Inventory-Based COGs Management: Pros & Cons

Very few franchisees and small business owners use the inventory-based COGs management process. Some because they just don’t know how to do it, others because of misunderstanding of its value, compared against the traditional invoice-based management way.

But what is the difference between one and the other? 

The invoice-based method simply adds the invoices for the business’s purchased products (not used products). You add the total, and that is basically the cost of goods that you define in your business’s financials. 

On the other hand, inventory-based COGs management starts with the month’s beginning inventory and adds the invoices of the products you purchased throughout the month. At the end of the period, you input your ending inventory to know what you actually used in inventory.

Inventory method: beginning inventory + product purchased - ending inventory = Actual Used

That is the basic difference between invoice-based and inventory-based cost of goods management. Now that we defined each, let’s review the pros and cons of using inventory-based COGs management. 

The Cons…

The first negative thing about using the inventory-based cost of goods is that this method implies more work since you have to do an inventory every month, or as often as you want, to calculate your cost of goods. 

Discover what are the three most important numbers of your business 

Something else that comes with it is that you need to train people on how to do a precise inventory so that it is as accurate as possible. This is not an easy task.

But consider that, even though you give this training, people executing those inventories will make mistakes along the way, especially if they are not careful enough.

Another con is that applying this method will mean an additional cost of labor because you have to train the people, and then, the inventory has to be done.

The Pros…

What are the benefits of doing inventory-based cost of goods management? 

The first one is that this method is a lot more accurate because you can calculate how much you actually use the products during the period you determine. 

This means you will know what was your overall cost of goods and how many products you used, as well as identify and hone in on the specific products that may have issues and differences.

Another positive thing is that you can compare this information against the ideal cost of goods. But you have to develop a system that provides that data. 

By doing this type of inventory and applying a system to discover what you should have used every month, you'll be able to determine, product by product, exactly where the waste is happening. 

When you have that valuable information, you can act upon it and address the issues no matter where they happen, whether waste, theft, manipulation, or improper procedures.

This will help you manage your cost of goods in the best possible way to cause a true change in your business.

If you are a retail-based business, especially if you are in food service, doing inventory-based cost of goods management is a must. 

Think about it! This method will help you maximize your profitability. And with it, you can truly control your COG's cost, which is over a third of the expenses in those industries.

Must read: How much profit do franchises really make?

Considering this, don't you think you should adopt this level of detail to accurately identify your costs and where the waste is happening? I think so…

If you need help implementing the inventory-based cost of good management in your business, you are on the right website! The American Franchise Academy can become your guide in the process of being in command of your franchise. 

We provide business owners with the systems and processes they need to succeed, considering their teams, income, profitability, and growth. And we do that through our four best-in-class programs.

If you'd like to learn more about this, visit: https://www.americanfranchiseacademy.com/programs

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Reflections:

• How much understanding do you have of the business financials?
• How are you controlling your costs and waste and increasing your profits?
• Are you aware of the critical numbers that move the needle in your business?
• Have you earned what you expected? What can you do to change those numbers?

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