Inventory can be a significant part of a small businesses financial statement. If insignificant, most small businesses simply expense all inventory when it is purchased; however if the dollar value of inventory is material and a key component to the business (e.g. Quick Service Restaurants), then inventory is handled differently on the books. Generally, inventory can be tracked in the point-of-sale (POS) system. When inventory is purchased and received it is entered into the POS and naturally when inventory is sold it is logged in the POS as part of the sales transaction. Let’s take a look at the flow of transactions.
Sample POS Report: Purchase of Inventory
| Inventory Item | Amount |
|---|---|
| Food | $1,000 |
| Beverages | $500 |
These purchases would make it to the books with the following journal entry:
| Account | Debit | Credit | Explanation |
|---|---|---|---|
| Food Inventory | $1,000 | Dollar value of food inventory purchased, which is reflected as an increase in inventory | |
| Beverages Inventory | $500 | Dollar value of beverages inventory purchased, which is reflected as an increase in inventory | |
| Inventory Payable | $1,500 | Total amount of inventory purchased that will be invoiced to the business owner and paid on a normal payment schedule |
At the end of a given period (could be week, month, quarter, year), inventory amounts are adjusted to actual. The actual inventory amounts would either come from physical inventory counts (where you literally are counting items) or from the POS system (more typical in the franchise space). We need to make an assumption before we can finish our walkthrough. We must assume the inventory purchased above is the only inventory we have ever purchased.
Sample POS Report: Dollar Value of Inventory as of End of Month
We need to post an adjustment to ensure the books are properly statement for monthly reporting purposes.
| Inventory Item | Amount |
|---|---|
| Food | $496.25 |
| Beverages | $205.55 |
The journal entry to adjust inventory to the actual dollar value on hand would look like this:
| Account | Debit | Credit | Explanation |
|---|---|---|---|
| Food Inventory | $503.75 | ($1,000 - $496.25) Reduces the dollar value of the inventory account by the dollar value of food used in the period | |
| Beverages Inventory | $294.45 | ($500 - $205.55) Reduces the dollar value of the inventory account by the dollar value of food used in the period | |
| Cost of Goods Sold - Food | $503.75 | Dollar value of food used in the period. This amount is an expense and operates as a reduction in gross profit (revenue - cost of good sold = gross profit) | |
| Cost of Goods Sold - Beverages | $294.45 | Dollar value of beverages used in the period. This amount is an expense and operates as a reduction in gross profit (revenue - cost of goods sold = gross profit) |
Inventory bookkeeping practices can vary greatly based on the type of industry you are in. If you have questions about what the best practice should be for your business please reach out to us!
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