Your clients need to have inventory on hand to make money. But it takes money to build up a nonperishable inventory balance, and this goes beyond just buying what your client is going to sell. There’s a number of other costs to consider when buying and holding inventory.
Once your clients buy inventory, they have to store the goods. This could result in a rent expense for a warehouse to put the goods, insurance on the goods to protect them, and additional utility expenses to operate the warehouse. There’s additional labour costs for staff members to deliver, maintain, or physically secure the inventory. Additionally, your clients might have to pay extra for the inventory to be delivered through shipping or handling expenses.
There’s a few costs your clients won’t find on their income statement as well. Holding onto inventory ties up their money. There’s the opportunity cost of investing the money in a more liquid asset with higher returns. There’s also the cost of obsolescence and deterioration. Through fair market value adjustments, your clients might have to book an accounting expense to adjust the value of their inventory. Although this doesn’t reflect an expense paid with cash, it does show their investment in goods is losing value instead of making them money.
To see if your clients’ costs to carry inventory are reasonable, determine what percentage of the inventory’s value is incurred in carrying costs. If inventory is $80,000 and incurring $8,000 for the year, the carrying cost is 10%. Compare this rate with other businesses to see how those costs are reflected at similar companies. Ultimately, you want the carrying costs to be as small as possible while still maintaining the safety and security of the goods.