Significance of Physical inventory

• Accurate Inventory Records: Physical inventory counting ensures that inventory records are accurate, reflecting the actual quantity of goods on hand. This eliminates errors caused by manual counting or discrepancies between physical and digital records.
• Shrinkage Detection: Physical inventory counting identifies and addresses shrinkage (theft, damage, or loss) by comparing actual counts with expected quantities, enabling businesses to take corrective action.
• Inventory Valuation: Accurate physical inventory counts enable businesses to value their inventory correctly, which is essential for financial reporting, tax purposes, and insurance claims.
• Improved Forecasting: Physical inventory data informs inventory forecasting, enabling businesses to better anticipate demand and adjust inventory levels accordingly.
• Compliance: Physical inventory counting is often required by regulatory bodies, such as tax authorities or auditors, to ensure compliance with inventory reporting and valuation requirements.
• Process Improvement: The physical inventory counting process can identify inefficiencies and bottlenecks, enabling businesses to streamline their operations and optimize inventory management.

Types Of Physical Inventory

The following physical inventory procedures can be used in SAP system:
• Periodic inventory
• Continuous inventory
• Cycle counting
• Inventory sampling

• Periodic inventory: 
  • In a periodic inventory, all stocks of the company are physically counted on the balance sheet key date.
  • In this case, every material must be counted. During counting, the entire warehouse must be blocked for material movements.
  • Most of the time companies use this kind of inventory. In most cases, it is done once a year, and this kind of inventory is called annual physical inventory.

• Continuous inventory: 
  • All materials are counted at some point in the year, but that can be at any day appointed for. So we can count some material in February, others in April and so on.
  • A single material can be counted on a single date. This type of inventory is mainly utilized in warehouse management based warehouses, but it can be done in inventory management too.
  • The only difference is that you count a material more than one time per fiscal year.

• Cycle counting: 
  • Cycle counting is a method of physical inventory where inventory is counted at regular intervals within a fiscal year. These intervals (or cycles) depend on the cycle counting indicator set for the materials.
  • The Cycle Counting Method of Physical Inventory allows fast-moving items to be counted more frequently than slow-moving items.

• CC phys. Inv. Ind. Inventory sampling: 
  • In MM Inventory Sampling, randomly selected stocks of the company are physically counted on the balance sheet key date.
  • If the variances between the result of the count and the book inventory balance are small enough, it is presumed that the book inventory balances for the other stocks are correct.

Restrictions
The posting of physical inventory differences is subject to certain time constraints:

• The posting period is automatically set during counting. Therefore, the inventory difference must be posted to the same period or – if postings to the previous period are allowed – in the following period.
• The fiscal year is set by specifying a planned count date when creating a physical inventory document. All subsequent postings to this document must take place in this fiscal year and/or in the first period of the following fiscal year, if postings to the previous period are allowed.

Physical Inventory Process summary

The process of physical inventory can be divided into three phases:

1. Physical Inventory Preparation
   • Create a physical inventory document
   • Blocking Materials for Posting
   • Print and distribute the physical inventory document
2. Physical Inventory Count
   • Counting stocks
   • Entering the result of the count on the physical inventory document printout
3. Physical Inventory Analysis
   • Entering the result of the count into the syste
   • Initiating a recount, if necessary
   • Posting inventory differences

Blocking Materials for Posting

There are two ways to block materials for posting for the duration of the physical inventory count:

• Posting block -Posting Block allows you to set a block indicator so that system wont allow to make any stock postings during the Physical inventory period.
• Freezing block – Freeze inventory will Freeze the book inventory i.e. it makes a note of the total inventory of a material and freezes it. so that you can still make stock postings even after creating physical inventory documents.

Account Activity During Posting of Inventory Differences

The account activity during posting of the inventory differences depends on which stock was inventoried:
– company’s own stock
– consignment stock from vendor

Inventory Differences in Company’s Own Stock

• When you post inventory differences, the material master record is changed, total stock is automatically adjusted to the counted quantity.
• From the accounting point of view, this corresponds to a goods receipt or goods issue, meaning that when the inventory difference is posted, the stock account is debited or credited:
• If the counted quantity is smaller than the book inventory balance, the stock account is credited with the following value, inventory difference x price. The offsetting entry is made in the “Expense from physical inventory” account.
• If the counted quantity is greater than the book inventory balance, the stock account is debited with the value of the inventory difference x price. The offsetting entry is made to the “Income from physical inventory” account.
• Since the amount posted is calculated on the basis of the current standard or moving average price, posting inventory differences does not lead to a price change.

Physical inventory process step

Step 1 – Create Physical Inventory Document

• Create a physical Inventory Document using the t-code MI01
• Enter the document date , planned count date, plant storage Location and posting Block and enter
• Maintain the materials and click on save . A physical inventory document will be created
• We can change physical and display physical inventory document with MI02 and MI03 t-code

Step 2 – Counting the inventory (MI04)

• Enter the phys.Inventory Document using Created after MI01 and the count date
• Input Count for the individual materials . Click Save .
• We can edit and display the count by using MI05 and MI06 respectively

Step 3 – Post Physical Inventory Differences

• Enter the phys.Inventory Document using Created after MI01 and the posting Date:
• Post inventory difference quantity along with the reason and Click Save
• We can see that our posting is done by creating the resulting material document.
• We can check the material document in MB03.

Movement type used for goods receipt from physical inventory

• 701 – Goods Receipt for unrestricted stock
• 702 – Goods Issue for unrestricted stock
• 703 – Goods Receipt for quality inspection stock
• 704 – Goods Issue for quality inspection stock
• 707 – Goods Receipt for blocked stock
• 708 – Goods Issue for blocked stock