How do you incorporate inventory write-downs and write-offs into your budgeting and financial planning?

1 Understand the difference

The first step is to understand the difference between inventory write-downs and write-offs, and when to apply them. A write-down is a partial reduction of the carrying value of your inventory, based on the lower of cost or net realizable value (LCNRV) principle. This means that you should compare the cost of acquiring or producing your inventory with the amount you can sell it for, after deducting any selling expenses. If the net realizable value is lower than the cost, you should record a write-down as an expense in your income statement, and reduce the inventory value in your balance sheet. A write-off is a complete elimination of the carrying value of your inventory, when it becomes worthless or unsalable. This means that you should remove the inventory from your balance sheet, and record a write-off as an expense in your income statement.

2 Monitor your inventory regularly

The second step is to monitor your inventory regularly, and identify any potential issues that may require a write-down or a write-off. You should keep track of the quantity, quality, condition, and marketability of your inventory, and use various methods and tools to measure and control them. For example, you can use inventory turnover ratios, aging reports, physical counts, cycle counts, perpetual systems, and barcode scanners to monitor your inventory levels and movements. You should also review your inventory policies and procedures, and ensure that they are consistent with the accounting standards and industry practices.

4 Record the write-downs and write-offs

The fourth step is to record the write-downs and write-offs in your accounting records, and report them in your financial statements. You should follow the accounting standards and principles that apply to your industry and jurisdiction, and disclose any significant or unusual adjustments in your notes. You should also reconcile your inventory accounts with your physical counts, and investigate any discrepancies or errors. You should record the write-downs and write-offs as cost of goods sold or operating expenses, depending on the nature and cause of the loss. You should also adjust your tax liability accordingly, as write-downs and write-offs may reduce your taxable income.

5 Analyze the impact and take corrective actions

The fifth step is to analyze the impact and take corrective actions to improve your inventory management and performance. You should evaluate the effects of the write-downs and write-offs on your profitability, liquidity, solvency, efficiency, and cash flow. You should also identify the root causes and sources of the inventory loss, and implement measures to prevent or minimize them in the future. For example, you can improve your inventory forecasting, purchasing, pricing, storage, handling, quality control, security, and disposal practices. You can also review your inventory valuation methods, and choose the ones that best suit your business objectives and needs.

6 Communicate and collaborate with stakeholders

The sixth step is to communicate and collaborate with stakeholders who are involved or affected by your inventory write-downs and write-offs. You should inform and consult with your management, employees, auditors, investors, lenders, customers, suppliers, and regulators about your inventory policies, procedures, adjustments, and results. You should also seek feedback and suggestions from them to improve your inventory management and reporting. You should be transparent and honest about your inventory challenges and opportunities, and demonstrate your commitment and accountability to achieve your inventory goals.

7 Here’s what else to consider

This is a space to share examples, stories, or insights that don’t fit into any of the previous sections. What else would you like to add?