Which Goods Are Included in Inventory ?
Which items should be included in ending inventory at the reporting date? Which items belong to someone else and therefore should be included in that entity's ending inventory? These questions refer to items that are in transit, consigned, out on approval, or obsolete. The treatment of these different categories of goods is discussed below.
In-Transit Goods
In-transit goods are goods that have been shipped prior to the financial statement date but had not yet been received by the buyer as of the financial statement date. The owner of the goods is determined by the terms of shipping.
Goods sent FOB Shipping Point belong to the buyer from the moment the seller gives them to the shipping company. Thus, while the goods are in transit they belong to the buyer because title was transferred at the shipping point. Therefore, goods that have been shipped FOB Shipping Point by the end of the period should be included in the buyer's ending inventory even though the buyer may not have received them by the end of the period. The goods should not be included in the seller's ending inventory.
Goods sent FOB Destination belong to the seller until the buyer receives them. While the goods are in transit, they belong to the seller and title is transferred at the destination point only when the buyer receives them. Goods shipped FOB Destination near the end of the period that have not been delivered to the buyer by the end of the period should be excluded from the ending inventory of the buyer and included in the ending inventory of the seller.
Note: The issue of the owner of goods in transit is also connected to accounts receivable. For the seller, any individual shipment made near the end of a period should be reported on the period-end balance sheet as either inventory or as a receivable (or cash if the sale was a cash sale).
For example, a shipment shipped FOB Destination on December 30 that arrives on January 3 will be inventory on the seller's books until January 3. On January 3, the seller's accounts receivable is debited for the full amount of the sale and revenue is credited for the same amount; and cost of sales is debited for the cost of the sale while inventory is credited for the same amount. That shipment should never be shown on the seller's books as both inventory and a receivable.
For the buyer, the item will be either 1) both inventory and a payable or 2) neither inventory nor a payable.
Consigned Goods
Consigned goods are given by one company (the consignor) to another company (the consignee) for the consignee to sell to the end consumer. Goods may be consigned because the consignee is physically closer to the consumer or because consignment enables the consignor to get a wider distribution of goods than the company could achieve on its own.
Ownership never transfers to the consignee when goods are consigned. Instead, title passes directly from the consignor to the end consumer. Therefore, the consignee never bears the risk of loss unless a contract passes that risk to it. Consigned goods should be reported as inventory on the records of the consignor because it bears the risk of loss.
Goods out on consignment belong in the inventory of the consignor company because the ownership never transfers to the consignee. The goods should be carried on the consignor's balance sheet at the cost the consignor paid for the goods plus any shipping costs the consignor paid to get the goods to the consignee company that will sell the goods. The shipping costs to the consignee are costs of making the goods available for sale to the customer and thus are inventoriable costs.
Goods held on consignment do not belong to the company that holds them (that is, the consignee) and therefore should not be included in the consignee's inventory.
Note: Accounting for and revenue recognition connected to goods out on consignment are covered in this volume in the topic Revenue Recognition.
Read more :- The Movement to Report Non-Financial Information
Goods Out on Approval
Goods out on approval are goods that are currently in the possession of a potential customer but have not yet been purchased by the customer. The customer physically has the product and has some period of time to decide either to purchase it or return it. Goods-out-on-approval items should be included in the seller's inventory at their original cost until either the customer accepts the goods or the time to return the goods expires. Only when either of these events occurs will the sale be recognized and the cost of the goods removed from the seller's inventory and transferred to cost of goods sold. If instead the customer returns the goods, no transaction is necessary