Inventory and inventory management represent a number of potential profits and losses for a company, starting with the direct revenue from inventory sales. Inventory can also create indirect costs in the form of inventory management, and poorly managed inventory can lead to additional losses through inefficiencies or stocking issues.
Direct Impact on Profit & Loss Report
First, inventory changes will have an impact on the profit & loss report for a period entered on the account line for Sales of Product Income under the Income section, as QuickBooks notes. Inventory also shows up as an asset on the balance sheet, but this has less of a direct impact on cash flow.
Note: While you may not see the word “inventory” on a business income statement, it’s usually there too – hiding as part of the Cost of Goods Sold (COGS), which is typically included on the income statement of any business selling products. COGS is found by calculating the costs to create or purchase the inventory goods that were sold in a specific time period, as Accounting Coach explains.
Inventory and Indirect Costs
Inventory is also responsible for a certain amount of cash leaving the business due to indirect costs that are not recorded in the COGS formula, and that are sometimes difficult to quantify. For example, a business managing its own inventory will need to pay for storage, labor associated with stocking new inventory, human resources costs associated with managing those employees and so on. If a business is using third-party fulfillment for inventory storage, that will be signified by a more direct fee to the vendor.
Problems like these can be mitigated with more robust inventory management systems, better tracking systems, more inventory automation and clear employee guidelines. These, of course, represent their own inventory-related costs, but they can also cut down on ongoing expenses.
Inefficient Logistics and Losses
Inefficient inventory management can also lead to losses. For example, if inventory is not tracked and stored properly, it can be lost, which is a basic subtraction of its cost that the business cannot recoup. Poor inventory oversight can lead to a greater amount of theft, which is also a loss – and one reason that problems like these have their own accounting journal entries to record when necessary.
Poor logistics can also cause more complex problems for a company. If the wrong product is picked and shipped, then a customer is likely to return it, and may also ask for a refund, leading to lost revenue. If this happens frequently, it can lead to a poor reputation and the loss of potential customers, too.
Stocking Issues and Losses
If the inventory is out of stock, it can’t be sold. This is a significant issue if a business is not tracking stock properly and there is no inventory to meet current demand, leading to lost revenue. Automated stock alerts and inventory re-orders can help prevent this, but a business still needs to understand demand cycles for its products.
Overstocking and Cash Flows
Finally, there can also be issues with overstocking and the long-term strategies a company uses in inventory management. If a business is spending money on a significant amount of inventory that is not being sold, that overstocking both creates new costs, such as extra storage and ties up cash in a far less liquid form.
However, immediate inventory turnover is not always desirable, and overstocking does have its place. For example, seasonal businesses may overstock before their busy season if they know that demand will rise sharply and they want to make sure they have enough inventory on hand without causing delays via re-ordering over and over.
