21422, 836 PM Invertory Management prineiplesofacceurtng.com Inventory Management ‘Text (/www.principlesofaccounting.com/chapter-6/) Problems (//wwwprinciplesofaccounting.com/chapter-8/problems/) Goals Achievement (/www.principlesofaccounting.com/quizzes/chapter-8-goals-achievement/) Fill n the Blanks (/wwwprinciplesofaccounting com/quizzes/chapter-8-fillin-the-blanks/) Multiple Choice (/wwwprinciplesofaccounting com/quizzes/chapter-8-multiple-choice/) Glossary (//www principlesofaccounting.com/chapter-8/glossary/) The best run companies will minimize their investment in inventory Inventory is costly and involves the potential for loss and spoilage, In 8- inventory Menage... the atematve, beng Gu of stock may resutinlost customers 0 ao delicate balance must be maintained. Careful attention must be paid to the inventory levels. One ratio that is often used to monitor inventory is the Inventory Turnover Ratio, This ratio shows the number of times that 8 firs inventory balance was tumed (sold) duing = year It is caloulatedby dividing cost of sales by the average invertor level Inventory Turnover Ratio vyExceLab (http://www.myexcelab.com/Chapter8/Inventory%20Turnover%20Ratio.xlsx) If a company's average inventory was $1,000,000, and the annual cost of goods sold was $8,000,000, one would deduce that inventory tumed over 8 times (approximately once every 45 days). This could be good or bad depending on the particular business; if the company was a baker it would be very bad news, but a lumber yard might view this as good. So, general assessments are not in order. What is important is to monitor the turnover against other companies in the same line of business, and against prior years’ results for the same company, A declining turnover rate might indicate poor ‘management, slow moving goods, or a worsening economy. In making such comparisons, one must be clever enough to recognize that the choice of inventory method affects the results. itp: principlesctaccoursng.comichapter-limertory management! 19272,836 PM Imertory Managem rniplesfacctrting om Inventory Errors In the process of maifitaining inventory recofds and the physical count of goods on hand, erors may Occic It is quite easy to overlook goods on hand, count goods twice, or simply make mathematical mistakes. It is vital that accountants and business owners fully understand the effects of inventory errors and grasp the need to be careful to get these numbers as correct as possible. A general rule is that ovetstatements of ending inventory cause overstatements of income, while “understatement of ending inventory cause understatements of income. For instance, compare the following correct and incorrect scenario, where the only difference is an overstatement of ending inventory by $1,000 (note that this general rule is only valid when purchases are comectly recorded) Pam ere a a es a a = Wicca ad = = = Caton Fea aa aon Ronco Had the above inventory error been an understatement ($3,000 instead of the correct $4,000), then the ripple effect would have caused an understatement of income by $1,000. Inventory errors tend to be counterbalancing, That is, one year’s ending inventory error becomes the next years beginning inventory enor The genera ule of thumb is that everstatements of begining inventory cause tht years income to be understated, and vice versa. Examine the following table where the only error relates to beginning inventory balances: Leer eer OS ms ae ee er a ace a eae = soso sso Comet os oo ae os Hence, if the above illustrations related to two consecutive years, the total income would be correct ($13,000 + $13,000 = $14,000 + $12,000). However, the amount for each year is critically flawed, Did you learn? itp: principlesofaccoursng.conichapter-limertory management! 2924422, 896PM Invertory Management prineplesofacceurting.com Did you learn? Be able to calculate the inventory tumover ratio. Understand the importance of managing inventory investment and activity. Consider the impact of inventory errors, and note the effect of these errors on subsequent accounting periods. 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