Inventory is defined as assets that are intended for sale, are in process of being produced for sale, or are to be used in producing goods. Counting inventory is done in two ways: The Periodic method, which is a physical count daily, weekly, monthly or yearly, and Perpetual inventory method, which adjusts inventory with each transaction through computerized software, such as Fishbowl inventory.
Because prices of specific items can continually change, it affects the way a manufacturer accounts for materials it buys, and how a retailer accounts for the goods it buys and then sells, which affects its cost of goods sold (COGS) and its reported income.
The following equation expresses how a company's inventory is determined:
Inventory + Net Purchases - Cost of Goods Sold (COGS) = Ending Inventory
In other words, you take what the company has in the beginning, add what they have purchased, subtract what they've sold and the result is what they have remaining.
By re-arranging the formula you can get the COGS:
Beginning Inventory + Net Purchases - Ending Inventory = Cost of Goods Sold
In other words, you take what the company has in the beginning, add what they have purchased, and subtract the inventory at the end of the period, which would then equal the amount of units sold.
FIFO, LIFO and Average Costing Method
These are three of the most common methods of accounting for inventories. Here is a brief explanation of each:
Whichever method is used, it is important to stick to just one and not switch due to possible tax implications, unless you ask the IRS for permission to change.
Accounting for depreciation deals with adjustments that are made to company profits once a month, or once a year, to account for expenses such as depreciation and amortization. The IRS has a depreciation table that specifies the life span for various types of business equipment. See www.irs.gov for more information. The most common methods used of accounting for depreciation are:
Methods of accelerated depreciation, such as double declining balance and sum of the year’s digits, allocate more to the assets cost to the early years of its life, than straight-line depreciation. Accelerated depreciation yields lower income in those early years.