A client asked: We purchase metal shelving, add a protective rubber coating and then sell the modified product. How should we track the addition of the protective coating?
First, you should consult your accountant regarding whether to record the protective coating as an operating expense or inventory improvement. If, however, you determine that it is an improvement, you can use the following method:
* Create an "Inventory Improvements" account to track added costs.
The account can be of the type Other Current Asset or Cost of Goods Sold (again, check with your accountant). The point is to separate this expense from operating expenses.
* Create the inventory item (do not enter a cost or a current value when you create the item).
* When you purchase the item, post the transaction (a bill from a vendor, a direct check) to the inventory item (Items tab in the transaction window).
* When you pay for the improvements, post the bill or check to the Inventory Improvements account you created.
This debits the Inventory Improvements account. Put the name of the inventory item in the Memo field so you can link your improvements to the right inventory item.
When the inventory item is totally "improved", adjust the cost using the following steps:
* Choose Vendors > Inventory Activities > Adjust Quantity/Value On Hand.
* Put a check mark in the Value Adjustment checkbox in the lower left corner of the window, which adds the New Value column to the transaction window.
* In the New Value column, enter the total of the current value plus the additional expense.
* In the Adjustment Account field, select the Inventory Improvements account.
This action credits that account, washing the debit you posted when you paid for the improvements, and debits your Inventory account to reflect the higher value.
* Ignore any error message you see about the adjustment account you selected, save the transaction.
The new value is the amount posted to COGS when you sell the item. This method also applies to other expenses. This is a way to track any type of additional expenses you want to add to the original cost of an inventory item, such as freight-in charges not known when you received the inventory.