How do I explain it when my inventory has reduce, my sale is up and my income is down.

Let's take a look at this example:

2005:
Opening Inventory 250 units @$80/unit
Purchase 100 units @ $80/unit
Sold 290 units @$100/unit
Ending Inventory 60 units @$80/unit

Income Statement
Sales 290x100 = $29,000
COGS 290x80 = $23,200
Net Income = $5,800

2006:
Beginning Inventory 60 units @$80/unit (from 2005)
Purchases 300 units @$90/unit
Sold 310 units @$100/unit
Ending Inventory 50 units @$90/unit

Income Statement

Sales 310x100 = $31,000
COGS 60x80 + 250x90 = $27,300
Net Income = $3,700


Comparison
2005 Inventory 60 units @$80 = $4,800
2006 Inventory 50 units @$90 = $4,500
Therefore, inventory has reduced

2005 Sales $29,000
2006 Sales $31,000
Therefore, sales have increased

2005 Profit $5,800
2006 Profit $3,700
Therefore, net income has decreased


Why is this possible?

Because if your costs go up, yet your sales price does not, you are making less of a profit margin on each sale, despite an increase in sales.