Including inventory adjustments in your budget is essential because they are needed to provide an accurate representation of the costs directly related to your restaurant's operations and profitability - your COGS. Since budgets are a reflection of your COGS, and your purchases are not the only factor in your cost of goods, you also need to consider your inventory. This is foundational for accrual-based accounting.
Your on-hand inventory is considered an asset when calculating your COGS. When inventories are taken, the cost of goods value shifts because inventory on hand is not a cost of goods sold (i.e. it's not an expense) but is a good available for sale (it's an asset). This means inventory adjustments where the value of the inventory goes up will commensurately decrease the Cost of Goods Sold. Likewise, an inventory adjustment where the inventory value goes down will commensurately increase the Cost of Goods Sold.
COGS Formula used in [me] budgets:
{COGS} = {Starting Inventory} + {Purchases} - {Ending Inventory}
This article will break down more of why we include this in our calculations for your reporting.
Why is Inventory Included in my Budgets?
1. Aligns with Cost of Goods Sold (COGS)
- Inventory adjustments are part of the COGS calculation, which reflects the direct cost of producing what you sell. COGS is a critical metric in determining profitability, and excluding adjustments would distort this figure.
{COGS} = {Starting Inventory} + {Purchases} - {Ending Inventory}
- Inventory adjustments (e.g., starting - ending inventory) shows you the changes or usage in your stock.
2. Reflects Actual Usage
- Your on-hand Inventory is not an expense, it's an asset. If you ignored this completely and just based your budget on your purchases, you'd have an inacurruate understanding of your costs.
- The inventory adjustments account for the difference between what you purchased and what you actually used (or wasted). This is key information for you to see.
- One bonus of taking regular inventories is that you can more closely monitor for excess spoilage, theft, or over-portioning which can result in inventory loss. We want you to be able to see how this is playing out so you can manage and anticipate such issues.
3. Improves Budget Accuracy
- Including inventory adjustments ensures your budget matches actual operational realities.
- For instance, if your adjustments are regularly out of line with your sales and expected usage, this may be due to waste. If so, your team can decide to allocate resources for training, better portion control, or improved storage systems.
4. Ensures Compliance with Accounting Standards
- Inventory adjustments are part of proper accrual-based accounting practices. They ensure that your financial statements reflect the true cost of goods sold and align with the matching principle in accounting, where expenses are recognized in the same period as the revenues they helped generate.
Example
For a budget set to 23% of sales:
- Sales: $43,000
- Purchases: $10,000
- Starting Inventory: $5,000
- Ending Inventory: $4,000
Without inventory adjustments, your budget would show a flat expense of $10,000 divided by your total sales of $43,000. Giving you a nice 23.2% food cost.
However, with inventory adjustments, we know your expenses are actually $11,000:
{COGS} = 5,000 + 10,000 - 4,000 = 11,000
So now we are dividing $11,000 by your $43,000 sales which gives you a more accurate 25.5% food cost.
Excluding adjustments underestimates your costs, affecting profitability projections and decision-making.
How do Weekly vs. Monthly Inventories Affect my Budgets?
The most important thing, regardless of weekly vs. monthly, is to take consistent inventories. Make sure you are counting the same things, using the same count sheets, otherwise the adjustment the software is making isn't comparing the same two sets of data.
Taking weekly inventories versus monthly inventories will impact how frequently and accurately you capture inventory adjustments. The difference will be smaller adjustments make throughout the month, versus one large adjustment at the end of the month if you're just taking one end-of-month inventory.
1. Accuracy of COGS and Budgeting
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Weekly Inventories:
- Provide more frequent tracking of inventory fluctuations.
- Catch waste, theft, or errors sooner, allowing for quicker adjustments in purchasing, training and budgeting.
- Result in smaller, more frequent inventory adjustments, making COGS and budget tracking more stable.
-
Monthly Inventories:
- Capture broader trends but may miss short-term fluctuations in usage or waste.
- If adjustments are recorded only monthly, the impact on COGS can be delayed, making it harder to react in real-time.
- Larger adjustments may be needed at the end of the month, causing potential budget variances.
2. Impact on Purchasing and Forecasting
- Weekly inventories allow for more accurate ordering, reducing the risk of over-purchasing or running out of stock, keeping your budget in line.
- Monthly inventories may lead to more surprises at the end of the period if adjustments aren't caught early.
3. Variability in Budget Tracking
- Weekly tracking smooths out inventory fluctuations, making your budget more predictable and reducing large, unexpected adjustments.
- Monthly tracking can lead to bigger, last-minute adjustments, which may cause unexpected swings in your budgeted COGS for that period.
Will Inventory Adjustments Affect My Budget?
Yes, how often you take inventory will affect your budget because it changes how frequently you record COGS fluctuations. And remember, consistent inventories are best!
- Weekly inventories help you adjust your budget in real-time based on actual usage, leading to a more responsive and controlled cost structure.
- Monthly inventories may cause delays in recognizing issues, leading to sudden, large adjustments that could throw off your budget expectations.
Which Approach is Better?
- If your goal is tighter cost control and real-time budget accuracy → Weekly inventories are better.
- If you prefer broader trends and are okay with occasional budget surprises → Monthly inventories may be sufficient, but they require stricter oversight of waste and theft between counts.
You might have noticed that we strongly recommend taking accurate, consistent inventory, whether it be weekly or monthly! Let us know if you need some help getting going.
Best Practice: Hybrid Approach
Some restaurants use both weekly and monthly tracking:
- Weekly inventories for perishable items (e.g., proteins, produce) and high-cost items.
- Monthly inventories for dry goods and less frequently used products.
This approach balances real-time cost control while keeping long-term budgeting manageable.