be a self examination, a moral inventory.

Labels: Inventory Management, Procurement, Supply Chain, Supply Chain Management

Business inventory

The reasons for keeping stock

There are three basic reasons for keeping an inventory:

Time - The time lags present in the supply chain, from supplier to user at every stage, requires that you maintain certain amount of inventory to use in this "lead time"
Uncertainty - Inventories are maintained as buffers to meet uncertainties in demand, supply and movements of goods.
Economies of scale - Ideal condition of "one unit at a time at a place where user needs it, when he needs it" principle tends to incur lots of costs in terms of logistics. So bulk buying, movement and storing brings in economies of scale, thus inventory.

All these stock reasons can apply to any owner or product stage.

Buffer stock is held in individual workstations against the possibility that the upstream workstation may be a little delayed in long setup or change-over time. This stock is then used while that change-over is happening. This stock can be eliminated by tools like SMED.

These classifications apply along the whole Supply chain not just within a facility or plant.

Where these stocks contain the same or similar items it is often the work practice to hold all these stocks mixed together before or after the sub-process to which they relate. This 'reduces' costs. Because they are mixed-up together there is no visual reminder to operators of the adjacent sub-processes or line management of the stock which is due to a particular cause and should be a particular individual's responsibility with inevitable consequences. Some plants have centralized stock holding across sub-processes which makes the situation even more acute.

Special terms used in dealing with inventory

Stock Keeping Unit (SKU) is a unique combination of all the components that are assembled into the purchasable item. Therefore any change in the packaging or product is a new SKU. This level of detailed specification assists in managing inventory.
Stockout means running out of the inventory of an SKU.^[1]
"New old stock" (sometimes abbreviated NOS) is a term used in business to refer to merchandise being offered for sale which was manufactured long ago but that has never been used. Such merchandise may not be produced any more, and the new old stock may represent the only market source of a particular item at the present time.

Typology

Buffer/safety stock
Cycle stock (Used in batch processes, it is the available inventory excluding buffer stock)
De-coupling (Buffer stock that is held by both the supplier and the user)
Anticipation stock (building up extra stock for periods of increased demand - e.g. ice cream for summer)
Pipeline stock (goods still in transit or in the process of distribution - have left the factory but not arrived at the customer yet)

Inventory examples

While accountants often discuss inventory in terms of goods for sale, organizations - manufacturers, service-providers and not-for-profits - also have inventories (fixtures, furniture, supplies, ...) that they do not intend to sell. Manufacturers', distributors', and wholesalers' inventory tends to cluster in warehouses. Retailers' inventory may exist in a warehouse or in a shop or store accessible to customers. Inventories not intended for sale to customers or to clients may be held in any premises an organization uses. Stock ties up cash and if uncontrolled it will be impossible to know the actual level of stocks and therefore impossible to control them.

Whilst the reasons for holding stock are covered earlier, most manufacturing organizations usually divide their "goods for sale" inventory into:

Raw materials - materials and components scheduled for use in making a product.
Work in process, WIP - materials and components that have begun their transformation to finished goods.
Finished goods - goods ready for sale to customers.
Goods for resale - returned goods that are salable.
Spare parts

For example:

Manufacturing

A canned food manufacturer's materials inventory includes the ingredients to form the foods to be canned, empty cans and their lids (or coils of steel or aluminum for constructing those components), labels, and anything else (solder, glue, ...) that will form part of a finished can. The firm's work in process includes those materials from the time of release to the work floor until they become complete and ready for sale to wholesale or retail customers. This may be vats of prepared food, filled cans not yet labelled or sub-assemblies of food components. It may also include finished cans that are not yet packaged into cartons or pallets. Its finished good inventory consists of all the filled and labelled cans of food in its warehouse that it has manufactured and wishes to sell to food distributors (wholesalers), to grocery stores (retailers), and even perhaps to consumers through arrangements like factory stores and outlet centers.

Examples of case studies are very revealing, and consistently show that the improvement of inventory management has two parts: the capability of the organisation to manage inventory, and the way in which it chooses to do so. For example, a company may wish to install a complex inventory system, but unless there is a good understanding of the role of inventory and its perameters, and an effective business process to support that, the system cannot bring the necessary benefits to the organisation in isolation.

Typical Inventory Mangement techniques include Pareto Curve ABC Classification and Economic Order Quantity Management. A more sophisticated method takes these two techniques further, combining certain aspects of each to createThe K Curve Methodology. A case study of k-curve benefits to one company shows a succesful implementation.

Logistics or distribution

The logistics chain includes the owners (wholesalers and retailers), manufacturers' agents, and transportation channels that an item passes through between initial manufacture and final purchase by a consumer. At each stage, goods belong (as assets) to the seller until the buyer accepts them. Distribution includes four components:

Manufacturers' agents: Distributors who hold and transport a consignment of finished goods for manufacturers without ever owning it. Accountants refer to manufacturers' agents' inventory as "matériel" in order to differentiate it from goods for sale.
Transportation: The movement of goods between owners, or between locations of a given owner. The seller owns goods in transit until the buyer accepts them. Sellers or buyers may transport goods but most transportation providers act as the agent of the owner of the goods.
Wholesaling: Distributors who buy goods from manufacturers and other suppliers (farmers, fishermen, etc.) for re-sale work in the wholesale industry. A wholesaler's inventory consists of all the products in its warehouse that it has purchased from manufacturers or other suppliers. A produce-wholesaler (or distributor) may buy from distributors in other parts of the world or from local farmers. Food distributors wish to sell their inventory to grocery stores, other distributors, or possibly to consumers.
Retailing: A retailer's inventory of goods for sale consists of all the products on its shelves that it has purchased from manufacturers or wholesalers. The store attempts to sell its inventory (soup, bolts, sweaters, or other goods) to consumers.

It is a key observation in the "Lean Manufacturing" that it is often the case that more than 90% of a product's life prior to end user sale is spent in distribution of one form or another. On the assumption that the time is not itself valuable to the customer this adds enormously to the working capital tied up in the business as well as the complexity of the supply chain. Reduction and elimination of these inventory 'wait' states is a key concept in Lean.

High level inventory management

It seems that around about 1880^[2] there was a change in manufacturing practice from companies with relatively homogeneous lines of products to vertically integrated companies with unprecedented diversity in processes and products. Those companies (especially in metalworking) attempted to achieve success through economies of scope - the gains of jointly producing two or more products in one facility. The managers now needed information on the effect of product mix decisions on overall profits and therefore needed accurate product cost information. A variety of attempts to achieve this were unsuccessful due to the huge overhead of the information processing of the time. However, the burgeoning need for financial reporting after 1900 created unavoidable pressure for financial accounting of stock and the management need to cost manage products became overshadowed. In particular it was the need for audited accounts that sealed the fate of managerial cost accounting. The dominance of financial reporting accounting over management accounting remains to this day with few exceptions and the financial reporting definitions of 'cost' have distorted effective management 'cost' accounting since that time. This is particularly true of inventory.

Hence high level financial inventory has these two basic formulas which relate to the accounting period:

Cost of Beginning Inventory at the start of the period + inventory purchases within the period + cost of production within the period = cost of goods
Cost of goods − cost of ending inventory at the end of the period = cost of goods sold

The benefit of these formulae is that the first absorbs all overheads of production and raw material costs in to a value of inventory for reporting. The second formula then creates the new start point for the next period and gives a figure to be subtracted from sales price to determine some form of sales margin figure.

Manufacturing management is more interested in inventory turnover ratio or average days to sell inventory since it tells them something about relative inventory levels.

Inventory turn over ratio (also known as inventory turns) = cost of goods sold / Average Inventory = Cost of Goods Sold / ((Beginning Inventory + Ending Inventory) / 2)

and its inverse

Average Days to Sell Inventory = Number of Days a Year / Inventory Turn Over Ratio = 365 days a year / Inventory Turn Over Ratio

This ratio estimates how many times the inventory turns over a year. This number tells us how much cash/goods are tied up waiting for the process and is a critical measure of process reliability and effectiveness. So a factory with two inventory turns has six months stock on hand which generally not a good figure (depending upon industry) whereas a factory that moves from six turns to twelve turns has probably improved effectiveness by 100%. This improvement will have some negative results in the financial reporting since the 'value' now stored in the factory as inventory is reduced.

Whilst the simplicity of these accounting measures of inventory are very useful they are in the end fraught with the danger of their own assumptions. There are in fact so many things which can vary hidden under this appearance of simplicity that a variety of 'adjusting' assumptions may be used. These include:

Inventory Turn is a financial accounting tools for evaluating inventory and it is not necessarily a management tool. Inventory management should be forward looking. The methodology applied is based on historical cost of goods sold. The ratio may not be able to reflect the usability of future production demand as well as customer demand.

Business models including Just in Time (JIT) Inventory, Vendor Managed Inventory (VMI) and Customer Managed Inventory (CMI) attempt to minimize on-hand inventory and increase inventory turns. VMI and CMI have gained considerable attention due to the success of third party vendors who offer added expertise and knowledge that organizations may not possess.

Accounting perspectives

The basis of Inventory accounting

Inventory needs to be accounted where it is held across accounting period boundaries since generally expenses should be matched against the results of that expense within the same period. When processes were simple and short then inventories were small but with more complex processes then inventories became larger and significant valued items on the balance sheet^[3]. This need to value unsold and incomplete goods has driven many new behaviours into management practise. Perhaps most significant of these are the complexities of fixed cost recovery, transfer pricing, and the separation of direct from indirect costs. This, supposedly, precluded "anticipating income" or "declaring dividends out of capital". It is one of the intangible benefits of Lean and the TPS that process times shorten and stock levels decline to the point where the importance of this activity is hugely reduced and therefore effort, especially managerial, to achieve it can be minimised.

Accounting for Inventory

Each country has its own rules about accounting for inventory that fit with their financial reporting rules.

So for example, organizations in the U.S. define inventory to suit their needs within US Generally Accepted Accounting Practices (GAAP), the rules defined by the Financial Accounting Standards Board (FASB) (and others) and enforced by the U.S. Securities and Exchange Commission (SEC) and other federal and state agencies. Other countries often have similar arrangements but with their own GAAP and national agencies instead.

It is intentional that financial accounting uses standards that allow the public to compare firms' performance, cost accounting functions internally to an organization and potentially with much greater flexibility. A discussion of inventory from standard and Theory of Constraints-based (throughput) cost accounting perspective follows some examples and a discussion of inventory from a financial accounting perspective.

The internal costing/valuation of inventory can be complex. Whereas in the past most enterprises ran simple one process factories, this is quite probably in the minority in the 21st century. Where 'one process' factories exist then there is a market for the goods created which establishes an independent market value for the good. Today with multi-stage process companies there is much inventory that would once have been finished goods which is now held as 'work-in-process' (WIP). This needs to be valued in the accounts but the valuation is a management decision since there is no market for the partially finished product. This somewhat arbitrary 'valuation' of WIP combined with the allocation of overheads to it has led to some unintended and undesirable results.

Financial accounting

An organization's inventory can appear a mixed blessing, since it counts as an asset on the balance sheet, but it also ties up money that could serve for other purposes and requires additional expense for its protection. Inventory may also cause significant tax expenses, depending on particular countries' laws regarding depreciation of inventory, as in Thor Power Tool Company v. Commissioner.

Inventory appears as a current asset on an organization's balance sheet because the organization can, in principle, turn it into cash by selling it. Some organizations hold larger inventories than their operations require in order to inflate their apparent asset value and their perceived profitability.

In addition to the money tied up by acquiring inventory, inventory also brings associated costs for warehouse space, for utilities, and for insurance to cover staff to handle and protect it, fire and other disasters, obsolescence, shrinkage (theft and errors), and others. Such holding costs can mount up: between a third and a half of its acquisition value per year.

Businesses that stock too little inventory cannot take advantage of large orders from customers if they cannot deliver. The conflicting objectives of cost control and customer service often pit an organization's financial and operating managers against its sales and marketing departments. Sales people, in particular, often receive sales commission payments, so unavailable goods may reduce their potential personal income. This conflict can be minimised by reducing production time to being near or less than customer expected delivery time. This effort, known as "Lean production" will significantly reduce working capital tied up in inventory and reduce manufacturing costs (See the Toyota Production System).

Inventory Accounting

By helping the organization to make better decisions, the accountants can help the public sector to change in a very positive way that delivers increased value for the taxpayer’s investment. It can also help to incentivise progress and to ensure that reforms are sustainable and effective in the long term, by ensuring that success is appropriately recognized in both the formal and informal reward systems of the organization.

To say that they have a key role to play is an understatement. Finance is connected to most, if not all, of the key business processes within the organization. It should be steering the stewardship and accountability systems that ensure that the organization is conducting its business in an appropriate, ethical manner. It is critical that these foundations are firmly laid. So often they are the litmus test by which public confidence in the institution is either won or lost.

Finance should also be providing the information, analysis and advice to enable the organizations’ service managers to operate effectively. This goes beyond the traditional preoccupation with budgets – how much have we spent so far, how much have we left to spend? It is about helping the organization to better understand its own performance. That means making the connections and understanding the relationships between given inputs – the resources brought to bear – and the outputs and outcomes that they achieve. It is also about understanding and actively managing risks within the organization and its activities.

FIFO vs. LIFO accounting

Main article: FIFO and LIFO accounting

When a dealer buys goods from inventory, the value of the inventory is reduced by the cost of goods sold (CoG sold). 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 methods which normally exist are: FIFO and LIFO accounting (first in - first out, last in - first out). FIFO regards the first unit that arrived in inventory as the first one sold. LIFO considers the last unit arriving in inventory as the first one sold. Which method an accountant selects can have a significant effect on net income and book value and, in turn, on taxation. 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. Due to LIFO's potential to skew inventory value, UK GAAP and IAS have effectively banned LIFO inventory accounting.

Standard cost accounting

Standard cost accounting uses ratios called efficiencies that compare the labour and materials actually used to produce a good with those that the same goods would have required under "standard" conditions. As long as similar actual and standard conditions obtain, few problems arise. Unfortunately, standard cost accounting methods developed about 100 years ago, when labor comprised the most important cost in manufactured goods. Standard methods continue to emphasize labor efficiency even though that resource now constitutes a (very) small part of cost in most cases.

Standard cost accounting can hurt managers, workers, and firms in several ways. For example, a policy decision to increase inventory can harm a manufacturing managers' performance evaluation. Increasing inventory requires increased production, which means that processes must operate at higher rates. When (not if) something goes wrong, the process takes longer and uses more than the standard labor time. The manager appears responsible for the excess, even though s/he has no control over the production requirement or the problem.

In adverse economic times, firms use the same efficiencies to downsize, rightsize, or otherwise reduce their labor force. Workers laid off under those circumstances have even less control over excess inventory and cost efficiencies than their managers.

Many financial and cost accountants have agreed for many years on the desirability of replacing standard cost accounting. They have not, however, found a successor.

Theory of Constraints cost accounting

Eliyahu M. Goldratt developed the Theory of Constraints in part to address the cost-accounting problems in what he calls the "cost world". He offers a substitute, called throughput accounting, that uses throughput (money for goods sold to customers) in place of output (goods produced that may sell or may boost inventory) and considers labor as a fixed rather than as a variable cost. He defines inventory simply as everything the organization owns that it plans to sell, including buildings, machinery, and many other things in addition to the categories listed here. Throughput accounting recognizes only one class of variable costs: the trully variable costs like materials and components that vary directly with the quantity produced.

Finished goods inventories remain balance-sheet assets, but labor efficiency ratios no longer evaluate managers and workers. Instead of an incentive to reduce labor cost, throughput accounting focuses attention on the relationships between throughput (revenue or income) on one hand and controllable operating expenses and changes in inventory on the other. Those relationships direct attention to the constraints or bottlenecks that prevent the system from producing more throughput, rather than to people - who have little or no control over their situations.

National accounts

Inventories also play an important role in national accounts and the analysis of the business cycle. Some short-term macroeconomic fluctuations are attributed to the inventory cycle.

Distressed inventory

Also known as distressed or expired stock, distressed inventory is inventory whose potential to be sold at a normal cost has or will soon pass. In certain industries it could also mean that the stock is or will soon be impossible to sell. Examples of distressed inventory include products that have reached its expiry date, or has reached a date in advance of expiry at which the planned market will no longer purchase it (e.g. 3 months left to expiry), clothing that is defective or out of fashion, and old newspapers or magazines. It also includes computer or consumer-electronic equipment that is obsolescent or discontinued and whose manufacturer is unable to support it. One current example of distressed inventory is the VHS format.^[4]

Inventory credit

Inventory credit refers to the use of stock, or inventory, as collateral to raise finance. Where banks may be reluctant to accept traditional collateral, for example in developing countries where land title may be lacking, inventory credit is a potentially important way of overcoming financing constraints. This is not a new concept; archaeological evidence suggests that it was practiced in Ancient Rome. Obtaining finance against stocks of a wide range of products held in a bonded warehouse is common in much of the world. It is, for example, used with parmesan cheese in Italy.^[5] Inventory credit on the basis of stored agricultural produce is widely used in Latin American countries and in some Asian countries. ^[6] A precondition for such credit is that banks must be confident that the stored product will be available if they need to call on the collateral; this implies the existence of a reliable network of certified warehouses. Banks also face problems in valuing the inventory. The possibility of sudden falls in commodity prices means that they are usually reluctant to lend more than about 60% of the value of the inventory at the time of the loan.

References

^ Financial dictionary, formerly at http://www.specialinvestor.com/terms/1072.html, Special Investor
^ Relevance Lost, Johnson and Kaplan, Harvard Business School Press, 1987, p126
^ Relevance Lost: The rise and fall of management accounting, p130, Johnson, H T, Kaplan, R S, Harvard Business School Press, 1987, ISBN 0-87584-138-4
^ Boucher, Geoff (2008-12-22). "VHS era is winding down". Los Angeles Times. http://www.latimes.com/entertainment/news/la-et-vhs-tapes22-2008dec22,0,5852342.story. Retrieved on 2008-12-28.
^ Italian Notebook.com [1]"Who moved my parmigiano?" 24 February 2009
^ Jonathan Coulter and Andrew W. Shepherd [2], Inventory Credit – An approach to developing agricultural markets, FAO, Rome, 1995

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Translations: Inventory

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Dansk (Danish)
n. - lager, lageroptælling, status, fortegnelse, liste
v. tr. - tælle op, gøre status

Nederlands (Dutch)
inventaris, inventarislijst, overzicht, voorraad, inventarisatie, inventariseren

Français (French)
n. - inventaire, (US) stock
v. tr. - inventorier, cataloguer, faire l'inventaire de

Deutsch (German)
n. - Inventar, Bestandsliste, Warenbestand
v. - inventarisieren

Ελληνική (Greek)
n. - κατάλογος, ευρετήριο, (λογιστική) απογραφή, απόθεμα, στοκ
v. - (οικον.) απογράφω, διεξάγω (λογιστική) απογραφή

Italiano (Italian)
fare l'inventario, inventariare, inventario

Português (Portuguese)
n. - inventário (m), estoque (m)

Русский (Russian)
составлять опись, суммировать, ведомость, инвентарь

Español (Spanish)
n. - inventario, existencias
v. tr. - inventariar, hacer un inventario de

Svenska (Swedish)
n. - inventarium, bouppteckning, lager
v. - inventera

中文（简体）(Chinese (Simplified))
详细目录, 存货清单, 编制, 盘存, 把...登入目录

中文（繁體）(Chinese (Traditional))
n. - 詳細目錄, 存貨清單
v. tr. - 編制, 盤存, 把...登入目錄

한국어 (Korean)
n. - 물품명세서, 재고품, 재고조사
v. tr. - 재산 목록에 기입하다, 재고품을 조사하다

日本語 (Japanese)
n. - 目録, 在庫品
v. - 目録を作る, 目録に記入する

العربيه (Arabic)
‏(الاسم) قائمه, بيان مفصل بالصفات والقدرات الخ, المخزون (فعل) يجرد, يعمل قائمه مفصله‏

עברית (Hebrew)
n. - ‮מלאי, מצאי, הודעה על מצב העניינים‬
v. tr. - ‮ערך רשימת מצאי, קטלג‬

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inventory

Contents

Origins of the word Inventory

Business inventory

The reasons for keeping stock

Special terms used in dealing with inventory

Typology

Inventory examples

Manufacturing

Logistics or distribution

High level inventory management

Accounting perspectives

The basis of Inventory accounting

Accounting for Inventory

Financial accounting

Inventory Accounting

FIFO vs. LIFO accounting

Standard cost accounting

Theory of Constraints cost accounting

National accounts

Distressed inventory

Inventory credit

See also

References

Further reading

External links