When Physical Inventory and Financial Inventory Don’t Match in Dynamics 365 Finance & Operations

In any organization, maintaining accurate inventory records is critical—not only for operational efficiency but also for financial accuracy, reporting, and compliance. In Dynamics 365 Finance and Operations (D365 F&O), inventory is tracked from two perspectives: Physical inventory and financial inventory.

While these two should ideally be aligned at all times, mismatches are common in practice. Whether caused by pending invoices, misconfigured settings, or improper transaction handling, discrepancies between physical and financial inventory can create confusion, misstatements in financials, and operational bottlenecks.

This blog explains why these mismatches occur, how to detect and resolve them, and what best practices you can adopt to ensure alignment between physical and financial inventory in Dynamics 365 F&O.

Before diving straight into the blog let us first understand what these Inventory mean so it becomes essential to understand the distinction between the two inventory layers in D365 FNO:

• Physical Inventory: Reflects actual on-hand stock, including receipts and issues that have been physically posted but not necessarily financially posted. This is what your warehouse staff uses to manage day-to-day operations.
• Financial Inventory: Reflects the monetary value of inventory recorded in the general ledger, based only on financially posted transactions (e.g., invoiced purchases or sales). This is what your finance team relies on for reporting and valuation.

A mismatch occurs when the physical quantity and the financial value or quantity of an item do not align, leading to inconsistencies between what’s physically available and what’s financially accounted for.

Reasons for Mismatch

1. Pending Financial Updates
   Transactions such as purchase receipts or production output may be physically posted but not yet invoiced. These contribute to stock availability but not to inventory value.
2. Incorrect Posting Profiles
   Misconfigured inventory posting profiles can cause transactions to be recorded incorrectly or not at all in financial accounts.
3. Inventory Journals Without Financial Updates
   Inventory adjustment or movement journals may be posted without selecting the financial update option, causing only the physical layer to be updated.
4. Inventory Close Not Performed
   Not running inventory close or recalculation regularly results in cost layers not being settled, leading to mismatched values.
5. Negative Inventory Transactions
   Allowing physical or financial negative inventory can lead to issues being posted before receipts, creating valuation gaps.
6. Backdated Transactions
   Transactions posted with dates prior to the last inventory close can cause mismatches if not properly accounted for during the period-end processes.

How to Detect the Mismatch

The below points can be considered to identify mismatches between physical and financial inventory in D365 FNO:

• Inventory Value Report
  Navigate to: Inventory management > Inquiries and reports > Status > Inventory value report
  Review the report to compare physical and financial quantity and value for each item.
• On-hand Inventory Inquiry
  Use this to check if items have physical on-hand quantity without financial posting.
• Inventory Transactions Inquiry
  Check individual transactions to see their posting status (physical, financial, or both).
• Trial Balance vs. Inventory Value Report
  Reconcile the general ledger inventory account balance with the total inventory value report to identify inconsistencies.

Tips to resolve the mismatch

1. Post All Pending Invoices
   Ensure all purchase, sales, and production orders with pending invoices are fully posted to reflect accurate financial updates.
2. Run Inventory Recalculation or Close
   Go to: Inventory management > Periodic > Closing and adjustment.
   Perform recalculations regularly and close inventory periodically to settle cost layers and update financial values.
3. Correct Journals Where Needed
   Use inventory adjustment or movement journals with the financial update option enabled to make necessary corrections.
4. Review and Fix Posting Profiles
   Validate the configuration of inventory posting profiles to ensure correct financial accounts are used for all transactions.
5. Restrict Negative Inventory Posting
   Configure the system to disallow negative inventory, unless explicitly required by the business process, to avoid premature financial postings.

Let’s take an example to get the better understanding:

Suppose a business receives 100 units of an item on a purchase order. The receipt is physically posted, making the stock available in inventory. However, if the invoice is not posted, no financial value is recorded. This results in a positive physical quantity but zero financial value. Once the invoice is posted and inventory is closed or recalculated, the financial value is updated, resolving the mismatch.

Best Practices to Prevent Inventory Mismatches

• Run inventory recalculations or close processes on a regular basis—monthly is typically recommended.
• Ensure timely posting of all invoices and financial updates related to procurement and production.
• Avoid allowing negative inventory unless it’s essential to your business process.
• Educate users on proper inventory and financial transaction handling.
• Avoid backdated transactions that fall outside the current financial period or inventory close window.
• Reconcile inventory reports with general ledger balances during month-end close.

To conclude, Inventory mismatches between physical and financial layers in D365 F&O are more than just system issues—they are business-critical challenges. These discrepancies can distort financial reporting, mislead operational planning, and expose the organization to audit risks.

The good news is that they are entirely preventable. By understanding the causes, implementing regular checks, and following best practices such as prompt financial posting and scheduled inventory closes, you can maintain accurate, reliable inventory data.

Achieving alignment between your physical and financial inventory ensures operational clarity and financial integrity—foundations that are essential for confident decision-making and long-term success.

Hope this helps. Thanks for reading!

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