In this article, we explain how the specific identification inventory method works and explore its advantages and disadvantages. We also provide a simple 5-step framework for implementing it, with real-world examples. Read on to learn more.
The specific identification inventory method is an inventory costing approach where each item of inventory is tracked and valued individually. Rather than averaging out costs or using estimates, businesses monitor the exact cost of each specific item.
Example: Brightstone Jewelers sells luxury watches. A Rolex they purchased for $9,000 might be sold for $12,000, while another Tag Heuer watch bought for $4,500 could be sold for $6,500. They track each watch's cost individually.
In the context of inventory valuation, the specific identification inventory method presents several advantages and disadvantages.
The specific identification method offers unique advantages tailored to particular business models. These include:
Accuracy: Costs are matched precisely to revenues for each sale. This eliminates estimation errors.
Transparency: Businesses can easily identify profit margins for each item sold. It provides clearer financial data.
Ideal for Unique Items: Best suited for items that are distinct or vary significantly. Luxury items, art pieces, or antiques fall under this.
Tax Benefits: With accurate cost records, businesses might manage tax implications better. It can minimize overpayment.
Easy Audit Trail: Detailed records mean that auditors can trace the history of each product easily. It reduces audit complications.
While beneficial, the method has its challenges to consider. We list some of these below:
Time-Consuming: Keeping detailed records for each item is labor-intensive. It demands rigorous record-keeping.
Earnings Manipulation: Businesses might select higher-cost items to sell when seeking tax benefits. This can skew profit figures.
Not Feasible for Similar Items: For businesses with vast identical stocks, this method is impractical. It becomes chaotic and redundant.
Risk of Loss: Misplacing records or errors can lead to significant financial discrepancies. It requires meticulous attention.
Costly: Due to detailed record-keeping, operational costs can rise. It might need additional staff or systems.
Implementing the specific identification method requires a systematic approach tailored to inventory valuation.
Follow our simple 5-step process to easily implement it:
Choose items in your inventory that you want to track individually based on their distinctive features or high value.
Example: Apple Store receives 3 unique limited-edition iPhones: Gold iPhone for $1,000, Silver iPhone for $950, and a Platinum iPhone for $1,100.
For every item selected, maintain a detailed record of its purchase date, cost, and any other relevant details.
Example: Tattered Cover acquires a signed first edition of a famous novel on January 1 for $200 and another rare book on January 5 for $250.
When an item is sold, record the specific cost of that item as the cost of goods sold (COGS).
Example: Rolex sells a specific limited edition watch from its inventory on February 1. The COGS for this sale is its specific purchase price, say $5,500.
After the sale, adjust the total inventory value by deducting the cost of the sold item.
Example: After selling a vintage car model, Ferrari adjusts its inventory value. If the sold car was acquired for $250,000, this amount is reduced from the inventory value.
Periodically, match your records with the actual items on hand to ensure accuracy.
Example: At quarter-end, Nike does a physical count of its limited-edition sneakers. If only the specific models they've recorded are on the shelves, their records are accurate.
Sophia's Art Gallery is a prestigious art dealer. They needed to use the specific identification inventory method to accurately track and value the unique pieces of art they acquire.
Here’s how they followed our 5-step framework:
Sophia's Art Gallery acquires three one-of-a-kind paintings: Sunset Bliss for $10,000, Mountain Majesty for $12,000, and Ocean Odyssey for $8,000.
The gallery meticulously documents their respective prices. They note that Sunset Bliss was bought on March 1, Mountain Majesty on March 10, and Ocean Odyssey on March 15.
On April 5, Sunset Bliss sold for $15,000. The gallery records the COGS for this sale as its original purchase price of $10,000.
After the sale of Sunset Bliss, the total inventory value is adjusted to $12,000 (Mountain Majesty) + $8,000 (Ocean Odyssey) = $20,000.
By the end of April, Sophia's Art Gallery conducts a physical check of its art pieces and confirms only Mountain Majesty and Ocean Odyssey remain, validating the accuracy of its records.
The specific identification inventory method is a meticulous approach best suited for businesses dealing with unique items. We hope you now have a better understanding of the specific identification inventory method and how to implement it.
If you enjoyed this article, you might also like our article on different types of inventory or our article on Kanban inventory system.
