Maximizing Profits with the Right Inventory Valuation Method

If you are a business owner who sells the products where the production process is done by yourself, it’s crucial to determine the value of your business inventory. The value of the business inventory has direct effects on the business assets, profitability, liability, etc.  

The number of inventory valuation methods is large, but choosing the best is crucial for the business. The business should follow the same inventory valuation method for effective results. 

This blog will guide you through the right inventory valuation method that results in maximum profits for your business. Continue to read. 

First, let’s know about what inventory and inventory valuation are.  

The term inventory refers to the goods or products held by a business for selling purposes and to earn profit. These inventories are current assets, and they represent the most important asset of your business.  

The inventory valuation is an accounting process that is helpful in identifying the value of unsold inventory stock. This inventory stock needs a financial value to make effective decisions by determining the turnover ratio. 

The major goals of inventory valuation are to maximize business profitability and to track the financial position of the business. And effective inventory management results in attaining maximum profit.  

The inventory valuation has two main objectives. They are mentioned below. 

• The first objective is the accurate income of the business can be identified. A closing stock list is required by the business to calculate the profit and to reduce the cost of the goods sold.  
• The second objective is the inventory valuation plays a crucial role in assessing the business's financial stability. Basically, this inventory is determined as the current stock in the balance sheet. This helps in analyzing the overall financial condition of your business. 

There are three different methods available for the inventory valuation process. They are listed and explained below. 

1. First In, First Out Method (FIFO) – The most common and easy-to-use inventory valuation method is FIFO. It is the process of selling the inventory purchased earlier. This method is applicable to the saleable goods produced by the business.  

2. Last In, First Out Method (LIFO)—This is the method of selling the new inventory first, and the old inventory will remain in the stock. This is a rare method of inventory valuation as the recent goods are sold first and the old goods stay as old stock. This results in an inaccurate calculation of profit or loss. 

3. Weighted Average Cost Method (WAC) – In this method, the cost of the item doesn't vary, and an average cost is maintained throughout the year. There is a specific formula for calculating the weighted average cost method, and it is mentioned below. 

Weighted Average Cost per Unit = Total Cost of Inventory Goods / Total Units in Inventory. 

Another method of identification is used in this inventory valuation, and it is specifically used for tracking the inventory right from the time it is sold. It is basically used for large and easily identifiable goods or products. 

Hope you got a clear view about the basic details of inventory valuation. We should know why the inventory tracking is crucial for your business. 

• The financial stability and profitability of the business are determined by this inventory valuation.  
• The inventory valuation has direct effects on the gross income, cost of goods sold, and cash flow of the business. 
• The inventory valuation method helps in making effective decisions.  

Overall, inventory valuation may seem difficult at first, but step-by-step demonstration makes the whole process simple. InvoiceTemple’s invoicing software helps in tracking the process of the inventory and makes the inventory valuation process easier. Make use of it and expand your business.