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Inventory Basics

Audience: Business stakeholders, new team members, management

What is Inventory?​

Inventory represents items that a company owns and tracks for business purposes. This includes:

  • Raw materials - Components and materials used to make products (e.g., bottles, fragrances, labels)
  • Finished goods - Completed products ready to sell (e.g., perfume bottles, gift sets)
  • Work in progress - Items currently being manufactured
  • Components - Parts that go into assemblies

Why Do We Track Inventory?​

1. Know What We Have​

At any moment, we need to know:

  • How much of each item we have in stock
  • Where that stock is located (which warehouse, which zone)
  • Whether we have enough to fulfill customer orders

2. Financial Accuracy​

Inventory has monetary value and appears on the company's balance sheet:

  • Every item we own is worth money
  • When we sell items, the cost affects our profit
  • Accurate inventory = accurate financial reporting

3. Operational Efficiency​

Good inventory tracking helps us:

  • Avoid running out of popular items
  • Avoid overstocking slow-moving items
  • Plan production based on what we have and what we need
  • Fulfill customer orders on time

4. Compliance and Auditing​

We need accurate records for:

  • Year-end financial audits
  • Tax reporting
  • Regulatory compliance
  • Insurance claims

Core Inventory Concepts​

Inventory Levels​

The quantity of an item is how much we have. For example:

  • 500 bottles
  • 25.5 kilograms of fragrance oil
  • 1,200 labels

Locations​

We track where inventory is stored:

  • Main warehouse
  • Retail store
  • Production facility
  • Quarantine area (for items that need inspection)

Units of Measure​

Items can be measured in different ways:

  • Pieces - Individual items (1 bottle, 2 boxes)
  • Weight - Kilograms, grams, pounds
  • Volume - Liters, milliliters, gallons
  • Packaging - Cases, pallets, cartons

Transactions​

A transaction is any event that changes inventory levels:

  • Receiving goods from a supplier (increases inventory)
  • Shipping to a customer (decreases inventory)
  • Moving items between warehouses (changes location)
  • Adjusting for damaged or found items (corrections)
  • Manufacturing finished products from components (transforms inventory)

How the System Tracks Inventory​

Simple Principle​

For every item at every location, the system maintains a record of:

  1. What item it is
  2. Where it's located
  3. How much we have
  4. What unit we're measuring in

Example​

Item: Lavender Perfume 50ml
Location: Main Warehouse - Zone A - Bin 12
Quantity: 150 bottles
Unit: Pieces (bottles)

When Things Change​

Every time inventory changes, we create a transaction record that captures:

  • What happened (receipt, shipment, movement, adjustment, assembly)
  • Which items were affected
  • How many items
  • When it happened
  • Who authorized it
  • Why it happened (reason or reference number)

This creates a complete audit trail - we can always see the history of how we got to the current inventory level.

Stockable vs Non-Stockable Items​

Not everything the company deals with is tracked as inventory:

Stockable Items​

Items we physically store and track quantities for:

  • Raw materials
  • Components
  • Finished products
  • Packaging materials

Non-Stockable Items​

Items we don't track inventory for:

  • Services - Consulting, installation, training
  • Intangible items - Software licenses, subscriptions
  • Expensed items - Office supplies purchased and immediately expensed

See: Stockable vs Non-Stockable Items for more details.

Key Business Questions Inventory Tracking Answers​

  1. Do we have enough to fulfill this order?

    • Check current quantity vs required quantity

  2. Where is this item located?

    • View inventory by location

  3. How much is our inventory worth?

    • Sum of all items × their costs

  4. Why did the quantity change?

    • Review transaction history

  5. Can we make this product?

    • Check if we have all required components (via Bill of Materials)

  6. What came in from suppliers this month?

    • Review purchase receipt transactions

  7. What shipped to customers this month?

    • Review sales shipment transactions

Real-World Example​

Scenario: A customer orders 100 bottles of "Rose Perfume 100ml"

  1. Check Inventory: System shows we have 150 bottles in Main Warehouse
  2. Reserve Stock: 100 bottles are allocated to this order
  3. Pick Items: Warehouse staff go to the location and pick 100 bottles
  4. Ship: Items are packed and shipped
  5. Create Transaction: Sales shipment transaction records:
    • Item: Rose Perfume 100ml
    • Quantity: -100 (decrease)
    • Location: Main Warehouse
    • Customer: ABC Corp
    • Invoice: INV-2024-1234
  6. Update Inventory: System now shows 50 bottles remaining
  7. Post to Finance: The cost of 100 bottles is posted to Cost of Goods Sold

Benefits of Accurate Inventory Tracking​

For Operations​

  • Know when to reorder items
  • Prevent stockouts (running out of popular items)
  • Reduce excess inventory (money tied up in slow-moving items)
  • Optimize warehouse space

For Finance​

  • Accurate balance sheet values
  • Correct profit calculations
  • Better cash flow management
  • Reduced audit issues

For Management​

  • Better decision-making with real-time data
  • Identify trends (what's selling, what's not)
  • Plan production and purchasing
  • Set realistic delivery promises to customers

Common Challenges​

Inventory Accuracy​

Problem: Physical inventory doesn't match system records Causes:

  • Items damaged but not recorded
  • Items moved but not logged
  • Data entry errors
  • Theft or loss

Solution: Regular physical counts and adjustments (see Stock Adjustments)

Multiple Locations​

Problem: Item is out of stock at one location but available at another Solution: System tracks inventory separately per location (see Location-Based Tracking)

Different Units of Measure​

Problem: Supplier sells in kilograms, production uses in grams, customer buys in bottles Solution: System supports unit conversions (see Units of Measure)

Next Steps​

Last Updated: 2025-10-28