Inventory What is inventory, how is it classified, valued and shown in the manufacturing accounts

What is inventory Inventory is the stock held by the business Recorded as: – Raw Materials * Components used to manufacture the finished product – Finished goods / goods purchased for re-sale Products ready for despatch / sale – Work in progress WIP/ part finished goods Product in varying stages of production * Consumables are items required for administration function rather than the manufacturing function

The process of recording inventory Materials/ goods ordered from supplier– purchase order Materials/goods are received by the business from the supplier – invoice and Goods Received Note (GRN) Materials/goods logged into the warehouse/ stores – Inventory record & Stores Ledger Account Materials/goods taken for manufacturing/ sales process –Material/Goods Requisition Form(MR) Excess Materials/goods returned to the stores – Material Returns Note (MRN) This process is known as Perpetual Inventory System and records should be updated continuously

Recording inventory Inventory cards – Each component/ material used the manufacturing of a product has an Inventory card – Records held in the stores department – Gives description of the material/inventory – Unique code for the item to help identification unit – Inventory unit, how the item is measured, single, pairs, weights and measures – Location of the unit, for stores department – Inventory control, maximum and minimum levels of the units held, re-order levels and quantity – Inventory activity, gives details of the number of units taken for production (MR) Units received from suppliers (GRN) And Balance of remaining units

Recording inventory cont Stores ledger accounts – Held in/by accounts department – Contains the same information as inventory card – Also shows the inventory cost values Value of the units purchased (GRN) Value of the units used in manufacturing (MR) Value of the remaining unit (balance ) – Store ledger accounts are used in costing accounting – Held separately from the stores department – The accounts can be used as a control to check the records are accurate

Material requisition form Form used by the production function to the stores department – Completed to request materials from the stores – An official form that must be authorised by specific staff members – The authorised form is used to Update inventory card Update stores ledger accounts Charging/allocating the costs to job, overhead or department – Price details and costs are added by the accounts department before recording to store ledger accounts

Valuation of inventory We know how much the inventory cost when purchased, as this can be found on the invoice The items are used in production We re-order the materials but the price has increased How do we value the inventory when we have varying unit prices? We use the following methods: – FIFO First in First out – LIFO Last in First out – AVCO Average cost

FIFO - First in, First out First item purchased is the first item issued Inventory units are issued at the earliest invoice price relating to the inventory held As the inventory is issued, work forward through to the later price Inventory on hand is valued at the latest price held, working backwards This method is used on perishable goods Closing inventory is shown as a higher value which gives a better profit for the period

LIFO Last in, First out LILO is not a permitted method of inventory valuation so is rarely seen in practise Last item purchased is the first item issued Items issued are costed at the latest invoice price and worked backwards to the earlier price Inventory on hand is valued at the earliest price held working forwards This method can result in a higher volume of obsolete stock – Closing inventory is shown as a lower value which gives a poorer profit for the period

AVCO Average cost An average cost of the inventory is calculated each time new stock is delivered Using a weighted average cost as: Existing inventory value plus total value of new inventory Divided by Existing units plus additional units received

Manufacturing Account For financial and management accounting you must identify the cost of sales for the actual sales not the inventory of that period. This is prepared on a Manufacturing Account – Also known as Cost statement for manufactured goods To show the cost of sales you must: – Start with: Cost of inventory held at beginning of period (raw materials, part finished and finished goods ) – Add direct costs of raw materials purchased, labour plus indirect costs & manufacturing expenses/overheads – Less cost of inventory (raw materials...) held at the end of the period

Format of management accounts DetailsActionValues Opening inventory of raw materials Purchases of raw materialsPlus Closing inventory of raw materialsLess DIRECT MATERIALS USEDxxxx Direct labourPlus DIRECT COST (prime cost)xxxx Manufacturing overheadsPlus MANUFACTURING COSTS (factory manu costs)xxxx Opening inventory of WIPPlus Closing inventory of WIPLess COST OF GOODS MANUFACTURED (factory cost of...)xxxx Opening inventory of finished goodsPlus Closing inventory of finished goodsLess COST OF GOODS SOLDxxxx

Further calculations From the management accounts a business can calculate the gross profit as: – Revenue less cost of goods sold = gross profit If the business only produces one product it can calculate the cost per unit/product which is known as: Unit Product Cost – Materials – total material cost divided by number of units – Labour – total labour cost divided by number of units – Expenses – differing methods