Inventory Integrations & Valuations

Inventory Integration

When setting up BOS Enterprise you can choose to integrate your production system with your accounting system or to keep them separate.

Integrated (Perpetual) System

With an integrated system, all the transactions are posted to the ledger in real-time.

Process

1. Purchase materials:  Entered as Stock on Hand.

2. Issue the materials to a job: Transferred the materials from Stock of Hand to WIP

3. The job is complete: Transfer the materials from WIP to Cost of Sales, and any remaining materials back to Stock on Hand.

Advantages of an Integrated System

• No month-end procedure: All the entries are entered in real time. 

Disadvantages of an Integrated System

• Mismatch between income and expenses: Costs may be recognised before the job is invoiced. This could distort the gross profit margin.

• Extra ledger transactions: Inventory will need to be transferred from Stock on Hand to Stock: WIP and then from Stock: WIP to Cost of Sales.  When a job is complete, unused stock will need to be transferred from Stock: WIP back to Stock on Hand.

Periodic System

With a periodic system, all the transactions are posted to accrual accounts. Inventory movements are handled in the respective modules and posted to the Ledger once a month.

Process

1. All the Cost of Sales and Inventory entries are posted to Accrual Accounts.

2. Once a month, journal entries are made to clear the Accrual Accounts. These entries include:

   1. Transferring inventory used in production or sold to Cost of Sales.

   2. Transferring the remainder of inventory purchased to various Stock on Hand accounts.

Advantages of a Periodic System

• Fewer ledger entries: Instead of hundreds of small transactions, there are only a few journal entries. 

Disadvantages of a Periodic System

• Periodic journal entries are needed: A bookkeeper will have to process journal entries to record the Cost of Sales and Inventory. However, the transactions and amounts are provided by reports in BOS Enterprise, which simplifies the process.

• Financial Statements are not updated in real-time: Until the periodic journal entries are made, the financial statement will not be accurate. However, there is a Cost of Sales report which shows accurate sales and cost of sales data in real-time.

Which Integration Method to Choose?

• Choose perpetual (integrated) if most of your invoicing involves simple processes, such as selling finished goods, or offering a service.

• Choose periodic if your organisation has complex processes, assembles goods for resale, or uses only a portion of an item (e.g. half a reel). The periodic system will prevent an abundance of unnecessary entries in your ledger (that your auditors will want to check).

Inventory Valuation 

When setting up QuickEasy BOS Enterprise you will need to decide whether to use Inventory Weighted Average costing or not:  

• If you select N/A, the system won't make any updates to inventory pricing 

• If you choose Weighted Average Costing (WAC) you have an option to choose between valueing inventory based on Locations or Items.

Weighted Average Costing (WAC)

WAC calculates the cost of inventory based on the average cost of all similar items in inventory at the time of valuation.

Process

1. Sum the Total Cost of all Units in Inventory.

2. Sum the Total Number of Units in Inventory.

3. Divide the Total Cost by the Total Number of Units to get the Average Cost per Unit.

4. Assign this Average Cost to each Unit of Inventory.

Example

• Beginning Inventory: 100 units @ $10 each

• Purchase: 200 units @ $15 each

• Total Cost = (100 x $10) + (200 x $15) = $4,000

• Total Units = 300

• Weighted Average Cost per Unit = $4,000 / 300 = $13.33

Advantages of WAC

• It is simpler and easier to use: The WAC averages the cost of all similar units in inventory, making it a quick method for valuing inventory. 

• It evens out price fluctuations: Since the method averages out the costs of goods purchased at different prices, it minimises the impact of price volatility or fluctuations on the cost of goods sold (COGS).

• It provides consistency: WAC provides a consistent method for valuing inventory over time.

• It reduces the potential for manipulating the financial statements: Unlike methods such as Last In, First Out (LIFO) or First In, First Out (FIFO), which can be manipulated based on the timing of purchases or sales, the WAC method does not rely on specific transaction timing, making it harder to manipulate reported profits in the short term.

• It removes the need to track individual units: The WAC method does not require each individual item’s cost to be tracked separately. This can reduce the complexity of inventory management when dealing with large volumes of similar items.

Disadvantages of WAC

• It does not reflect current market conditions: It may not reflect the true current cost of inventory.

• It loses specificity: WAC loses the ability to match specific costs with specific inventory items, which could be useful for companies dealing with expensive or unique items.

• It can distort the financial statements: The averaging process can obscure the financial reality for companies experiencing significant price changes.

Last Price Method 

The Last Price Method values inventory at the cost of the most recent purchase.

Process

1. Determine the cost of the most recent Inventory purchase.

2. Assign this cost to all Units of Inventory until a new purchase is made.

Example

• Purchase 1: 100 units @ $10 each

• Purchase 2: 200 units @ $15 each

• Inventory Value = 300 units @ $15 each (assuming the last purchase is the latest cost)

Advantages of Using the Last Price Method

• It can bring tax benefits during inflation: If prices rise, the Last Price Method method deducts the higher cost of items thereby reducing the organisation's profitability and its tax. 

• It more accurately measures current costs: The Last Price Method more accurately reflects the current market conditions, because it uses the latest prices.

• It acts as a natural hedge against inflation: The Last Price Method accounts for the most recent (higher) prices which means the rising costs of goods are immediately reflected in COGS, which can help protect profit margins from the negative impact of inflation.

Disadvantages of Using the Last Price Method

• It is not globally accepted: This method is not accepted under the International Financial Reporting Standards (IFRS). 

• It obscures the true value of inventory: The Last Price Method can distort the value of a company’s inventory. For example, older inventory (purchased at lower costs) may remain on the balance sheet, leading to an understated value for the inventory compared to its real-world market value.

• It can distort the financial statements: In times of declining prices or when inventory costs are dropping, the Last Price Method can result in lower inventory values and understated profits because the latest, lower-cost items are considered sold first.

• It increases volatility in earnings: Since the most recent (higher) costs are recognised immediately in COGS, it can cause sharp fluctuations in reported profits from period to period. This can affect a company's valuation and make it harder to forecast future performance.

Which Valuation Method to Choose?

The Last Price Method should only be used if your inventory prices have risen dramatically and you need the tax break. 

In all other cases, the Weighted Average Method will give a more balanced view of your organisation's financial performance. It can also improve your organisation's financial standing because this valuation method is globally accepted.