Inventory valuation is the process of determining how much your inventory is worth at the end of an accounting period. It helps you calculate Cost of Goods Sold (COGS) and understand the true value of remaining inventory. Accurate inventory valuation is key for reliable financial statements and tax reporting.

“Inventory valuation tells you how much your unsold goods are worth.”

Inventory is one of the most important assets for many businesses, and valuing it correctly is essential. If inventory is valued too high or too low, it can lead to overstated or understated profits, giving a false impression of the business’s performance. That’s why it’s crucial to use a consistent and appropriate valuation method—such as FIFO, LIFO, or Weighted Average. Proper inventory valuation not only ensures accurate financial reporting, but it also impacts several key areas including net income, taxes owed, asset values on the balance sheet, and even day-to-day business decisions like pricing and when to reorder stock.  

Sometimes, inventory needs to be adjusted due to issues like damage, spoilage, theft, loss, obsolescence, or even simple counting errors. When any of these occur, the inventory value on your books is no longer accurate and must be corrected. This is done by reducing the inventory balance and recording the difference as an inventory shrinkage or loss expense. For example, if your records show 100 units in stock but a physical count reveals only 95, you need to adjust your books for the 5 missing items. This means reducing your inventory by 5 units and increasing your expense account to reflect the loss.

Under accounting rules, if the market value (current selling price) of inventory drops below what you paid (cost), you may have to write it down. This is known as the Lower of Cost or Market rule. It helps keep your inventory value realistic and avoids overstating assets.

✅ Inventory valuation helps calculate COGS and true asset value
✅ Adjustments may be needed for loss, damage, or shrinkage
✅ Always use consistent methods like FIFO, LIFO, or Weighted Average
✅ The Lower of Cost or Market rule prevents overvaluing inventory
✅ Accurate valuation = better profits, planning, and compliance