The basics of retail accounting: what every retailer needs to know

 

What if there was a simple formula you could use to track inventory costs without manually checking every week? Say hello to retail accounting.

Sounds too good to be true, right? Let’s find out.

 

What is retail accounting?

Say you’ve been working hard for two years now, building a retail store with a great product that your customers really love, but somehow you always seem to spend too much time sorting stock.

As a retail business owner, you’ll be no stranger to constant demands on your time for stock and inventory management.

At its most basic, the retail method of accounting is about calculating the cost of inventory purchased relative to the selling price. It utilises a simple formula to understand these costs, delivering a number you can use to judge your expenses accordingly.

This method can help you keep account of the goods you’re buying or selling, work out how much is left, and maintain the right amount of stock, no matter the situation.

 

How does retail accounting work?

Retail accounting works off a formula known as ‘cost to retail’:

Total cost Total cost (beginning inventory) + total cost (purchased inventory)

Retail value Retail value (beginning inventory) + Retail value of goods of period

 

For example:

• You run a business selling t-shirts and hats
• You sell t-shirts for £26 – they cost £20 to make – that’s a 30% markup
• You sell hats for £13 – they cost £10 to make – again, that’s a 30% markup

 

Total cost

To work out your Total cost, you must multiply your product cost by how many products you have and then add any additional stock purchases again by multiplying your new stock amount by the purchase price.

10 t-shirts = £200 (10x £20) total beginning inventory cost

25 hats = £250 (25x £10) total beginning inventory cost

So your total beginning inventory cost would be £450. 

Now let’s say you purchased an additional 5 t-shirts, and 10 hats halfway through the month.

5 t-shirts = £100 (5x £20) total purchased inventory cost

10 hats = £100 (10x £10) total purchased inventory cost

The total inventory cost would be £200.

This means your total cost of purchase would be £650.

 

£650 £450 (£250+200) + £200 (£100+£100)

Retail value (beginning inventory) + Retail value of goods of period

 

Retail value

You then follow the same format for the retail value, adjusting the values accordingly.

10 t-shirts = £260 (10x £26) beginning inventory retail value

25 hats = £250 (25x £13) beginning inventory retail value

That’s a beginning inventory retail value of £510.

Then the additional stock:

5 t-shirts = £130 (5x £26) retail value of goods of period

10 hats = £130 (10x £13) retail value of goods of period

So an additional retail value of £260.

That means your final retail value will be £770.

 

£650 £450 (£250+200) + £200 (£100+£100)

£770 £510 (£260+200) + £160 (£130+£130)

 

Divide those numbers to get your cost of retail ratio formula: 0.84. 

Turn that into a percentage, and you get your final cost to retail ratio of 84%.

 

Pros and cons of retail accounting

As a method of quickly working out your stock, retail accounting is a huge time saver. By no means does it replace a proper balance sheet, but it does allow for a fast method of calculating your inventory.

For a busy retail business that knows they’re turning a profit each month, this is a very attractive cheat code. But for those looking to be more analytical, it’s probably best to use this only for a rough estimate.

If the stock you purchase is subject to change (through inflation or a shortage of materials, for example), the formula will need to be constantly adjusted and may yield results that are out of date in a matter of days.

And if you want to apply promotions on your stock, again, the limitations of the formula are laid bare.

It’s very handy for providing an estimate, but not to be relied on for your entire stock and inventory management.

 

Alternatives to retail accounting

As part of your overall financial strategy, retail accounting is an important tool – but on its own, it’s not enough.

Common accounting methods to be used alongside a proper retail accounting strategy include:

• Cost accounting. This involves breaking down the variable costs a business incurs onto a balance sheet to determine where money is being spent.

• Financial accounting. This is the reporting and analysis of company transactions. Often these are prepared for external purposes to show the public or investors the company’s health.

• Managerial accounting. This is used as part of company strategy and often includes the gathering of financial information to be presented to business managers and better inform their processes.

 

Talk to an expert

This article is just a guide – to really understand how retail accounting works and implement it as part of your business, it’s best to talk to an expert.

We’ve worked with countless retail businesses and helped them manage their stock effectively and efficiently.

Need help with retail accounting? Give us a call, and we’ll help you out.