Look out for events or triggers, specific to your company, that might indicate it's time for a new appraisal. Here are a few to look out for.
By: AccuVal Associates, Inc.
Each inventory appraisal AccuVal performs includes a recommended timeline for updating appraisals. But depending on select circumstances, a report might need to be updated more frequently. Factors affecting the suggested time period always consider market prices, seasonality, inventory classes, industry outlook and turnover, among other things. Changes in the company, industry or government might trigger an immediate reappraisal. The following are a few key considerations to keep in mind.
Depending on a company's inventory composition, there are typically multiple classes, or at least multiple categories. It's common for one category to have a significantly different recovery value than other categories. For example, a company might work with finished goods and raw materials. Due to highly customized needs, the raw materials could be made specifically for this company, and therefore would have a low recovery value. The finished goods, on the other hand, might be turning over very quickly, leaving them with a higher recovery value.
For the sake of this example, let's say a new product has been introduced, but customers aren't as interested as expected. That could result in slower turnover of finished goods and an increase in raw materials on hand. What was once a 50-50 split between raw materials and finished goods could morph into a 75-25 split in favor of raw materials.
Because the overall mix between raw materials and finished goods has changed dramatically, a reappraisal should be triggered so that the new inventory mix can be appropriately valued - based on its current composition.
Commodity prices have seen significant changes over the past three to four years, so this question is more common now than ever. Not only do market prices affect commodity inputs such as metals, paper, plastics and food, but also accounting practices play a major role in the ways that these changing commodity prices affect companies.
For instance, consider a company that distributes steel pipe. As market prices rise and fall, the cost of procuring inventory will fluctuate. Hopefully, the company will be able to alter its sale prices to mirror the market.
The changing commodity prices will have the greatest impact on material purchased at a significantly different price than the current market rate. In the steel pipe example, let's say the company purchased a significant amount of pipe when market prices were at $1.00 per pound. If the company is costing its inventory at actual, then the pipe will be in the inventory at $1.00 per pound (plus freight and overhead costs). If that market price decreases down to $0.50 per pound, that inventory is now worth half as much. On the other hand, if the market price increases to $1.50, the inventory is now worth 50% more than market.
If market price decreases dramatically, a company may write off the losses incurred as a result of fluctuations. However, if the market price skyrockets, leaving a company with $1.00-per-pound pipe when the market price is $5.00 per pound, then the recovery value on the pipe will be substantial until the $1.00 per pound items are all sold, or the market price returns to levels close to $1.00 per pound.
Companies that compete with international manufacturers have the compounded difficulty of providing customers with a quality product while competing against foreign companies that can manufacture the same items for significantly less. When governments make or change restrictions that affect customer demand, an immediate reappraisal can show a significantly different result.
For example, the US government recently restricted the amount of tires that could be imported from China to the US. Domestic tire manufacturers competing with Chinese companies then found themselves overwhelmed with demand, as new customers who previously bought from China were barred from doing so. That led to a market shortage and a price hike.
Numerous factors and events, including these examples, can trigger an immediate reappraisal. While there is no specific metric that says how often a certain type of appraisal should be updated, events impacting inventory mix, pricing, demand, capacity, seasonality and more might occur in an industry, and an immediate reappraisal might greatly alter recovery values on inventory.
AccuVal provides a broad range of valuation, advisory and asset management solutions that contribute to growth or help ensure survival. We appraise the business enterprise and shareholder equity; bonds; intangibles and intellectual property; machinery and equipment; inventory; real estate and accounts receivables in over 100 industries worldwide. Learn more at www.accuval.net.