How to calculate finished goods inventory? Why is it essential for your business?
March 14, 2022
Managing Inventory is often viewed as a hectic part of operating an eCommerce system. With so many factors involved in inventory management, it can be pretty tedious to keep track of stocks for your customers, particularly when you intend to dive into a multichannel inventory management system.
Inventory tracking can be even more complicated if you have your stocks split across multiple fulfillment centers. You will have to keep in mind about Inventory that is under the manufacturing process, the Inventory in movement, and the finished goods available for purchase.
It isn't easy to manage Inventory when you have all of these factors related to Inventory to keep track of. However, a particular tool can be of help to you, 'The finished goods inventory formula.'
When you are aware of the amount of finished Inventory, your small-scale business can precisely predict stock levels for enhanced tracking of Inventory.
Finished goods inventory is the stock that can be fulfilled for customers to purchase readily. With little help from the finished goods inventory formula, sellers can get an exact number for the Value of their goods that are for sale.
'Finished goods' is a subjective term. Let me explain this briefly. A seller's finished goods might not be a buyer's finished goods. For example, a footwear factory may produce materials that can be used to make footwear, such as loafers and sandals. While materials to make this footwear might be the factory's finished goods, they will have to sell them as raw materials to footwear retailers, who will then create them into the new finished product like leather shoes or footwear of any kind.
The timeline of finished goods inventory
There are two other stages of Inventory involved before arriving at finished goods inventory. Here's how the finished goods timeline goes.
Step 1: Raw Materials stock
An inventory of raw materials consists of all the ingredients and essential components that are involved in the production process. These materials are considered as raw materials inventory till they have been incorporated with the working of manual labor. An inventory is not regarded as essential when manual labor is involved.
Step 2: WIP Inventory
WIP inventory (work in progress inventory) is the process that occurs to Inventory in the middle of raw materials and finished goods. The WIP phase is the phase where manufacturing happens. However, not all Inventory goes through this phase. Specific processes do not go through this phase, and they directly travel to the finished goods phase.
Step 3: Finished Goods Inventory
When materials go through the manufacturing process, the process comes to an end and becomes finished goods. Manufacturers rely on finished goods inventory to create revenue. Once finished, these goods can be shipped, and retailers can focus on tracking the shipping and Inventory.
Why is the finished goods inventory formula essential for your business?
The finished goods inventory formula can help you precisely predict the Inventory required to stay void of stockouts. Products being out-of-stock can be a turnoff for the customer as they have to wait and will lead your customers straight to your competitors. Therefore, with the help of the finished goods inventory formula, you can eliminate this unnecessary hassle and help your business function seamlessly.
1. It helps you be aware of your gross profit
Your balance sheets, financial and income statements, and other documents related to your finance combine to amount your current assets — with Inventory being your most significant factor. In addition, the profit generated by your small business determines and sets the tone for the financial budgets and operational budgets for the year.
2. Keeps track of the number of current assets
You have to be pretty careful with your inventory accounting process, as simple mistakes have the ability to lead to an internal revenue service audit. The finished goods formula helps you to track WIP & production Inventory easily and unfinished products to make sure that your accounting is precise.
3. Minimizes wastage of raw materials
Staying aware of the precise or average levels of Inventory for your business can save you from burning a hole in your pocket for your future business endeavors. Instead of pouring in excessive funds on warehousing, raw materials, and finished products, you can save some funds by storing only what's essential.
4. Develops the inventory management process
Supply chain developments can always be pursued through automation or efficient human resources. By implementing the finished goods formula, you'll be able to track and manage labor and production charges, giving rise to an enhanced production process and automation opportunities.
How to calculate finished goods Inventory?
Calculating the finished goods Inventory includes a few formulas, but worry not, well break it down in detail and in deducing it to its simple form. But, before that, here are a few abbreviations to take note of before learning to calculate finished goods Inventory that'll come in handy when taking a look at the formula for calculations.
COGM: Cost of goods manufactured
COGS: Cost of goods sold
FG: Finished goods
WIP: Work in process
Calculating the finished good Inventory involves a simple formula that implies the 'cost of goods manufactured' COGM and the 'cost of goods sold COGS.
Before we begin anything, let's first find out how we can deduce these two values. COGM & COGS.
Tip: Make sure that your period remains consistent throughout the implementation of these formulas.
1. COGM- (Initial WIP Inventory + Total cost of manufacturing) – Ending WIP Inventory
2. COGS- (Initial Inventory + Purchases made during the interval) − Ending Inventory
Once you have deduced the values for COGM and COGS, you can implement the finished goods (FG) inventory formula.
For example, FG 'Finished goods'- (COGM – COGS) + Value of previous year's finished goods.
Now that you've got the formula fixed let us see how we can calculate the finished goods inventory in-depth.
Step 1: Take note of your inventory records for finished goods inventory from yesteryear.
You can extract this data from your warehouse management system, inventory management software, or even via your accountants. The previous year's inventory records help you to set a tone for the finished goods formula.
Step 2: Subtract the present COGS from the COGM
Finding the difference between the current COGS and COGM gives you the Value of your goods for the current year.
Step 3: Add the previous FG inventory value to the COGM and COGS difference.
When you add the previous year's FG value to the COGM and COGS difference, you get the Value of Inventory you are currently supposed to work with. Once you extract the FG inventory value, you will be able to know for a fact if you'll need more Inventory to be stocked or if you possess enough stock for the time being.
How do third-party logistics help enhance finished goods inventory management?
Repetitively calculating the COGM, COGS, and finished goods inventory can be a hassle to deal with. As a result, most eCommerce modules outsource their fulfillment and inventory storage to third-party logistics providers so that they can focus on other time-consuming assignments.
Third-party logistics have the ability to offer professional order fulfillment services and can make inventory auditing and management effortless for you.
Effortless inventory audits
When you're a small-scale business, tracking all of your Inventory is easy. But once you begin to grow and scale, you'll have to take care of a growing number of SKUs with manual tracking, which will give you a lot of sleepless nights. But with the help of third-party logistics, you can track all the incoming Inventory from your manufacturer. You will also be able to monitor your Inventory 24/7, and you get to access demand prediction tools that help you predict the tools that are fast selling.
Automation of reordering notifications to eliminate stockouts
3PL logistics can help you to set up and accept automatic reorder point notifications when your Inventory goes beyond a particular threshold point for every stock-keeping unit. Once you get the notification, you can re-stock your Inventory with the right reorder quantity as per requirements.
Analysis of inventory trends and predictions
A quality 3PL analytics tool helps you to view how your Inventory is performing. It enables you to identify the products that are selling out fast and the products that stay on the shelf for long periods. You can run your business much more efficiently than you think with these analytics and metrics.
An inventory management system is an essential part of e-commerce. If you have a physical store, you already know the importance of an inventory management system. Your stock levels determine whether or not you have overstock and can give you an idea of your consumer demand. You can use the same principle for your e-commerce business.
By getting to understand your finished goods Inventory, you can enhance your eCommerce inventory management and prevent stockouts from retaining your customers and keeping your business profitable. With some help and effort, you can use finished goods inventory to your advantage. Good luck!
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