Inventory management is a crucial part of accounting, especially for those businesses dealing in physical goods. Companies sometimes need to estimate the value of their inventory during a financial year. It may be for maintaining periodic financial records or to estimate damage or theft of inventory. While it may not be difficult for those dealing in a few products, but for large companies where the physical count is impossible, you need techniques to estimate the value of your inventory. There are two procedures to calculate, namely inventory- gross profit method and retail method.
Gross Profit MethodThis technique is used to estimate your ending inventory. However, it is no substitute for an annual physical inventory calculation. This method could be used for periodic or monthly financial statements to estimate the amount of missing inventory caused by theft, fire or any disaster. Gross profit method estimates the value of inventory by applying the company’s current gross profit percentage to the net sales and the cost of goods available. Follow the below mentioned steps to arrive at the ending inventory cost.
Gross Profit= $4,000,000-$2,600,000
Gross Profit= $1,400,000
Now, Gross Profit Margin= Gross Profit/Net Sales
Gross Profit Margin= $1,400,000/$4,000,000
Therefore, Gross Profit Margin= 35%
If the gross profit margin is 35%, the COGS is 65% of net sales. (Note: If the previous year’s gross profit margin is reasonable for the current period then you may use them for calculations)
$500,000 x 35%= $175,000
Retail MethodThis method of ending inventory calculation is used by retail businesses who track both the cost and retail sales price of the inventory. Follow the below mentioned steps to calculate the inventory through this method.
$258,000/$430,000 x 100= 60%
$30,000 x 60%= $18,000
While both of these methods help you calculate your inventory, it also depends on the type of business you operate in. Bookkeeping and accounting are a vital part of any business to estimate the financial status and also the value of tangible and intangible business aspects. Guidance of an accounting consultant can be helpful in finding the best solution for your business.