How Stock / Inventory is Calculated
The balance sheet valuation of the stock or inventory of a business is either at cost or fair market value, whichever is the lower.
Among their statutory duties of care, auditors have to establish which of these should apply when conducting the annual audit. Stock / inventory items that are slow moving for example will be written down in value or written off altogether if they are perceived to be redundant. This is distressed inventory, the value of which comes straight off the bottom line.
When creating profit, cashflow and balance sheet forecasts using Figurewizard.com make sure that the value of year end stock is after the deduction of any distressed inventory.
Examples of Distressed Inventory
An obvious example of distress is of perishable goods carrying an expired sell by date.
Other examples will include fashion items, character merchandise or anything seasonal, for example in the fashion trades with a life cycle perceived as being for less than a year. That makes regularly reviewing the true values of such stock / inventory items crucial. Accurate calculation for working capital and operating cash flow depends on this being done.
For that reason it is always a good idea to act early to job or close-out merchandise as soon as it starts to show its age.
Stock / Inventory Liquidity and Cash Flow
Maintaining inflated stock / inventory valuations may appear to benefit the profit and loss account and create an impression of liquidity by overstating working capital but that won't help once the bills fall due for payment.
In any case the likely presence of redundant or excessive stock in a balance sheet can easily be determined by the quick ratio, also known as the acid test. This calculates working capital omitting the value of stock / inventory.
This is an important ratio often used by banks and other senior lenders / investors to assess the true state of a company's liquidity.
If you do job out distressed stock make sure its not to a wholesaler who is cash only and no vat. A company I was sales manager for dealing in character merchandise sold slow moving products regularly like that and in a year when they made more than three million pounds declared profit HMRC made them bankrupt.