The aim of a physical inventory is to record and list the inventory of a business. In principle, there are two types: physical and book inventory.
Inventory is the process of listing a company’s belongings, i.e. its assets and liabilities, either on a specific date or on an ongoing basis. There is a purely physical inventory and a book inventory. While in the physical inventory all items such as goods, plant or machinery are counted, in the book inventory the assets and debts, receivables and liabilities are noted. All together, this finally forms the inventory, a stock list in which all the assets of a company are listed. Stock Availability
What is meant by an inventory?
In an inventory, not only are all existing stocks of goods, machines and equipment in the company counted and recorded, but also the intangible assets, i.e. the debts and the assets. Everything that belongs to the so-called inventory goes on the inventory list. The legal foundation of the inventory is the German Commercial Code. It obliges traders to take inventory and defines it as part of proper bookkeeping. It also stipulates when a stocktaking must take place:
when a company is newly founded
when the owner changes
when there is a takeover of the business or when the business is closed down
and, by default, at the end of a business year.
If there are differences between the target and actual stocks, the target stocks must be corrected. Likewise, this difference must be included in the profit and loss account accordingly.
Why is it necessary to take inventories?
Inventories allow a good overview of the company. If there is a difference between the target and actual values for goods, this can indicate various problems. This is the best way to proceed:
- identify the shrinkage: Anyone who runs their business in the retail sector knows that goods are repeatedly lost through theft. This leads to discrepancies in the annual stocktaking. Even if theft cannot be completely prevented, it can be used to assess whether security measures are worthwhile. In addition, this step reveals any damage to goods or even missing orders.
Preventing differences: If missing stocks are identified, this difference is also reflected in the missing turnover or profit. If you really want to achieve your business goals, you should identify these differences as early as possible. Then it is still possible to change course.
- determine product performance: Knowing which goods are sold quickly and which slowly helps with planning. If goods are on the shelf for a long time, they may sell faster with appropriate discounts. Sometimes it also helps to improve the presentation of goods.
- optimise the ordering of goods: With regular stocktaking, shortages can be identified and timely orders can be arranged. If goods were damaged during transport, they are still on the books as available goods – inventories reveal these inconsistencies.
5 Review the pricing strategy: Regular inventories help to keep track of assets. This makes it easy to analyse profits and sales, and to adjust pricing policies accordingly.
This is how a manual inventory works
Before the inventory: Once the date has been set, a schedule helps to clearly structure the process. First of all, it must be determined whether production or sales will continue, be reduced or be closed during the inventory. A responsible person is appointed for each section or area. Depending on the size of the company, individual areas are defined, the stocks in them are sorted and tidied up. If goods or other inventory are defective, damaged or expired, they are separated.
Forms for recording goods, machinery and equipment.
Lists for goods that are sold or expected to be delivered during the inventory
Pens, slips of paper, scales, ladders, calculators
The personnel carrying out the stocktaking in the respective area must be instructed accordingly
During the inventory: The inventory manager closes the respective recording area: All goods must remain in place.
These rules make counting easier:
- the goods on each shelf are counted from top to bottom and from left to right
- one employee counts, one employee writes everything down: In addition to the name of the items, the product group is noted, the quantity, the age and the price of the products.
After the inventory has been completed: When all stocks of goods, machines and equipment have been counted, the completed inventory lists are presented to an auditor. The auditor makes sure that both the counter and the recorder have signed the inventory lists. He also checks whether the lists are complete and legible.
What types of inventory are there?
The inventory on a specific date: This is carried out on a specific date. All stocks are counted and recorded in their entirety and entered in lists. The actual recording of stocks does not have to take place on the cut-off date itself, but can take place up to ten days before or after this cut-off date. If goods are bought or sold during this period, i.e. if there are additions or disposals, these are recorded with the corresponding documents, updated or counted back. All goods are noted with their purchase value. If the stocks are so large that it is not possible to take them on the actual reference date, a so-called postponed inventory can take place.
The time-delayed inventory (also called postponed inventory): With this type of inventory, the period of time during which the inventory is carried out is significantly longer. The actual inventory can be carried out up to three months before and two months after the cut-off date. This gives the company five months. Anyone who wants to use this type of inventory must apply to the tax office.
The permanent inventory: With this type of inventory, the entire stocks are not noted on a certain cut-off date, but during the entire business year. The stocks are transferred to the inventory on the cut-off date. For this type of inventory, a so-called stock ledger, as well as all receipts for additions and disposals, must be properly kept. Once a year, the target stock from the stock book must be compared with the actual stock. This is usually done by means of a physical inventory.
The inventory sampling: As the name suggests, with these types of inventories an extrapolation may be carried out on the basis of samples. This also requires the approval of the tax office.
The book inventory: With the book inventory, all those assets and the inventory are noted that cannot be recorded by a physical inventory.
The physical inventory: With this type of inventory, all business assets that can be counted, weighed or measured are determined. A retailer counts all goods, an optician counts frames, glasses and other accessories, and a computer retailer counts all stock. This type of inventory is very accurate, but also very time-consuming.
Legal regulations and objectives of stocktaking
The Tax Ordinance obliges in §140 and §141, and the Commercial Code in §240 to carry out an annual inventory. No annual financial statement is possible without such an inventory of the company’s assets. Conversely, this also means that companies only have to take inventory if they prepare a balance sheet. After all, the inventory proves that the bookkeeping is in order. If this is not the case, the tax office can estimate the business profit either partially or even completely.
As a result of stocktaking, an inventory list is drawn up: This lists all items owned by the business, regardless of whether they have an actual value or not. This list is the so-called inventory and must be signed by the entrepreneur himself. In the event of an audit, it must be possible to determine from the inventory list what quantities are present and what values correspond to them. Therefore, each entry in the inventory must be unambiguous and contain the following information:
A generally understandable designation according to type, size and with the corresponding article number
the quantity present and the value of the unit of measurement
The inventory is required by law. Non-compliance can have serious consequences.
(Picture: ©industrieblick – stock.adobe.com)
The scope of inventories
If a stocktaking is carried out, the stocks must be recorded separately according to areas and rooms, such as the warehouse, workshop, shop window or salesroom. All operating and auxiliary materials must also be included in the inventory list. The inventory can also be estimated. A distinction must be made between finished and unfinished products. If products are still in production, the degree of production should be noted in the inventory. Worthless or inferior goods must also be included in the inventory. If necessary, these goods can be valued at 0 Euros.
In principle, the following applies: All movable objects of the business’s fixed assets must be noted in the inventory. This also includes plant, machinery and items that have already been depreciated for tax purposes. If assets are of a lower value, they can be recorded in a special inventory. If vehicles, for example trucks or cars, are used for business purposes, these also belong to the inventory. In the case of a properly conducted inventory, the mileage must also be recorded as of the reporting date. Likewise, all liabilities and receivables must be written down, each debt bill and each possession must be recorded individually.
The valuation procedures for inventories
- individual or group valuation: each item belonging to the enterprise must be listed individually in the inventory and must be valued accordingly. If the company’s bookkeeping is in order, similar items can be grouped together and valued at an average value.
- fixed value: If auxiliary and operating materials are replaced regularly and the total value is subordinate, they can be assessed with a constant value and quantity in the different types of inventory. This applies above all if they are subject to only minor fluctuations in their total value and the size of their stock. In this case, they do not have to be recorded annually, but only checked on every third reporting date.
Where do inventory differences come from?
If the actual stock counted in the inventory differs from the stock of goods in the accounts, this difference is called an inventory difference. Such a difference can occur if the stock of goods is not properly kept in the books or if the goods are marked with incorrect prices. Breakage, spoiled goods and theft can also lead to inventory differences.
If an inventory difference is found during a stocktaking, this initially only means that a certain business transaction was not properly recorded. This happens either due to negligence or due to external effects.
Theft by customers or staff
Breakage, shrinkage or spoilage of goods
Errors in taking cash
Errors in scanning prices
The actual inventory was not carried out properly
How can companies prevent inventory discrepancies?
According to statistics, a loss of almost 7 million euros occurs every day due to theft from salesrooms, warehouses or temporary storage facilities alone. Retailers who want to minimise their losses and thus prevent inventory discrepancies can take preventive measures:
Surveillance by cameras
Training of the staff
Evaluation of receipts and data from merchandise management systems
Sales supports that inhibit theft