How to Find Ending Merchandise Inventory

Ending merchandise inventory represents the value of goods a business has available for sale at the close of an accounting period. This figure is a direct reflection of a company’s financial position, appearing as a current asset on its balance sheet. It also plays a significant role in determining the cost of goods sold on the income statement, ultimately influencing a business’s reported profitability. Understanding how to accurately determine this value is fundamental for sound financial management and reporting.

Fundamentals of Ending Merchandise Inventory

Ending merchandise inventory encompasses the goods a business holds for resale that remain unsold at the end of a fiscal period. This includes items purchased from suppliers, along with any associated costs incurred to bring them to their current location and condition, such as freight-in charges. Items like office supplies, equipment used in operations, or raw materials not yet designated for a specific product typically do not classify as merchandise inventory.

This inventory is a current asset on the balance sheet, representing resources expected to be converted into cash within one year. An accurate inventory valuation provides a true picture of a company’s liquidity and overall financial health.

Ending inventory is also a component in calculating the Cost of Goods Sold (COGS) on the income statement. The relationship is: Beginning Inventory + Purchases – Ending Inventory = Cost of Goods Sold. A higher ending inventory results in a lower COGS, which in turn leads to a higher reported gross profit and net income. Conversely, a lower ending inventory increases COGS, reducing profitability.

Inventory Tracking Systems

Businesses employ different systems to track the physical quantity of their inventory, which directly impacts how ending inventory quantities are determined. The two primary approaches are the periodic inventory system and the perpetual inventory system.

The periodic inventory system updates inventory records only at specific intervals, typically at the end of an accounting period. Under this system, businesses do not maintain continuous records of inventory balances throughout the period. To determine the quantity of ending inventory, a complete physical count of all goods on hand is necessary. This physical count involves manually counting, weighing, or measuring every item in stock at the close of the period. This method is often favored by smaller businesses due to its simplicity and lower initial setup costs.

In contrast, the perpetual inventory system maintains continuous, real-time records of inventory levels. Every purchase and sale of merchandise is immediately recorded, updating the inventory balance electronically. This system often utilizes technology such as point-of-sale (POS) systems and barcode scanners. While perpetual systems provide an up-to-the-minute view of inventory, physical counts are still performed periodically for reconciliation, to identify discrepancies caused by factors like shrinkage, damage, or errors.

Inventory Costing Methods

Once the physical quantity of ending inventory is determined, businesses must assign a monetary value to these units. When the cost of purchasing inventory fluctuates over time, different assumptions about which goods were sold and which remain on hand lead to varying ending inventory values.

The First-In, First-Out (FIFO) method assumes that the first goods purchased are the first ones sold. Consequently, the ending inventory is assumed to consist of the most recently purchased goods. In a period of rising costs, FIFO results in a higher ending inventory value and a lower cost of goods sold, leading to higher reported profits.

The Last-In, First-Out (LIFO) method operates on the assumption that the last goods purchased are the first ones sold. This means that the ending inventory is valued using the costs of the earliest purchased goods. In a period of rising costs, LIFO results in a lower ending inventory value and a higher cost of goods sold, leading to lower reported profits. While permitted under U.S. Generally Accepted Accounting Principles (GAAP), LIFO is generally not permitted under International Financial Reporting Standards (IFRS).

The Weighted-Average Cost method calculates an average cost for all goods available for sale during the period. This average cost is then applied to both the units sold and the units remaining in ending inventory. To calculate this, the total cost of all goods available for sale (beginning inventory cost plus all purchase costs) is divided by the total number of units available for sale. For instance, if the total cost of goods available for sale was $5,000 for 500 units, the weighted-average cost per unit would be $10. If 150 units remained in ending inventory, their value would be $1,500 (150 units $10/unit).

Beyond these common methods, the Specific Identification method is used for unique, high-value items where each item’s cost can be individually tracked. This method directly matches the cost of a specific item to its sale or its presence in ending inventory. Businesses must consistently apply their chosen inventory costing method from one accounting period to the next for accurate financial reporting, a principle known as the consistency rule.