We’re now officially in the back half of the year! Do you know how profitable you are? If you have not done an inventory true up yet this year, I challenge you to take that step now before you get into Q4 crazy days. If you have been booking COGS all year, without looking at your inventory account, you may be missing activity that can change your bottom line. One client told me that he never looked at inventory until early January and when he did, he had to book a $80,000 write-off of inventory. This one adjustment took him from a profitable year to a loss. Take the time now to understand what is going on with Inventory so you can adjust and make the most from sales for the rest of the year.
What is a True Up?
If you do a journal entry every month based on just the cost of the units sold, your inventory might still be off from time to time. This happens for many reasons. First, you may have damaged, stolen or lost inventory and you need to remove it from your books by writing it off. You may also have items that have expired, and you decide to donate them. No matter the circumstance that creates this issue, you want to periodically look at the actual value of what you have on hand. In some cases, a physical count of what is in your possession is a useful exercise.
To create this true up, you will count what is on-hand in your warehouse and download the count from Amazon and then apply the unit costs to each SKU. The total of these values is the value you should have on your books for inventory. Compare your calculated number to the value of the Inventory Account on the Balance Sheet and you can see how close you are. Remember that timing matters. So just after you’ve recorded your COGS entry is a great time to make the count. If you find that you are off, you will want to book a true up entry for the difference to your Inventory Account to get the value of your physical count to match your books. The other side of the entry is Cost of Goods Sold (COGS), though you may want a separate COGS account just for true ups – e.g.: “Inventory Adjustment.”
Prepaid Items and Items In-Transit
When you calculate your true-up entry, if you find that you are off quite a bit, you should look at two areas: prepaid items and items in transit. These are areas where you have dollars hitting your books, but the items may not be in your possession to count in your physical inventory.
An example of a prepaid item is where you have paid a down payment to your manufacturer. In this situation the money has left your business, you have paid for them partially but there is nothing to count. An example of in-transit would be for items for which you have paid the entire balance and the products are on a ship for 60 days, or where you sent them to Amazon at the end of the month, but they have not been accepted in at the time of your month-end inventory/Cost of Goods Sold entry.
If your direct costs do not appear to make sense comparing them month by month with your sales, many times these issues can be at play. By doing the true ups, they work themselves out typically in a quarter, but if you want to get more sophisticated in your accounting you can create additional asset accounts on your balance sheet to hold these costs until the products are in your possession and the counts will match.
As you can see, Inventory has lots of wrinkles that can impact your bottom line. I know you’re working on your business so that it supports you and not the other way around. This is one place you can spend a little time to ensure your inventory dollars are making you the most money possible.
Download your copy of our newest ebook, Inventory Basics—What Every Ecommerce Seller Needs to Know. This quick guide brings it all together so you can manage your inventory with skill and accuracy, and most of all, profitability!
Interested in Profit First?
If your ecommerce business isn’t where you’d like it to be in terms of profitability, check out my book, Profit First for Ecommerce Sellers. It answers important questions about how to implement Profit First in an ecommerce business. Take control of your money and your business, and put Profit First to work for you!
You can also sign up for the Profit First for Ecommerce Sellers Online Course. As a Mastery Level, Certified Profit First Professional, I will teach you why Profit First works so well for ecommerce businesses and the particular challenges for businesses that have physical products requiring inventory management. You will learn how your behavior drives your money management habits for your business and how you can set up your business bank accounts to work with your habits.
Check out all our ecommerce accounting and profit advising services here!