In 1996 Bob and Billy decided to start a business with the concept of importing unique accessories from Europe and combining them with high-end and often difficult to acquire, home furnishings, specifically furniture with a quick delivery goal of less than two weeks. At the time, furniture production took an average of twelve to fourteen weeks. To counter this roadblock, they decided to purchase specific items that were readily available, off the floor from wholesale sources, as well as take on consigned items from local designers. At trade shows in Paris, London, Italy, and New York, they sourced accessories. They then invested thousands of dollars, counting on that inventory to arrive within six to eight months. Next, they leased a store in a high-profile shopping district and opened their doors with the furniture and only a few of the earliest arriving accessories.
High rent is a ticking bomb when there are no sales to support a business. With unexpected delays pushing the bulk of costly accessories well into December, the company had limited sales. By then, the window for desperately needed revenue had ended and the company struggled to survive.
What is inventory?
Selling goods or inventory is what most companies rely on to generate revenue. Inventory is not just the product sold but the components used in making the goods, which can even include packaging. Three basic components of inventory include:
- Raw materials including all items necessary to produce the finished goods.
- Work in progress; the raw materials on the assembly line during the production process.
- Finished goods or items completed and ready for sale
Inventory is generally a company’s greatest asset but spending too much to acquire and hold it can be detrimental.
At the time Bob and Billy started their business a well-known retailer of home furnishings had extensively studied the concept of delivering custom sofas with a choice of three different sizes and the option of ten different fabrics. It would have cost over a trillion dollars, they estimated, to stock readily available sofas in all sizes and every color for their fourteen stores.
Why do I need to count my inventory?
Inventory management is another key to a successful business. Holding a large amount of inventory is generally not good for companies, especially if ongoing production costs and storage is not offset by steady sales. There are many reasons to count inventory:
- Track business performance by monitoring the speed of inventory turnover. A fast turnover in sales and delivery can be a great advantage over competitors.
- Lower holding costs by reducing slow selling items or goods with obsoleting risks. This can make the business more efficient and profitable. Think of holding onto aging inventory like that special holiday cookie Dorris in R&D created on a whim last November. Nobody wants to eat a six-month-old chocolate chip cookie with dried cranberries and snow-white sprinkles come June.
- Avoid taxes: While inventory is considered an asset, it may become a liability if held for too long (consult a professional tax advisor) and in some cases may be taxed.
- Loss prevention: When raw materials don’t meet expectations at the finished goods stage because bags of chocolate chips go missing from the assembly line, you can thank inventory control for catching the problem before a supply issue arises with your buyers.
What is the difference between current and long-term assets?
The economic value of inventory is generally measured in its short-term value over a one-year period. The exception being large, manufactured items like airplanes, or heavy construction equipment that often require finding a buyer.
As your company acquires inventory its value goes up. When inventory converts to cash from sales the balance goes down. Depreciating inventory at the end of the year works similarly.
Taking stock at the end of the year of old, damaged or the loss of finished goods, can be depreciated on your balance sheet to reflect what remains. The remaining inventory may convert to long-term assets.
*Always consider consulting a tax professional for possible liabilities as depreciation rules don’t apply the same for inventory as other assets.
My employees hate doing inventory, how can I make this easier for everyone?
In an earlier blog on automation, integrating inventory through an automation process is key to making inventory control easier on employees. Do your research and find a system that is efficient, easy to use and cost effective.
Establish step by step monitoring systems from ordering to receiving raw goods, during assembly and production, to when the final goods ship. This will make the process easier. However, relying on the input of information into a computerized system is not to be taken for granted. A checks-and-balance monitoring of the process along the way requires human guidance and often physical labor. When it comes time for the year-end physical inventory count, make an event out if it. Close the doors, provide food, and have a celebration at the end. After all, discovering there is only one box left of Dorris’s crazy cookie concoction is something worth celebrating.
For additional information on year-end inventory and how to do your inventory efficiently (and painlessly) please contact us at the Small Business Development Center – SBDC – Serving Paris area: Lamar, Hunt, Hopkins, Delta, and Red River counties.