Specific identification method is a way of valuing inventory that tracks the actual cost of each individual item in stock. For example, if a car dealer sells a specific car, it will record the cost of that car as part of the cost of goods sold, rather than using an average or a formula. This method is suitable for businesses that sell unique, expensive, or easily identifiable products, such as jewelry, art, antiques, or custom-made goods. Specific identification method differs from other methods of inventory valuation in several ways. For instance, FIFO assumes that the oldest items in stock are sold first, and LIFO assumes that the newest items in stock are sold first.
It also makes it easier for the business to manipulate its income by choosing which items to sell or keep, which can affect its tax liability and profitability. If a business decides to use specific identification method for inventory valuation, it should follow some best practices to ensure its accuracy and reliability. For instance, it should implement a robust inventory management system that can track and record the cost and identity of each item in stock. It should also apply the same method consistently and disclose it in the financial statements. It should also monitor and review the inventory regularly and adjust it for any obsolescence, damage, or theft.
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The specific identification inventory method tracks the costs of individual items of inventory until they are sold to customers. The cost of goods sold (COGS) and cost of ending inventory are determined by the actual cost assigned to each physical unit of inventory. Using specific identification method for inventory valuation has some implications for the business and its stakeholders. For example, it can affect the comparability and consistency of the financial statements, as different methods may produce different results. It can also affect the tax obligations and cash flow of the business, as different methods may generate higher or lower taxable income and net income. Furthermore, it can affect the decision-making and performance evaluation of the business, as different methods may influence the profitability and efficiency ratios.
- It includes 400 shares purchased for $40 per share, 300 shares at $60 per share, and the remaining 300 shares at $20 per share.
- Similar to ending inventory, it’s very easy to determine the specific inventory units sold and to identify the cost of those units.
- It also eliminates the effects of inflation, deflation, or price fluctuations on the inventory value, as it does not rely on assumptions or estimates.
- Both the cost of the item and the amount received for the sale of the item must be attached to a specific item with some form of a unique identifier that singles it out.
- Examples of situations in which the specific identification method would be applicable are a purveyor of fine watches or an art gallery.
Under this method, each item sold and each item remaining in the inventory is identified. The specific identification inventory valuation method is a system for tracking every single item in an inventory individually from the time it enters the inventory until the time it leaves it. This distinguishes the method from LIFO or FIFO, which groups pieces of inventory together based on when they were purchased and how much they cost. It is an issue that smaller businesses don’t generally face, which is why such companies are the ones that commonly utilize the specific identification method. The chances of losing or misplacing inventory under such a system are almost obliterated because of its accuracy. One of the main advantages of specific identification method is that it provides the most accurate and realistic inventory valuation, as it reflects the actual cost of each item sold or on hand.
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In this article, we will focus on the pros and cons of using specific identification method for inventory valuation. One of the main disadvantages of specific identification method is that it requires a lot of record-keeping and tracking, as the business has to maintain detailed information about the cost and identity of each item in stock. This can be time-consuming, costly, and prone to errors, especially for businesses that have a large or diverse inventory.
Weighted average cost calculates the average cost of all items in stock and applies it to each sale. These methods do not track the actual cost of each item, but rather use a general or periodic approach. They also result in different inventory values and cost of goods sold, depending on the price changes and the inventory turnover. The specific identification method is a way of tracking inventory costs without the need for cost flow assumptions. It’s an inventory costing method that suits businesses with high-value, low-volume goods.
Specific Identification Inventory Valuation Method
Inventory valuation is the process of assigning a monetary value to the goods that a business has in stock at the end of an accounting period. It affects the calculation of cost of goods sold, gross profit, net income, and balance sheet. There are different methods of inventory valuation, such as first-in, first-out (FIFO), last-in, first-out (LIFO), weighted average cost, and specific identification.
- If a business decides to use specific identification method for inventory valuation, it should follow some best practices to ensure its accuracy and reliability.
- This method is applicable when individual items can be clearly identified, such as with a serial number, stamped receipt date, bar code, or RFID tag.
- The process is incredibly difficult for larger businesses – such as big box stores – to achieve because of the sheer volume that such companies move on a daily basis.
He spends most of his time researching and studying to give the best answer to everyone. Experts are adding insights into this AI-powered collaborative article, and you could too. Sign up to receive more well-researched small business articles and topics in your inbox, personalized for you. Tim is a Certified QuickBooks Time (formerly TSheets) Pro, QuickBooks ProAdvisor, and CPA with 25 years of experience.
Specific Identification Method of Inventory Accounting – Explained
Each car has a different dealer cost and a different sales price based on the model and its features. Each of the cars is tracked individually from the time they enter the lot until they are sold. This guide discusses how the specific identification inventory method works, who it’s optimal for, its highlights and drawbacks, and how to calculate ending inventory and COGS using it. Sometimes, the process can be done simply by an employee laying eyes on the items and marking them down on a piece of paper.
Obviously, this inventory method takes more work upfront than the alternatives. It might not be a reasonable use of time for a seller of t-shirts or candles. But it could be very useful to a seller of a wide variety of merchandise who wants a steady stream of information on what products or styles are in demand, what’s not selling, and what needs restocking. This method of identification allows investors to reduce or offset capital gains by picking a specific lot of securities to be used as the basis for a sale.
