In order to determine and keep track of the value of your finished goods inventory, you must always update your finished goods inventory budget. This budget figure is usually recorded and stored by the accounting department in your company. However, if you’re the one handling your goods inventory, here are the basics of an ending finished goods inventory budget, and the formula to calculate this figure.
This article at a glance:
1. What is the Ending Finished Goods Inventory Budget?
The ending finished goods inventory is the stock of products that are not yet sold, but are ready for sale. To accurately determine the value of these products, you need to develop a budget known as the ending finished goods inventory budget.
2. Is there an easy way to calculate my budget?
Luckily, yes!
Finished goods inventory = Beginning finished goods inventory + cost of goods manufactured — cost of goods sold
3. I do not know how to get started, is there an example I can reference to?
To make things clearer for you, we have prepared an example budget for your reference. Note that the numbers are based on illustration purposes and your budget may look significantly different depending on your company costs.
Before we dive into the more complicated sections of this article, let’s start off with some definitions of the common terms you’ll come across whilst doing up your ending finished goods inventory budget.
Finished goods are the products that manufacturers like yourself actually sell to buyers. When we talk about buyers here, they can mean either vendors, retailers or one-time customers. These finished goods can include raw materials and items involved in every stage of the production that ends up in the finished product inventory.
Note that the term finished goods is used relatively. For example, if you are a wood manufacturer company that produces wood, the material wood is your finished goods. However, this wood can be sold as raw materials to furniture retailers who will use these wood materials and create new finished goods such as tables, chairs and bookshelves.
Finished goods inventory is important because it represents the final output of a company’s production activities. It includes items that are ready for sale and can significantly impact a company’s financials and customer satisfaction. Having a well-managed finished goods inventory ensures that a business meets customer demand in a timely manner, avoids stockouts, reduces lead times, and supports operational efficiency. However, excess inventory can increase costs and tie up capital, so it’s essential to find the right balance between inventory levels and customer service levels.
Finished goods are products that have completed the entire manufacturing process and are ready to be sold or distributed to customers. On the other hand, inventory is a broader term that includes finished goods as well as raw materials, work-in-progress items, and other goods that are held in stock by a company or organisation. Inventory refers to all the goods a company has on hand, including those that are unfinished or waiting to be processed.
The ending finished goods inventory is the stock of products that are not yet sold, but are ready for sale. In order to develop a budget for these products, you need to know the basic costs of your direct materials, direct labour costs and overhead costs. Just in case you aren’t sure of what these costs are, let’s run through them briefly.
Also known as material cost, direct material cost and raw material cost, this is the amount of money used to buy the materials used to manufacture a product or provide a service. For example, Nancy has an apparel business, the material cost for Nancy is the amount she used to buy the textile, sewing kit, and everything else that goes into making a T-shirt.
The direct material costs should be formulated by:
Cost of materials per unit X number of ending units in inventory
As the name suggests, direct labour costs mean the wages incurred to produce products or to provide a service. It includes the wages paid, payroll taxes for those wages, company-paid medical insurance, life insurance, compensation insurance and other company benefits. Let’s take Nancy as an example. Nancy hires T-shirt makers, dress makers, and staff that maintain her retail and e-commerce store. The wages of the staff and any benefits given to these workers are part of her direct labour costs.
The direct labour costs should be formulated by:
Direct labour costs per unit X number of ending units in inventory
Commonly referred to as overhead, these are the business expenses that are not directly linked to creating a product or giving a service, and can be fixed, variable or a mix of both. For example, Nancy owns a retail store to sell her apparels. Her overhead costs will include rent, utilities, and company insurance. For her e-commerce store, it could include the amount needed to host her product or to maintain her website domain.
The overhead costs should be formulated by:
Amount of overhead cost per unit X number of ending units in inventory
Now that you have a clearer picture of the types of cost you need to know before developing a budget, let’s move onto the ending finished goods inventory budget.
The main purpose of the ending finished goods inventory budget is to provide the amount of the inventory asset that appears on the budgeted balance sheet. Once you know the amount of the inventory asset, you can then accurately determine the cash needed to invest in assets.
Of course, this is recommended for all companies, but there are some businesses who do not intend to create a budgeted balance sheet. Nonetheless, to help you closely monitor your cash balances regularly, this budget should not only be created in a proper way, but also maintained and updated perpetually.
Having an ending finished goods inventory budget is one of the factors you need to determine the price of the products to be sold. Otherwise, how else would you know if you are covering all costs and are in fact, making a profit?
The categorisation of goods can be divided into four types.
There are several advantages to calculating finished goods inventory, including:
1. Better financial management: By calculating finished goods inventory, businesses can better manage their finances by having a clear understanding of the value of their inventory.
2. Improved production planning: Knowing how much inventory a business has on hand can help with production planning and scheduling, ensuring that enough products are available to meet customer demand.
3. Reduced waste: By tracking finished goods inventory, businesses can avoid overproduction and reduce waste, which can save money and resources.
4. Better decision-making: Access to accurate inventory data helps businesses make informed decisions about sales, promotions, and product development.
5. Enhanced customer satisfaction: With up-to-date inventory information, businesses can ensure that they have sufficient stock to meet customer demands, leading to greater customer satisfaction and repeat business.
1. Inaccuracies: The calculation of finished goods inventory is subject to inaccuracies, as it involves estimating the value of inventory based on factors such as expected demand and production costs.
2. Costly: Calculating finished goods inventory can be a costly process, as it requires the use of resources such as time, personnel, and technology. This can add up to significant expenses over time.
3. Limited usefulness: The calculated value of finished goods inventory may have limited usefulness. For example, it may not provide a complete picture of a company’s financial health, as it only represents a portion of its overall assets.
4. Subject to obsolescence: Finished goods inventory is subject to obsolescence, particularly in industries where products have a limited shelf life. This means that the value of finished goods inventory can rapidly decrease if products are not sold quickly enough.
Now that you know the importance of the ending finished goods inventory budget, let’s get you started on how to calculate your budget. Take note that every organisation’s budget is different, so you can’t base your calculation on other businesses. Luckily, there’s a formula you can follow to count your own budget. Before we start, you need to prepare your company’s inventory and production records on hand.
The calculation formula
Finished goods = number of goods you have at the start of the period + any added manufactured goods throughout the period — manufacturing costs of any goods sold during the period.
By period, we are talking about the entire period you are budgeting for.
Still sounds confusing? Here’s an easier formula.
Finished goods inventory = Beginning finished goods inventory + cost of goods manufactured — cost of goods sold
Still unsure on how to get started? We’ve put together a simple example for your reference. Of course, this is just a simple illustrated example. Your actual budget could include more elements and costs.
Woodpecker Manufacturing Company
Ending Finished Goods Inventory Budget
Period: Year ended December 31, 2021
You may realise that Woodpecker Manufacturing Company’s direct material costs, direct labour costs and overhead costs increased in the 3rd quarter. This can be due to various different reasons. Just for illustration purposes, here are the possible reasons for these cost increases.
You may realise that Woodpecker Manufacturing Company’s direct material costs, direct labour costs and overhead costs increased in the 3rd quarter. This can be due to various different reasons. Just for illustration purposes, here are the possible reasons for these cost increases.
The company expects the cost of wood materials to increase in the 3rd quarter due to an announcement by the government to enforce rules on wood cutting. Because of the same demand and lower supply of wood, the price of wood will increase. Because of this reason, the company decided to also increase labour costs as workers will have to work overtime to settle the lack of wood supply and find ways to cut down on the material usage.
The rent of the factory is also expected to rise from the 2nd quarter onwards, resulting in more overhead costs from the second to fourth quarter of 2021.
From the table above, you can see that the total budget for Woodpecker Manufacturing Company is $ 148,000, $ 185,500, $ 180,900 and $ 241,200 for each quarter.
As mentioned earlier, the finished goods inventory budget must always be updated and recorded by your accounting team, so that your company can always determine the most accurate value of your finished goods inventory. This could help you maximise productivity and efficiency for your company budgeting and accounting issues.
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The four different types of finished goods inventory are:
1. Cycle stock: It refers to the regular inventory that a business keeps to meet the ongoing demand for their products.
2. Safety stock: It is an additional amount of inventory that a business keeps to avoid stockouts due to unforeseen circumstances such as spikes in customer demand or supply chain disruptions.
3. Anticipation inventory: It is extra inventory that a business keeps in anticipation of a future event such as a seasonal increase in demand or a product promotion.
4. Pipeline inventory: It is inventory that is currently in transit from the manufacturer to the retailer or distributor, and it includes products that have been ordered but not yet received.
The ledger commonly used for finished goods inventory is known as the Finished Goods Inventory Ledger. This ledger helps in keeping track of all inventory of finished goods, including the quantity and the value of the finished goods available in stock.
To calculate finished goods on hand, you need to add the beginning inventory of finished goods to the cost of goods produced and then subtract the cost of goods sold from that total. The formula for calculating finished goods on hand is:
Beginning inventory of finished goods + Cost of goods produced — Cost of goods sold = Finished goods on hand
Note that the cost of goods produced should include all costs associated with the production of finished goods, such as direct materials, direct labor, and manufacturing overhead. The cost of goods sold should include all costs associated with selling finished goods, such as shipping, commissions, and discounts.
Finished goods are usually valued based on their production cost, which includes the cost of raw materials, labor, overheads and other related expenses. This value is combined with any additional costs incurred such as packaging and shipping to determine the total cost of the finished good.
Once the total cost is determined, a profit margin is added to arrive at the selling price. Factors such as demand for the product, competition, and market conditions can also affect the final valuation of the finished good.
No, finished goods refer to the completed products that are ready for sale, whereas COGS (Cost of Goods Sold) is the cost incurred by a business to produce goods that have been sold during a specified period. Hence, finished goods and COGS are not the same.
Yes, finished product inventories represent a cost, known as carrying cost or holding cost. This cost includes expenses such as storage, insurance, security, and depreciation of the inventory. In addition, if the demand for the product decreases, the company may be forced to reduce the price of the product to sell it, which could result in a loss. Therefore, it is important for companies to manage their finished product inventories efficiently, by balancing the costs of carrying inventory with the risks of stockouts.
Finished goods inventory refers to the amount of completed products or goods that a company has on hand and available for sale or distribution to customers. These are items that have already gone through the production process and are considered ready for delivery or consumption. Finished goods are a type of inventory that companies keep in order to meet customer demand in a timely and efficient manner.
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