Tracking Inventory vs. Cost of Goods Sold

For small restaurants, the cost of food purchases is often tracked directly as Cost of Goods Sold, which is a sub-category of expenses. While many small businesses can get a reasonably accurate calculation of their costs using this method, most locations will get better results by tracking inventory.

When you purchase food, it does not immediately count as an expense in accounting terms. It is considered inventory—an asset—until you sell it. Once you sell the food, it is no longer an asset, and becomes a cost of sales.

If you have a small location with minimal food storage, and at the end of every week you have empty shelves and freezers, you can probably get away with skipping the inventory, and recording purchases as an expense. Because every week, the amount of food you buy is roughly equal to the amount of food you use.

But if the amount of inventory you have on hand can vary from week to week, you will need to track your inventory to have an accurate picture of your usage. If you stocked up on supplies that week, your purchases were higher than your usage, and if you depleted a full stock, then your purchases were lower than your usage.

In that case, your purchases of food inventory should be recorded as “inventory”, not “cost of goods sold”. That means you will need to periodically add another entry in your accounting system, to move value out of Inventory, into Cost of Goods Sold.

If you want to run profit and loss reports more often than you count inventory, you will need to calculate a percentage of sales, and transfer that amount of inventory to costs. For example, if your target for food cost is 35%, for every $100 in sales you would record a transfer out of inventory, into costs, of $35.

If you do a physical inventory as often as you print reports, you can just enter an adjustment each time, rather than entering estimated percentages.

In either case, you will need to periodically do a physical inventory of your stock. You will need to calculate the estimated value of all the inventory you have on hand as of that date. In your accounting system, you should be able to show the current value of the inventory accounts, as of the same date. If your calculated value from your physical inventory is different from the current value in the accounting system, you then enter a transfer to make up the difference.

If you use the method of entering a percentage of sales as inventory transfers, and you often have to enter adjustments to lower the total inventory after a physical count, then the percentage of sales you are calculating is lower than what you are actually using.

To make your reports more accurate in between inventory cycles, you would need to increase the percentage you are calculating from sales to transfer from inventory to costs. Ideally, of course, you can nail down the reason your food costs are higher than you expected, but that’s beyond an accounting issue.