Inventory Management

Inventory refers to any goods a company holds as raw material or for the purpose of sale / resale or simply as end products out of a manufacturing unit. Controlling and managing inventory effectively such that there is no wastage or shortage of goods is known as inventory management. Inventory is a major asset for any company and is tied up with investment until that good is sold or used in production. Hence it is also directly proportional to the profit or loss that the company makes. 

Some components for a good inventory system:

1. Systematically placed location with names – The item must be systematically placed in such a way that the temperature and other environmental condition suit its storage. The location must also have a specific and unique name which can be easily located by employees.

2. Easy to read location labels - The names on the location labels must be clearly written. To avoid mistakes, try to print the labels in big and bold characters instead of handwritten ones. This will help the employees to store the inventory in correct location and avoid unnecessary hassle.

3. Unique item numbers – Numbering all the inventory items helps in easy reference and avoids confusion. But care must be taken to ensure each item type is uniquely numbered

4. Keep track of activities – A good inventory system must keep track of all the activities performed. This will help in keeping historical records and also provide insights. Access to the system must also be controlled and restricted.

5. Provide training – Employees are surely not expected to understand the inventory management system all by themselves. Training must be conducted for smooth functioning of the inventory management. Training manuals must be prepared so that employees can refer to it for any difficulty at a later point.

Inventory Valuation Methods:

As mentioned earlier, inventory is purchased by an organization for the purpose of selling it to customers. In the company’s balance sheet, inventory is reported as current asset. If the inventory is too less, it might result in loss of customers / sales. Excess inventory results in additional expenses (storage, insurance, etc) and the items might become obsolete too which results in loss. Hence it is important to monitor the inventory closely.

Cost of sold items – Cost of the item is usually the cost from the supplier plus any additional cost incurred during transporting or storing the item like handling charges, duties, taxes, etc. This cost is reported as the inventory cost until the item is sold. Once the item is sold, the cost is removed from the inventory account and reported as cost of goods sold on the income statement.

Inventory Costing Methods:

An organization must adopt an inventory costing method which remains consistent right from year one. Explained below are some of the common methods:

First In, First Out (FIFO) – This method is based on the assumption that an inventory purchased first is sold first. Hence, inventory cost under this method will be based on the latest purchase. Basically the oldest cost of inventory items (first-in) is assigned to cost of items sold. On the other hand, the most recent costs are assigned to items in ending inventory.

Last In, First Out (LIFO) – This method is based on the assumption that an inventory purchased last is sold first. Hence, the cost of the inventory will be based on cost of earliest purchases.

Average Cost Method (AVCO) – This method is calculated taking into consideration the weighted average cost of all purchases. Average cost is calculated each time a purchase is made and an item is added into the inventory.

An inventory management system helps organizations to manage huge inventory with less minimum manual labour. Though a cost must be incurred to put this system in place, it will prove efficient in the long run. 

About Author:

Kintu Racca is a consultant in Systems Plus Pvt. Ltd. Within Systems Plus, she actively contributes to the areas of Technology and Information Security. She can be contacted at kintu.r@spluspl.com