Inventory management for small businesses in India: the complete guide

What is inventory management for a small business?

Inventory management is knowing, at any moment, how many units of each product you hold, where they are and what they are worth. Those three numbers decide what you can promise a customer, what you must buy next and what profit you really made.

In a small factory or trading firm the stock register usually lives in Excel or in somebody's head, and it drifts away from the books. This guide covers the whole system in the order you would set it up: what to track, how stock moves, how it is valued, how to keep it right and how to check it every month. Each topic links to a deeper article.

Which items should you track as stock?

Track an item as stock when you buy it, hold it and sell or consume it later. Services, freight charges and one-off expenses are not stock, because nothing sits on a shelf.

How should you set up products, units and SKUs?

Give each product one SKU, one stock unit and one HSN code, and never sell the same thing under two names. Most stock errors in small firms start with a product that exists twice or a unit that changes between the bill and the invoice.

• One product per thing you sell or consume, with a short, stable SKU
• One stock unit per product: piece, kg, metre or box, never two
• If the supplier bills in boxes and you sell pieces, decide which one is the stock unit before the first entry
• HSN code set on the product, so every invoice line carries it
• Tracked flag on for goods, off for services
• Opening stock entered with a cost, not just a quantity

HSN codes belong on the product because the invoice reads them from there. For the GST side of HSN, see the GST billing guide.

Why should you track stock by warehouse or godown?

Track stock by location as soon as goods sit in more than one place, because a total that is right is useless if the racks are in the wrong godown. A warehouse can be a godown, a shop, a site store or a vehicle that holds stock overnight.

Quantities are held per warehouse. Value is not: the cost of a product is the same wherever it sits, which keeps moves between your own locations simple. Moving goods between them is a stock transfer between warehouses, not a sale and a purchase.

Every stock change should be a posted document

Stock should change only when a document is posted: a bill brings it in, an invoice takes it out, a transfer moves it, an adjustment corrects it and a work order converts it. If a number can be typed directly into the stock column, nobody can explain it six months later.

This list of rows is the movement ledger. On hand for any product is simply the sum of its rows. Posted documents are never edited; a mistake is cancelled, which posts the reverse rows, and then entered again. The history stays readable.

How is stock valued with weighted average cost?

Under weighted average cost every unit of a product carries the same cost, recalculated whenever stock comes in at a new price. Sales leave at that average, which sets your cost of goods sold and your gross margin.

The formula and a step-by-step example are in weighted average cost explained. The short version: receipts move the average, issues leave at it and transfers do not change it. The worked example below shows all three.

How does one product move through a month? A worked example

Here is the rest of October for one product at Lakshmi Steel Furnitures, the fictional Coimbatore business on this site: the steel rack 4 shelf. It picks up on 4 October, where the weighted average cost guide ends, with stock in the Main godown and at the Ukkadam store.

1. 1

   4 October: opening position

   52 racks at an average of ₹3,120, value ₹1,62,240. 40 in the Main godown, 12 at Ukkadam.

2. 2

   6 October: transfer to Ukkadam

   10 racks move from the Main godown to Ukkadam at ₹3,120. Quantity and value in total do not change.

3. 3

   9 October: invoice to Ravi Stores

   12 racks leave Ukkadam at ₹3,120. Cost of goods sold ₹37,440. The average stays ₹3,120.

4. 4

   14 October: bill from Kovai Metal Traders

   20 racks into the Main godown at ₹3,300, ₹66,000. New average = (₹1,24,800 + ₹66,000) ÷ 60 = ₹3,180.

5. 5

   20 October: invoice to Sri Kovai Hardwares

   8 racks leave the Main godown at ₹3,180. Cost of goods sold ₹25,440. The average stays ₹3,180.

6. 6

   31 October: month-end count

   Ukkadam counts 9 racks against 10 on the books. One rack goes out by a count adjustment at ₹3,180, reason: physical count.

By warehouse, the month ends with 42 racks in the Main godown (40 − 10 + 20 − 8) and 9 at Ukkadam (12 + 10 − 12 − 1): 51 in all, worth ₹1,62,180. The one missing rack cost ₹3,180 and is booked as a stock loss, not hidden inside next month's numbers.

Stock value must match the Inventory account

The value of stock in your stock report must equal the balance of the Inventory account in your balance sheet. If the two differ, either stock moved without a ledger entry or the ledger moved without stock, and your profit is wrong by the same amount.

In the example, each movement posted both sides at once. The bill debited Inventory by ₹66,000. The invoices credited Inventory and debited cost of goods sold by ₹37,440 and ₹25,440. The transfer posted nothing to the ledger because value did not change. The count credited Inventory and debited Inventory Adjustments, an expense account, by ₹3,180. That is why the two numbers agree.

The usual cause of a mismatch is a stock register kept apart from the books. The Excel stock register problems article walks through the common ones.

How do reorder levels and a low stock list prevent stock-outs?

A reorder level is the quantity at which you should place the next order, so that new stock arrives before the shelf is empty. Set it per product from how fast it sells and how long the supplier takes.

The usual formula is average daily usage × lead time in days + safety stock. If Lakshmi Steel sells 2 racks a day, Tamil Nadu Steels takes 7 days and it keeps 6 as a cushion, the reorder level is 2 × 7 + 6 = 20. The full method, with a table for a hardware shop, is in how to set reorder levels.

Reorder levels only help if someone looks at them. Open a low stock list once or twice a week, see every product under its level with the shortfall, and raise purchase orders from it.

What causes negative stock and why does it matter?

Negative stock means the books show you sold more than you had. It almost always comes from an invoice posted before the bill, the wrong warehouse on a document, a unit mismatch between box and piece, or opening stock that was never entered.

It matters because weighted average cost has nothing sensible to work from below zero, so cost of goods sold and margin go wrong for every sale after it. Fix it in order: find the movement, post the missing document, correct the warehouse with a transfer, then count. Details are in negative stock causes and fixes.

How should you count stock and post the differences?

Count physically at least once a year for valuation and more often for fast or costly items, then post every difference as an adjustment with a reason. Never overwrite the stock figure to match the count.

1. 1

   Fix a count window

   No bills, invoices or transfers are posted for the location while it is counted.

2. 2

   Print the stock list per warehouse

   Two people per rack: one counts, one writes.

3. 3

   Enter the counted quantity

   Record what is on the rack; the difference against the book quantity is what posts.

4. 4

   Give every difference a reason

   Count difference, damage, theft or expiry noted as a reason.

5. 5

   Post and lock

   Shortages leave at average cost to stock loss. Once the accountant signs off, set the lock date.

Cycle counts of the top 20% of SKUs each month catch errors early. The full method is in stock audit and physical count.

How do bills of materials and work orders fit into inventory?

For a maker, production is just another stock movement: raw materials go out, finished goods come in, and the cost travels from one to the other. A bill of materials (BOM) says what one batch consumes; a work order records one batch actually made.

• BOM: components and quantities for an output quantity, a scrap percent per line and an additional cost for labour and overhead.
• Standard cost per unit: (material cost + additional cost) ÷ output quantity. See how to calculate cost of production with a BOM.
• Work order: issues materials from a snapshot of the BOM and, on completion, puts finished goods into stock at actual cost. See work orders for small factories.

What should the month-end inventory routine include?

A month-end routine of about an hour keeps stock and the books in step. Do it in this order, before you look at profit.

• All supplier bills for goods received this month are posted
• All invoices and credit notes are posted, none left in draft
• No product shows negative stock in any warehouse
• Transfers sent and received are both posted
• Cycle count done for the month's group of SKUs, differences posted with reasons
• Stock value equals the Inventory account balance, difference zero
• Low stock list reviewed and purchase orders raised
• Lock date moved forward once the accountant is satisfied

How does SimpleERP handle inventory for a small business?

SimpleERP tracks goods only, and stock moves only when a document posts: bills, invoices, credit and debit notes, adjustments, transfers and work orders. Posting an invoice writes the stock issue, cost of goods sold, the receivable and GST in one step. Posted documents cannot be edited; cancellation reverses them.

• Weighted average cost per product across the organisation, quantities per warehouse.
• A reorder level per product and a low stock list showing the shortfall, with one click to create purchase orders grouped by supplier. The default quantity is reorder level × 2 − on hand.
• Stock adjustments in count mode, each with a reason, and transfers between warehouses.
• Selling below zero is refused by default. If you allow negative stock, the next receipt restarts the average at its own cost.
• Opening stock by a dialog on the product, by an adjustment, or by a product CSV import.
• The stock screen shows total stock value beside the Inventory account balance and the difference between them.
• BOMs with versions, scrap percent and a live cost roll-up, and work orders that put finished goods into stock at actual cost.

See the inventory management feature page for screens, and pricing for the free trial.