Specific Identification is a method of conducting Inventory Valuation.
Inventory Valuation is the process of putting a value on the inventory that is being held by a business.
Inventory can be in the form of raw materials, parts, components, or finished products.
Inventory is an asset on the company’s balance sheet and so needs to be properly valued.
In this article, we will study the Specific Identification Method of Inventory Valuation.
- What is the Specific Identification Method?
- Inventory Valuation using the Specific Identification Method
- Pros & Cons of the Specific Identification Method
- Key Takeaways
What is the Specific Identification Method?
In the Specific Identification Method, as the name implies, every specific item in the inventory is identified and valued individually for as long as it remains in the inventory.
The important point is that every item is tracked individually and not as a part of a group.
This makes the Specific Identification Method relatively more expensive to implement than other methods where items because they are interchangeable, are clubbed together (eg LIFO & FIFO).
And so, it makes sense to use this method for expensive inventory items like cars, purses, watches, jewelry, etc.
Inventory Valuation using the Specific Identification Method
A requirement of the Specific Identification Method is that it should be possible to track each item individually as it enters your inventory, makes its way through it and finally exits the inventory.
This method of inventory evaluation can be used by small and large companies. Smaller companies with fewer items in the inventory may be able to manually count each item and simply fill out a paper sheet or use their mobile phones to track the information and store it in a mobile inventory solution.
Larger companies with much larger inventories could make use of RFID tags or barcodes or QR codes and use an automated process to track each individual item.
Valuation is performed by associating certain costs to each tracked item. This includes the cost of acquisition (eg purchase cost) of the item but also other costs while the item is in the inventory (eg maintenance cost).
If an item exits inventory through a sale, the cost of that item is then added to the Cost of Goods Sold or COGS.
At the end of a fiscal period (eg a quarter), the cost of an item that remains in inventory is added to the value of the ending inventory.
In the same way, the Specific Identification Method can also be used to calculate excess inventory.
Pros and Cons of the Specific Identification Method
1. Track every item
The Specific Identification Method helps a business track every item that it has acquired and that is in its inventory.
2. Easily calculate End Inventory
Since every item in inventory is individually tracked and valued, it becomes easier to calculate the ending inventory at the end of a fiscal period.
3. Get useful insights into your business
Can provide precise information on stock levels, money “stuck” in inventory, how long products are staying in inventory, which ones are staying longer than others, etc.
4. Get precise valuation of your inventory
This method provides a precise valuation of inventory, and so makes the balance sheet more accurate.
1. Items need to be separable
The Specific Identification Method only works if you are always able to separate out each individual item in your inventory. In many cases, this just isn’t possible.
2. Expensive to implement
This method is more expensive to put into practice compared to alternate methods where items are grouped together.
3. Automation may be needed
Large companies with a large number of items in inventory need automated systems to implement this method of inventory evaluation.
4. Complicated when items are interchangeable
The Specific Identification Method is complicated to apply to items that are interchangeable and therefore cannot be used for such inventories.
A Jewellery Store
A jewelry store carries necklaces, earrings, pendants, rings and other expensive jewelry made from diamonds, emeralds, rubies, sapphires and other precious stones.
Each item is unique and cannot be clubbed together with another when being valued.
The store does inventory valuation manually. An employee walks through the store and scans the bar code on each item that is still in the store.
This information is then uploaded to the product database, where the inventory software correlates each bar code against a product name and value.
It then tallies up the value of all scanned products to get the value of the ending inventory.
Electric Motor factory
A company manufactures different types of electric motors: AC Motors, DC Motors, PMDC Motors, Synchronous Motors, etc.
They supply to industrial companies worldwide which use these motors in their own products.
At the end of each quarter, all products which are in the factory are run on a conveyor-based automated scanning system. The RFID tag on each product is scanned before it is returned either to the warehouse or back to the factory floor.
Using such an automated mechanism the company can quickly and accurately value its inventory which can include thousands of items.
- Specific Identification is method used for valuing inventory.
- Items in inventory are individually identified, tracked and valued from the moment they enter the inventory till they exit it.
- If an item is sold, it leaves the inventory, and its cost is added to the Cost of Goods sold like item in the Income Report.
- If an item remains in inventory, then it is added to the value of the ending inventory at the end of the fiscal period.
- The Specific Identification Method gives a very precise valuation of inventory since every single item is tracked and valued.
- But this method is expensive to implement and so is used for pricey items or when there are few items in inventory.