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Published on February 28, 2017 9 min
Other Talks in the Series: Analysing Financial Statements
Hi, and welcome to part four, Inventory. In this HSTalks lecture series on Analyzing Financial Statements. My name is David Bond. In this video, we'll look at how to account for inventory. Not withstanding the increasing emergence of the service industry and the knowledge economy. The sale of goods is still the lifeblood of many businesses.
When it comes to accounting for inventory, there are two primary considerations. The first, is how to account for the purchase of inventory and the second, is how to account for the sale of inventory.
But before we get started, what is in inventory? Inventories are assets held for sale in the ordinary course of business, for example, shoes in a retail store, in the process of production for such sale, for example, unfinished shoes being manufactured for sale often referred to as work in progress or in the form of materials or supplies to be consumed in the production process or in the rendering of services, for example, the leather to be used in the manufacture of the shoes.
The intent of the entity is important here as to whether a particular thing is classified as inventory or something else, for example, an airline manufacturer like Boeing, selling planes is what they do, as such, when you look at their balance sheet, planes will appear as inventory, however, for an airline like Qantas, they use planes for wide transportation services, as such, the very same planes for Qantas, would not be treated as inventory, rather it would be treated as property plant and equipment, which we'll look at in part five.
Regardless of whether the inventory purchased is the raw materials or the finished product, the entity will record the inventory purchased as an asset in the balance sheet. This would mean the journal entry would be debit inventory, credit cash, if the inventory was paid for in cash or debit inventory credit accounts payable, if the inventory was purchased on account. Now that we have the right account, we need to work out what amount gets recorded. According to the standards, the cost of inventories includes all cost of purchase, cost of conversion, and other costs incurred in bringing the inventories to their present location and condition.