Definition: Inventory is an asset that is intended to be sold in the ordinary course of business. Inventory may not be immediately ready for sale. Inventory items can fall into one of the following three categories:
Held for sale in the ordinary course of business; or
That is in the process of being produced for sale; or
The materials or supplies intended for consumption in the production process.
This asset classification includes items purchased and held for resale. In the case of services, inventory can be the costs of a service for which related revenue has not yet been recognized.
In accounting, inventory is typically broken down into three categories, which are:
Raw materials. Includes materials intended to be consumed in the production of finished goods.
Work-in-process. Includes items that are in the midst of the production process, and which are not yet in a state ready for sale to customers.
Finished goods. Includes goods ready for sale to customers. May be termed merchandise in a retail environment where items are bought from suppliers in a state ready for sale.
Inventory is typically classified as a short-term asset, since it is usually liquidated within one year.
inventory as a company’s goods on hand, which is often a significant current asset. Inventory serves as a buffer between a company’s sales of goods and its production or purchase of goods. Companies strive to find the proper amount of inventory to avoid lost sales, disruptions in production, high holding costs, etc.
Manufacturers usually have the following categories of inventories: raw materials, work-in-process, finished goods, and manufacturing supplies. The amounts of these categories are usually listed in the notes to its balance sheet.
A company’s cost of inventory is related to the company’s cost of goods sold that is reported on the company’s income statement.
Since the costs of the items purchased or produced are likely to likely to change, companies must elect a cost flow assumption for valuing its inventory and its cost of goods sold. In the U.S. the common cost flow assumptions are FIFO, LIFO, and average.
Sometimes a company’s inventory of goods is referred to as its stock of goods, which is held in its stockroom or warehouse.
The body of accounting that deals with valuing and accounting for changes in inventoried assets. Changes in value can occur for a number of reasons including depreciation, deterioration, obsolescence, change in customer taste, increased demand, decreased market supply and so on.
BREAKING DOWN ‘Inventory Accounting’
It is a requirement of GAAP that inventory be properly accounted for according to a very particular set of standards, so as to limit the potential of overstating profit by understating inventory value, and to limit the potential to overstate a company’s value by overstating the value of inventory which has in fact materially depreciated in value.