Production orders and negative inventory has been always problematic. I’ve introduced production stages to address some issues but one issue remained unresolved. The latest version (20.7.45) is addressing this.
Consider the following example:
Let’s start with two inventory items
- Leather (starting qty zero)
- Handbag (starting qty zero)
- Customer buys a handbag on 24/06/2020 which is made to order for $100. We record the sale on the day.
- Before we can deliver handbag to customer, we need to produce it and we need leather. We do not have leather in stock so we order it from our leather supplier. Our leather supplier will deliver required leather the next day on 25/06/2020 but they will invoice us at the end of the month.
- Since we already have leather on hand, we can create production order on 25/06/2020 to take 5 units of leather to produce one unit of handbag.
- Finally, on 30/06/2020 our leather supplier gives as purchase invoice for $20 to purchase 5 units of leather.
This sequence of transactions will end up showing $20 value on hand even though quantity on hand is zero.
This is because when production order has been created on 25/06/2020, it created 1 qty of handbag with the cost of $0 because the cost of leather has become known only at the end of the month by entering purchase invoice from leather supplier. This sequence also messes up inventory profit margin report because no cost is being allocated to the sale (as the cost of the leather got known a week later after the sale) and profit margin for this sale would incorrectly show 100%.
Obviously this is silly example. Real world entries are not as straightforward but the issue is the same.
To solve this problem I realized production orders must not produce output items until all input items are fully costed. For example, if your production order has 5 input items and if even one is of insufficent quantity, output item won’t be added to inventory until there is sufficent quantity of all input items. This means once output item is finally produced, the full cost is known and subsequent sales of this item will correctly deduct the cost.
So here is how the latest version is solving this issue with leather and handbag.
When production order is entered on 25/06/2020, leather is hasn’t been purchased yet. Manager will show status for Production Order to be Insufficent qty.
Insufficent qty means you have on production order one or more input items which do not have required qty in inventory. In this case, we have insufficent qty because we are using 5 units of leather which we don’t own yet. We will own these 5 units of leather once purchase invoice from leather supplier is entered on 30/06/2020. Once leather is purchased, production order status will automatically switch from Insufficent Qty to Complete.
Status being Complete means output inventory item is added to inventory on the date production order has been fulfilled. Not on the date production order has been created. This is important because on the date production order has been created (25/06/2020), the cost of leather was not known yet. It became known on 30/06/2020. So output item Handbag is added to inventory on 30/06/2020 with its full cost.
Because there was pending sale entered on 24/06/2020 to remove one handbag, the handbag gets finally removed from inventory on 30/06/2020 as well at the full cost. As a consequence, inventory profit margin end up being correct too.
Now, the example above was trivial because entered production order required 5 units of leather and all 5 were not in inventory.
What happens when production order requires 5 units of leather and we have 2 units of leather in inventory?
After production order is created. Inventory items screen will end up like this:
Qty on hand is reduced by 5 and total cost changes from $8.00 to $0.00. In previous versions of Manager would instantly move $8.00 to Handbag total cost but since production order won’t produce handbag until there is sufficent quantity of all input items, there is new control account which now hold accumulated costs for production orders with insufficent quantity.
The account is called Production in progress
In this control account, the cost of output items is being accumulated and the cost is transferred to Inventory on hand only after production order has collected sufficent quantity for all input items. If you have no production orders with insufficent quantity, the balance of Production in progress will be always 0.00.
