Accounting for obsolete inventory

April 1, 2012

Learn about accounting for obsolete inventory with examples of obsolescence reserve journal entries.

1. Definition of obsolete inventory

Obsolete inventory is the inventory that is non-useable (raw materials, parts) or non-resalable (finished goods).

Inventory can become obsolete in the following cases:

  • Inventory no longer purchased by customers
  • Inventory no longer used in manufacturing process
  • Excessive purchasing of inventory (e.g., raw materials, finished goods)
  • Development of new technology (e.g., change in product design)
  • Inventory with short-shelf life
  • Commodity items with rapid obsolescence

Obsolete inventory is carried at net realizable value (NRV), also called net selling price. That is, obsolete inventory is carried at estimated selling price in the ordinary course of business less predictable costs of completion and disposal.

To dispose obsolete inventory, management can do the following:

  • Return goods to the original supplier (if possible and makes sense)
  • Sell online through an auction
  • Use obsolete inventory for warranty replacements and repairs (if possible)
  • Donate to charity (and claim tax deduction)
  • Throw away

To control obsolete inventory, management can do the following:

  • Schedule regular obsolete inventory reviews
  • Review perpetual records that show last date of usage (e.g., stock levels, last usage date)
  • Review work-in-progress inventory for old items
  • Review physical storage methods
  • Review bills of material for product withdrawals (“where used” report)
  • Compare on-hand inventory to historical usage
  • Compare purchase requisitions to reorder points
  • Flag potentially obsolete inventory in the database (e.g., to stop repurchasing)
  • Turn-off automatic reordering
  • Move obsolete inventory to a designated area
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