Inventories are a critical element of merchandising businesses, such as wholesale and retail companies, as they represent the goods that are purchased and sold. These businesses rely on the sale of merchandise as their primary source of revenue, and the cost of merchandise sold is a significant deduction from sales. Inventories are also typically the largest current asset for these firms.
The accurate accounting for inventories is essential, as it affects the cost of goods sold and the value of the inventory on the balance sheet. If inventories are misstated, either understated or overstated, it can distort the financial statements of the business. It is important for businesses to accurately track and value their inventories to ensure the accuracy of their financial statements.