Memo
Case Problem
Management of inventory is important because it helps companies to prevent stockouts, manage multiple locations, and also reduce costs associated with storage of such stock. According to Briginshaw (2010), the accounting control of inventories deals with the proper recording of receipts and consumptions as well as the flow of goods until they reach their final stage to consumers. Water Products Corporation has realized that undertaking inter-company transfer would increase the value of its inventory and achieve profits in the long run. However, for the company to realize profits during its transactions, it should first eliminate the intercompany sales and cost of goods sold (Harris, 2011). In the case with Water Products Corporation, the inventories must be recognized at the current replacement cost according to the laid down accounting standards. This memo will communicate the effects of intercompany inventory transfer to the president of Water Products.
From: Robert Bruce
To: President Christopher J. O’Connell
Re: Intercompany Inventory Transfer
This memo is prepared in response to the step by Water products Corporation to transfer its inventory to Plumbers Product Corporation and how the decision will affect the inventories of the company. A rapid increase in the cost of fixtures has made the inventory value for Water products Corporation to go down. Also, the fact that the company uses LIFO to value its inventory has resulted in more complex records for Water products Corporation. The reason for this is, the inventory that goes unsold occupies the accounting systems for the company (Zuhair Al Hassan et al., 2013). Transferring the inventory to another company will thus enable Water products Corporation to reduce the cost of keeping track of their inventory in their accounting systems.
However, for Water products Corporation to undertake the process of intercompany inventory transfer, it should first understand the effects that will be brought by the process, especially if proper elimination is not taken. Temeng et al. (2010) claim that inventory transfer between related companies may lead to the overstatement of the cost of goods sold as well as revenues in the final income statement. In our case, Water products Corporation will carry out the process effectively to ensure that the available inventory is not overstated and the net income is not altered. The change will help Water products Corporation avoid the cost of replacing stock.
It will also be a helpful step for Water products Corporation to purchase entirely new stock from Growinkle Manufacturing because it will reduce its inventory carrying costs. Plumbers Products will also benefit from this deal because if it can sell the inventory that it purchases from Water Products, its revenues will increase, as suggested by Briginshaw (2010). The same positive result will also be realized by Water Products after it sells the inventory that it purchases from Growinkle Manufacturing, but this will only occur if proper steps are undertaken in the management of the same inventory and adoption of the right inventory valuation method.
Lastly, it is essential to note that the transfer of inventory between Water products Corporation and the other firms such as Growinkle Manufacturing and Plumbers Products is not enough to generate income for the new entity. What matters is how the companies will effectively manage their new operations. If Water Products continues to use the LIFO method of inventory valuation, an additional level of complexity may also arise. In my opinion, the step by Water Products will improve its efficiency in the sale of its products, which would later lead to the generation of higher profits.