Inventory and Profitability

Unless you manage your inventory carefully, it can pose a major barrier – and even risk – to financial growth. Right now, with goods and materials sometimes difficult to obtain and prices increasing rapidly, companies need to manage their cash flow carefully. Otherwise, the opportunity for growth can turn into major losses. You also need to ensure you are setting aside sufficient funds to cover sales tax.

It is certainly tempting for a company to increase pricing to maintain profits, but that may backfire and hurt your overall profitability. You need to consider the longer-term impacts, such as a potential reduction in sales volume or declines in demand as customers make substitutions, delay purchases, or even find a new company to do business with in response to the new pricing. You may be able to offset some of the additional cost and maintain profitability if you had inventory on hand before prices changed, but sustained increases in inventory costs will eventually catch up to you.

When your business involves the sale or resale of goods, keeping on top of sales tax rules and regulations is critical too. Many states now have nexus rules related to where businesses warehouse inventory or fulfill orders. Work with your accountant to do a thorough assessment of your order process and make sure that:

  • Restocking and ordering processes are maximizing cash flow;
  • Unsold inventory is properly accounted for on the balance sheet; and
  • Sales tax is being collected everywhere the company has nexus.

Inefficient inventory management can lead to losses. Cost increases can happen due to poor logistics management, especially when shipping the wrong products causes increased customer returns. Of course, if the inventory is out of stock, it can’t be sold, so you need to understand the demand cycles for your products, but that can be challenging right now too with consumers delaying purchases due to rising costs and less disposable income. And lastly, overstocking can cause cash flow issues in addition to increased inventory costs.

What should you do in these challenging times to manage inventory and maintain profitability? The complete answer varies on a case-by-case basis, but here are a few tips:

  • First and foremost, make sure your accounting records for Cost of Goods Sold (COGS) is accurate.
  • Do not overlook inventory storage costs that may not be as obvious, such as the cost of labor and management associated with inventory storage as well as order fulfillment.
  • If you are using third party fulfillment for inventory storage, make sure you are properly accounting for that cost.
  • Carefully audit and track your inventory to ensure you do not incur losses due to shrinkage and damage.

At the end of the day, a conversation with your accountant and business advisor can be worth its weight in, well, inventory.