How does Xero account for inventory?
Xero accounts for tracked and untracked inventory transactions in different ways. With tracked inventory, Xero keeps track of the quantity of items on hand, and calculates their value using the average cost method. With untracked inventory, Xero records purchases and sales, but does not keep track of quantities or values on hand.
Accounting for tracked inventory
Xero uses the average cost method to value tracked inventory, and calculates the cost of goods sold for each tracked inventory sales transaction. Xero updates the quantity and value on hand for the tracked inventory item when the transaction is approved, not as at the transaction date.
Transactions that affect a tracked item's quantity and value on hand are invoices, bills, credit notes, spend money, receive money transactions and inventory quantity adjustments. Quotes and purchase orders do not affect tracked inventory quantity on hand or values.
Before you can use tracked inventory you need to set up at least one inventory asset account and set up or designate one cost of goods sold account.
Getting started with tracked inventory
We'll use an example to show how Xero accounts for tracked inventory transactions.
Example
Acme Inc. is starting to use tracked inventory for its widgets. It has set up the following accounts in its chart of accounts:
630 Inventory - an account with the account type 'Inventory' to hold the value of tracked inventory items
310 Cost of Goods Sold - an account with the account type 'Direct Costs' to record cost of goods sold for tracked inventory items. (Note: We recommend using 'Direct Costs' for the account type for your cost of goods sold account. Consult with your accountant or bookkeeper to determine the right account type for your organization.)
Acme Inc. does not have any opening stock. It carries out the following transactions (sales tax is ignored).
July 5 - Purchase 200 widgets at 5.00 per widget. Accounting entries in Xero:
Dr 630 Inventory 1000
Cr Accounts Payable 1000
July 10 - Purchase 150 widgets at 6.00 per widget. Accounting entries in Xero:
Dr 630 Inventory 900
Cr Accounts Payable 900
On 10 July the widget inventory record is as follows:
On July 12, Acme Inc. sells 300 widgets for 10.00 each. The cost of widgets sold is 1629, being 300 widgets at 5.43 average cost per widget. The accounting entries are:
Dr Accounts Receivable 3000
Cr Sales 3000
Dr 310 Cost of Goods Sold 1629
Cr 630 Inventory 1629
After the sale, the widget inventory record is as follows:
The balances of the accounts used, assuming no other transactions have taken place, are:
| Account | Debit | Credit |
|---|---|---|
Accounts Payable |
| 1900 |
Accounts Receivable | 3000 |
|
310 Cost of Goods Sold | 1629 |
|
630 Inventory | 271 |
|
Sales |
| 3000 |
Accounting for untracked inventory
Xero does not calculate inventory average cost, nor does it maintain inventory records for untracked inventory.
Using the same example as for tracked inventory, the accounting entries in Xero using untracked inventory are:
July 5 - Purchase 200 widgets at 5.00 per widget. Accounting entries in Xero:
Dr Purchases 1000
Cr Accounts Payable 1000
July 10 - Purchase 150 widgets at 6.00 per widget. Accounting entries in Xero:
Dr Purchases 900
Cr Accounts Payable 900
On July 12, Acme Inc. sells 300 widgets for 10.00 each. Accounting entries in Xero:
Dr Accounts Receivable 3000
Cr Sales 3000
The balances of the accounts used, assuming no other transactions have taken place, are:
| Account | Debit | Credit |
|---|---|---|
Accounts Payable |
| 1900 |
Accounts Receivable | 3000 |
|
Purchases | 1900 |
|
Sales |
| 3000 |