Mastering Inventory Management in Uncertain Times

The accounting backbone of inventory

It’s important to look at inventory management from an accounting perspective. You can think of your inventory as a holding account, waiting to be used. For example:

• Equipment purchased for a job is expensed as Cost of Goods Sold (COGS) in the Profit and Loss (P&L) statement
• Equipment bought without a specific job in mind is classed as an asset.

However, if the latter is used on a job, then it becomes an expense. Both the cost and the sale price are recognised on the P&L. This means that both the COGS and sale price will show up in your P&Ls. You can ‘hold’ these costs by putting them on the balance sheet first, and wait until the items are used.

While this is prudent practice, there are pitfalls to avoid.

The four most common inventory mistakes

This ‘extra step’ in inventory management can lead to mistakes if not done properly. These include:

Phantom inventory

Inventory tracking requires two steps – logging specific items by quantity and price when purchased, and then when used on a job. Many companies fail to track both, so if an item is used without being documented, it may be re-ordered. This creates ‘phantom inventory’, leading to falsely inflated profits.

Negative inventory

When ESCs purchase parts as a lump sum rather than recording each specific item, it can lead to impossible figures. For example, buying five speakers as a single purchase, and then selling five individual items, might result in negative inventory on your accounting system.

This overstates your costs due to a lower inventory value than what is in the warehouse. Compared to phantom inventory, negative inventory underestimates your profits.

Mixed units of measure

Smart home technology comes in many forms, but buying and selling in different units can cause problems. For example, we may purchase wire in spools and sell it by linear feet. If the units don’t match up, this could risk inaccurate pricing.

Untracked restocking

There needs to be a process in place for returning unused stock to the warehouse. If not, your accounting system cannot return the COGS to the inventory, resulting in overstated job costs and understated inventory costs.

The cost vs. benefits of holding inventory

The biggest inventory management benefits include an uninterrupted flow of work and lower costs. It is more efficient to have supplies on hand for jobs, and you may benefit from reduced costs with bulk purchases.

There are, of course, financial risks to running inventory. You’ll need to pay for space to store the equipment, as well as keep it maintained and safe from theft, damage or obsolescence. There may also be extra staffing costs to consider. The best option will depend on the nature of your jobs.

Strategies for smarter, leaner inventory use

If you’re confident that every purchase you make is for a job, you may have no use for an inventory at all. Purchasing in bulk can be cost-effective, but if you’re not sure where each item is being allocated, you may be better off with a general asset account that uses lump sums.

In both cases, the key is to be specific. Avoid stockpiling ‘just in case’ and instead develop a system for accurately estimating what equipment and materials are needed for each job. That way, you can tie up less cash on site and reduce your risk of making the abovementioned mistakes. Keep refining so that you have a detailed material list for every job.