Inventory reconciliation is the process of balancing physical inventory with accounting figures. There are two types of systems: periodic and perpetual. A physical count is needed to compare actual items with accounting reports, and any differences must be noted and investigated. The purpose is to report accurate financial data and prevent overpaying taxes. It also helps demonstrate adequate internal controls and compliance with accounting standards.
Inventory reconciliation is a process in which a business balances its physical inventory against the figures from its books of accounts. There are two types of systems for reconciling inventory. Businesses can use a periodic or perpetual inventory system to conduct this business. As the names imply, a cycle counting system requires an inventory reconciliation several times a year, such as every quarter; the perpetual method does not have this requirement as an annual inventory is sufficient. In each system, a physical inventory count is needed to compare the actual items with the accounting reports so that the accountants can make the necessary adjustments.
In each inventory system, the process begins with the same initial steps. An individual in the accounting department typically goes out and counts all of the physical items listed as inventory. A copy of the book inventory from your computer can help guide the accountant when counting the physical inventory. Any differences between the inventory listed on the computer printout and the actual inventory require a mark on the report. All inventories must be tallied before the reconciliation process begins.
Once the physical count is complete, accountants can begin the inventory reconciliation process. This process requires the accountant to compare his physical accounts with items listed in the accounting system. Any differences and the resulting dollar differences should be clearly noted on the reconciliation report. The accountant must find the reason for these differences and track down any wayward inventory. For example, inventory sold but not yet posted to the accounting ledger can result in an inventory difference during the reconciliation process.
The purpose of the inventory reconciliation process is twofold. First, a company reports more accurate data on its financial statements, both on the income statement and on the balance sheet. Proper accounting statements and reports reflect the true value of the company and enable stakeholders to make better judgments. Second, an accurate inventory balance can prevent you from overpaying taxes. Government agencies can charge taxes on unsold inventories at the end of each year; too much inventory at the end of the year increases these fees.
Inventory reconciliation can help a business demonstrate that it has adequate internal controls. Theft, spoilage, and damaged inventory can significantly increase a company’s costs of doing business. Failure to properly control costs associated with inventory can quickly eat into a company’s profits. Auditors often look at internal controls as part of a firm’s external audit process. National accounting standards may also require compliance with inventory reconciliation procedures for certain types of companies.
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