Retail Inventory Method: Definition, Calculation, and Example

What Is the Retail Inventory Method?

The retail inventory method is an accounting method used to estimate the cost of a store’s merchandise. The retail method provides the completing inventory balance for a store by way of measuring the cost of inventory relative to the price of the goods. Together with product sales and inventory for a duration, the retail inventory method uses the cost-to-retail ratio.

Understanding the Retail Inventory Method

Having a handle in your inventory is crucial step in managing a a success industry. It means that you can understand your product sales, when to order further inventory, arrange the cost of your inventory, along with how a large number of your inventory is making it into the palms of consumers, as opposed to being stolen or broken.

The retail inventory method should highest be used when there is a clear relationship between the pricetag at which merchandise is purchased from a wholesaler and the pricetag at which it is purchased to customers. For example, if a clothes shop marks up each products it sells by way of 100% of the wholesale price, it’s going to appropriately use the retail inventory method, but if it marks up some items by way of 20%, some by way of 35%, and a couple of by way of 67%, it can be tricky to make use of this method with accuracy.

The retail method of valuing inventory highest provides an approximation of inventory worth since some items in a retail store will perhaps have been shoplifted, broken, or misplaced. It’s important for retail stores to perform a physically inventory valuation periodically to verify the accuracy of inventory estimates with the intention to reinforce the retail method of valuing inventory.

Calculating Completing Retail Inventory

The retail inventory method calculates the completing inventory worth by way of totaling the cost of merchandise which may well be available available on the market, which comprises beginning inventory and any new purchases of inventory. Common product sales for the duration are subtracted from pieces available available on the market. The difference is multiplied by way of the cost-to-retail ratio (or the percentage right through which pieces are marked up from their wholesale gain price to their retail product sales price).

The associated fee-to-retail ratio, additionally known as the cost-to-retail percentage, provides how so much a excellent’s retail price is made up of costs. If, for example, an iPhone costs $300 to manufacture and it sells for $500 each, the cost-to-retail ratio is 60% (or $300/$500) * 100 to move the decimal.

Disadvantages of the Retail Inventory Method

The retail inventory method’s primary get advantages is the good thing about calculation, on the other hand one of the most drawbacks include:

• The retail inventory method is highest an estimate. Results can certainly not compete with a physically inventory depend.
• The retail inventory method highest works if in case you have a continuing markup all the way through all products purchased.
• The method assumes that the historical basis for the markup percentage continues into the prevailing duration. If the markup used to be as soon as different (as may be led to by way of an after-holiday sale), then the results of the calculation will be inaccurate.
• The method does now not artwork if an acquisition has been made, and the acquiree holds massive amounts of inventory at a significantly different markup percentage from the rate used by the acquirer.

Example of the Retail Inventory Method

Using our earlier example, the iPhone costs $300 to manufacture and it sells for $500. The associated fee-to-retail ratio is 60% ($300/$500 * 100). Let’s assume that the iPhone had common product sales of $1,800,000 for the duration.

• Beginning inventory: $one million
• New Purchases: $500,000
• Common pieces available available on the market: $1,500,000 
• Product sales: $1,080,000 (Product sales of $1,800,000 x 60% cost-to-retail ratio)               
• Completing inventory: $420,000 ($1,500,000 – $1,080,000)