Inventory like food, beverages, and medicine have an expiry date to ensure they remain safe for consumption. After these items expire, they can still be sold to another business (like a manufacturer) at a discounted price so that they can be used for other purposes.
In any case, accounting for inventory that’s already expired requires that its value be reduced in one’s records, with the effects reported on financial statements. This is because the amount results in a loss that lowers the profit.
What is expired inventory
Expired inventory, or obsolete inventory, is inventory that has reached the end of the product life cycle. This means that the inventory has neither been used nor sold for quite some time now — and will likely no longer be used or sold in the foreseeable future.
This kind of inventory needs to be written off.
On a broader scale, the term “inventory” refers to the goods a company has in its possession and is ready to be used or sold. Inventory is a crucial aspect of business operations and accounts for a huge chunk of a sales company’s revenues.
The product lifecycle has shortened significantly over time, especially since abundance and overconsumption have become more rampant, and customers have come to expect products to be of a much higher quality overall. This means that the rate of inventory obsolescence has also sped up.
Accounting for expired inventory
Expired or obsolete inventory remains on hand after its intended sell-by or use-by date. Inventory that can’t be sold in the markets declines rapidly and significantly in value and may be deemed useless to the business.
To recognize this decrease in value, expired inventory needs to be written off or written down in the financial statements in adherence to the Generally Accepted Accounting Principles (GAAP).
If the market value of the inventory has fallen below the cost reported on the financial statements, a write-down occurs. A write-off occurs if the inventory is completely taken off the books and is considered of no value or cannot be sold.
The GAAP dictates that companies need to establish an inventory reserve account for expired inventory on their balance sheets. They then need to expense their expired inventory as it is disposed of. This can either reduce profits or result in losses.
Inventory obsolescence is then reported by debiting an expense account and crediting a contra asset account. Expense accounts include cost of goods sold, loss on inventory write-down, and inventory obsolescence accounts. Contra asset accounts include an allowance for obsolete inventory as well as an obsolete inventory reserve. For small inventory write-downs, companies usually charge the cost of goods sold account. For larger ones, the expense is usually charged to an alternate account.
Upon debiting an expense account, it is identified that the money spent on the (now expired) inventory is an expense. The contra asset account is then reported on the balance sheet, just below the asset account relating to it. This then reduces the asset account’s net reported value.
