CA Nirmal Ghorawat's Blog

In accounting, every unit of inventory procured is an application of funds and every unit of inventory sold is a release of funds of an entity. Similarly, every unit of inventory of inventory procured is blocking space – at the warehouse or on the retail shelf and every unit of inventory sold is an unblocking of this shelf space. Real estate lease rentals and related fixed costs are a significant expenditure for offline retailers and add to the cost of holding the inventory.

That is to say,

We record the application and release of finances in financial accounting / MIS. If we, integrate our Financial Accounting / MIS with the data relating to the space occupied by a product unit in the product master, and with further minor modifications in our MIS, we will be able to account for the space occupied by every inventory unit, the carrying cost of holding inventory (which otherwise is restricted to its Financial Cost) and the product wise net profitability.

For Example, Two hypothetical products A and B sell at the same price point and offer the same margins. They have different holding periods and occupy different units of space. If both, holding period and space occupied by A > B, then the profitability of B > A.

The concept is to calculate profitability per product after taking account cost of holding.

Product Days = No. of units of Products X No. of days held

Cost of holding inventory = No. of units of Products X No. of days held X Units of space occupied X per unit cost

Per Product profitability = Sale price – purchase price – cost of holding inventory