Although inventory report and cash flow report are seen as
independent reports to some extent, they are however interwoven. The perception
of most SAP Business One users is that the cash flow report is a
product of just "current cash transactions". Yea, to some extent this
assertion is true; however, there is another leg to it.
The cash flow
report gives the balances of cash accounts and accounts that are subject to cash
flow in the future. Inventory (Stock) itself can be perceived as money that is tied
down because asset increases when stock is procured. The purchased stock can be
raw materials for a finished good(s) that will yield revenue in the future. At
production stage, it is classified as work-in-progress (WIP). A number of
journal entries are created during the production process in SAP Business One.
When components are issued for production, the WIP account is debited and the
stock account of the component is credited. When the production order is
completed, receipt from production is created. The stock account of the product
is debited by the actual value of the finished product and the WIP account is
credited. In case variance occurs, the system debits the WIP account with a
negative value and credits the WIP variance account.
From the foregoing,
it can be deduced that the stock value increases by the cost of production tied
to the production process. On receipt from production, it becomes a sales item
that is expected to generate revenue. Inventory is also updated accordingly.
However, the costs incurred during production represent payables. These payables
need to be settled somehow, hence the need for cash flow report, which is a
critical analysis of "money - in and money - out".
The Chief Financial
Officer (CFO) is not interested in high inventory (over stocking) based on the
premise that it is "money tied down". Keeping high inventory is not cost
effective. This is because additional costs (such as carrying costs) are
incurred especially while these stocks last in the warehouse. This is not to say
that inventory should be kept so low as not to meet demands or orders.
Although, the amount of inventory to be kept at any point in time is
ambiguous, the inventory turn ratio is a metric for determining inventory
usage. Inventory usage is calculated as a ratio of the annual cost of goods sold
to the average inventory.
For the purpose of illustration, let
$1,000,000 be the annual cost of goods sold and $500,000 be the average
inventory; obtained from profit and loss statement and balance sheet
report.
Inventory Turn = Annual cost of goods sold/Average Inventory
=
$1,000,000/$500,000
= 2
If through better inventory management and financial analysis, the
inventory turn is increased to 10.
Average Inventory = Annual cost of goods
sold/Inventory Turn
= $1,000,000/10
= $100,000
Reduction in
inventory = $500,000 - $100,000
= $400,000
The implication therefore is
that you can generate same sales with only $100,000 of average
inventory.
Furthermore, if the carrying cost (which is based on
weight/volume carried) is 20% of the average inventory, the savings will
be
Savings = Reduction in Inventory x 0.20
=$ 400,000 x 0.20
=
$80,000
Cross analysis of Inventory report and Financial reports such as
Cash Flow, Balance Sheet and Profit and Loss Statement can lead to cost saving
and ultimately, profitability. Hence, it would be nice to have a detailed and
generic business intelligence report (that makes this analysis and more) like
this by default in SAP Business One. What do you think?
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