This article is relevant if you are looking for a best NetSuite based practice using the Light Assembly module to capture and capitalize costs that are not directly related to purchasing.
Background
NetSuite offers a Light Assembly module which is often used by organizations in the wholesale and distribution industry. This module is lightweight because the primary feature is to offer a bill of materials (BOM) for the creation of components that can be used to track accounting and inventory as sub assemblies and ultimately as finished goods. NetSuite’s Light Assembly feature differs from NetSuite Manufacturing in that it does not offer Work In Process (from Raw Materials to Finished Goods), capacity planning, and work center management and scheduling.
Many NetSuite based organizations in wholesale and distribution utilize Third Party Logistics (3PL) companies to manage warehouse and inventory versus having their own warehouse. Some 3PL companies offer assembly functions to enhance base products (raw material) into new finished goods. The 3PL organization will often charge a per unit fee for the transformation of base inventory items into a finished good. This fee can generally be called an assembly unit cost.
Per unit assembly cost is associated with work to transform raw inventory into finished goods. Ideally, these costs should be capitalized; which means that the costs associated with bringing inventory into existence should be summarized and held on the balance sheet as an asset as opposed to a period cost recognized on the income statement. Assembly cost then will be recognized as cost of goods sold during a NetSuite item fulfillment when the goods are ultimately shipped.
NetSuite offers common inventory management and cost types including average, FIFO, LIFO, specific, lot, and standard. Yet, all these cost types assume the traditional three-way match practice around the connection of purchase order / item receipt / vendor bill for goods acquisition. In our assembly costs practice, the 3PL company will send a bill for all assembly produced and this costs needs to be associated with finished goods inventory which may have already been sold or may still sit in inventory. Given we want to capitalize assembly costs into finished goods on the balance sheet as inventory, we need a practice to account for these costs as we produce them.
NetSuite Best Practice to Capitalize Assembly Unit Cost
There are three key steps to capitalize assembly unit cost:
- One Time Setup
- Ongoing Operation
- Period End Reconciliation
One Time Setup
In order to setup the practice, we will need the following general ledger chart of accounts assuming we have already defined standard inventory and costs of goods accounts:
- Inventory : Capitalized Assembly: a zero balance account (ZBA) that is of type inventory.
- COGS : Capitalized Assembly Variance: a period account that is used to make Inventory: Capitalized Assembly equal to zero.
- Item : Assembly Unit Cost: a Non-Inventory Item for Purchase item type with “Expense Account” pointers to “”Inventory : Capitalized Assembly”. In the item’s “”purchase price” field, put 1.00 to indicate that each unit of this cost is equivalent to $1.00 (assuming your currency is USD).
- Bill of Materials: For all finished goods that include the assembly unit costs, include the Assembly Unit Cost item as a component. Depending on the agreed upon cost, enter the quantity. For example, if the agreement to produce an assembly was $2.30 for each unit, enter a quantity of 2.3.
Ongoing Operation
The ongoing operation is to use NetSuite’s Work Order and Assembly Build process to create your finished goods. In a 3PL environment, coordination is required to send instructions to the 3PL inventory team to indicate the desire to create finished goods. NetSuite’s Work Order is a good tool to generate communications as you can include desired finished good quantities and the Bill of Materials to indicate the “recipe” needed to produce the finished good.
When the 3PL warehouse indicates the units were built, record a NetSuite Assembly Build against the work order for the actual quantities built. This Assembly Build will produce the following general ledger entry:
Dr Inventory : Finished Goods Cr Inventory : Raw Materials Cr Inventory : Capitalized Assembly
Note, at this point in the process, our Inventory : Capitalized Assembly will have a net credit balance assuming not other activity on the account.
Next, we receive a bill from the 3PL company for assembly costs produced through the period. We create a NetSuite vendor bill for the purchase of this Assembly Cost item and the result is as follows.
Dr Inventory : Capitalized Assembly Cr Accounts Payable
Period End Reconciliation
At the end of a reporting period, typically monthly, you will have a net debit or credit balance in the Inventory : Capitalized Assembly costs. The first thing to account for is accruals. If the 3PL Vendor Bill has not been presented for payment, then the there should be a credit balance in Inventory : Capitalized Assembly and it represents an accrual. Perform the following automatically reversing journal entry as of the last date of the reporting period:
Dr Inventory : Capitalized Assembly Cr Accrued Liabilities To record accrued 3PL Assembly Unit Costs which will reverse the first day of the new period and make Capitalized Assembly equal to zero.
In contrast, if the accrual has already been accounted for with a vendor bill, then a variance analysis is in order. Here is the accounting entry assuming that there is credit balance:
Dr Inventory : Capitalized Assembly Cr COGS : Capitalized Assembly Variance To record differences between expected assembly costs and actual as a period expense.
If the balances are material, an analysis is in order. Does the Bill of Materials need to be updated due to incorrect assembly cost assumptions? Have assembly build entries been recorded correctly? Are the 3PL actual assembly costs appropriately accounted for? Ultimately, the variance account allows for management to make assessments to understand if all costing matters are in control.
Optimize your NetSuite Accounting Practices
The practice above is a good illustration for driving NetSuite the way you want to run your business. Many times, our team is asked to assist in optimizing business practices and automation centered out the NetSuite business management platform. If you would like to get more out of your NetSuite investment, contact us.
Is there a particular reason for using an inventory asset account rather than an expense account for the capitalized assembly?
Hi Jeff,
The idea is that capitalization means to produce assets. We want to accumulate all of our costs as assets (it’s all a build up of capacity) that then is discharged at the time we sell the asset. This is the function of inventory (to accumulate surplus capacity in the form of pragmatic offers that result in trade). It’s at the time of trade that we recognize the economic effects of our trading performance: the income statement being the fundamental practice that allows us to see if we are building surplus or losses.
Marty
If we’re buying finished goods from our co-packer, how does that deplete inventory if we are then selling the same items we’re buying to our customers? I have gone through this process in NS and it isn’t depleting inventory.
Do you offer scripting services?
Hello Dane,
Are you suggesting that you want to purchase goods for stock but at the same time, you want to produce drop shipments of the same item? And when you do so, inventory does not decrement? Inventory will only decrement when it is consumed from stock. Yes, we offer SuiteScript services.
Marty
Hi Marty
Thanks for this great post.
I’m currently implementing and using the Advanced Manufacturing feature but thinking about using this approach (ZBAs and Service for Purchase).
Does this all work for that same process, or does Advanced Manufacturing change any of this?
Thanks,
Patrick
Hello Patrick,
Advanced Manufacturing takes care of most of these concerns. This is valuable when you don’t want to implement that application. In addition, NetSuite is more recently offering a way to capitalize purchasing costs which I need to ground out and write an article.
Marty