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September 11, 2018 | Posted in:

Addressing Obsolete Inventory

Balance sheets should provide an accurate snapshot of your company’s net worth. But if the financial statements contain bloated asset values, you may mistakenly believe your business’s outlook is rosy when, in fact, the company is headed for a fall. One common cause of this balance sheet deception is not accounting for obsolete inventory.

Let’s say you’re in the business of selling computers. In the technology field, today’s state-of-the-art equipment quickly becomes tomorrow’s dinosaurs. If your warehouse is stocked with computers manufactured five years ago, that inventory may need to be sold or written off. Or, perhaps you sell appliances and a competitor across town is offering discounted prices on similar products. In these scenarios, inventory obsolescence may come into play.

“Write downs, reserves, and write-offs of inventory will have a negative impact on your company’s financial performance. When inventory is valued at less than cost, the company will have to absorb the loss of value and reduce the company’s profit. ” – Ren Cicalese III, CPA, MST

 

3 Tips for Handling Obsolete Inventory

 

Here are a few ways your business can account for obsolete inventory:

 

Write-downs.

If you can’t sell inventory for as much as you paid for it, the market value has dropped below its cost. Generally accepted accounting principles require inventory to be presented on the balance sheet at the lower of cost or market price. You may need to “write down” (reduce) inventory values to better reflect economic reality.

 

Reserve accounts.

Setting up a “reserve for obsolescence” account that’s periodically adjusted can help you monitor inventory values. This reserve is offset against the inventory account on the balance sheet, making it easy to identify inventory that’s considered subject to obsolescence.

 

Write-offs.

Despite your best efforts, inventory values may fall beyond recovery. To ensure the company’s records remain accurate, you may need to “write off” (reduce to zero value) obsolete inventory from your asset register and recognize the expense in a corresponding entry. Although net profits may suffer in the short term, overstated asset values tend to skew financial ratios that bankers, managers, and auditors use to assess the financial health of your business.

 

“Even if you must write off obsolete inventory, your company can still try to sell it. There are many companies out there that purchase excess, obsolete, and overstocked inventory at reduced prices. Selling to a company like that will help you recover a portion of your costs.

If you are desperate to sell off your old inventory, consider offering your sales team incentives on specific inventory items. This may help reduce the old inventory you’re carrying in your stock. ” – Ren Cicalese III, CPA, MST

 

Proper inventory accounting can keep your company on the right track. Contact us for assistance with better managing your inventory and accounting.
© MC 2018 | “Business Tips” are published monthly to provide useful business information. The business information contained in this site is of a general nature and should not be acted upon in your specific situation without further details and/or professional assistance.

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