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How Changes in Inventory Affect Your Bottom Line

The cost of inventory is only expensed when it is sold.  If you buy a lot of inventory at the end of the year but don't sell any of it, there is no expense to the company in that year.  During the next year, if you sell the entire inventory it would all be expensed in that year. 

Many small businesses don't account for changes in inventory until the end of the year when inventory is counted.  Typically they just account for purchases (a cost of goods sold account) and sales. 

You can account for changes in inventory anytime you know your inventory level.  You would decrease inventory and increase cost of goods sold (or the opposite if applicable) using a journal entry.   If inventory happens to stay at the same level, there would be no adjustment to make.  While changes in inventory causes cost of goods sold to change, this is only a timing difference and eventually all inventory is expensed.

Inventory can also be affected by obsolescence.  Sometime adjustments should be made to inventory for items that have decreased significantly in value.  A company that sells computers may have to "write down" (decrease) its inventory level for computers that are older and have lost value.

     
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