Inventory Internal Audit

Although manufacturing and retail companies often have loss prevention teams as well as an internal audit department, many of these entities outsource the control review process to an independent accounting firm such as Decosimo because inventory control is important to their survival.  There are two main reasons why inventory control is critical.   Firstly, the cost of goods sold has a direct affect on the bottom line and cash flow.  Inventory costs not only includes the cost of the inventory item, but also related items such as storage, transporting, handling, shrinkage and tax.  In addition, physical safeguarding of the inventory must still allow for work flow efficiency. Secondly, the quality of the inventory used could negatively affect branding, public relations, public safety, warranties and increase costs associated with lawsuits.  

Inventory - Many purchasing departments are also responsible for materials management so they can keep stock levels at just–in-time levels. There are several important questions to consider:  Is there good communication between purchasing and materials management?  Are inventory items in stock when needed?  Is there a shrinkage or theft issue? Can shrinkage be measured?  How large are your book to physical adjustments over the last three years?  Who has access physically to the inventory?  Are cycle counts performed?  Are there written physical inventory procedures?  Are there reconciliation procedures between book and physical counts and are they controlled with adequate segregation of duties? Is there a quality control department and is appropriate testing performed?   Are inventory returns physically returned to the vendor and matched with credits received?  Is obsolete inventory properly written off and disposed of?

A physical observation of inventory can discover shrinkage and theft issues and provide recommendations to reduce losses.  Pricing audits can lead to the discovery of overpaying, kickbacks, use of inferior quality items and lost discounts. Inaccurate counts and record keeping can cause inefficiencies, and waste labor which affects the bottom line.  

Warehousing and Storage - This area includes the physical safeguarding of assets from theft and sabotage as well as logistics over shipping and receiving.  It may be prudent to ask: Is the warehouse easily accessible by unauthorized personnel?  Are inventory items in a controlled environment that would allow proper safeguarding from theft, sabotage or damage such as a fire sprinkler if activated?  Is the insurance coverage over inventory value adequate?  Are there written shipping and receiving policies and are they adhered to?  Are there opportunities for Best Practices to be recommended and implemented?  Many of our suggestions have been to incorporate Best Practices.  We have encountered a lack of written policies on all the areas above, and have helped write many.  We have identified obsolete inventory and helped recalculate safety stock levels. We have identified how theft occurred and made recommendations to help prevent future losses. 

We Can Help

When you need to mitigate Inventory risk, contact Decosimo's internal audit team, and ask us how we can help. Our internal audit professionals have the experience and credentials to assist you with establishing controls and processes to reduce inventory costs and safeguard your physical assets.   We have seen many types of inventories in industries such as manufacturing, retail (clothing, portrait studio, food), chemical, oil, utility, and healthcare including prescription drugs. We currently have outsourcing arrangements with three financial institutions to provide internal audit services.

Decosimo’s internal audit team has provided internal audit advisory services to existing internal audit departments of financial institutions, utility and manufacturing companies. Our internal audit team consists of Certified Public Accountants and Certified Fraud Examiners. Our internal audit services management team has over 30 years of experience creating and managing internal audit departments for public and private clients in industries including, manufacturing, retail, energy, healthcare, and the restaurant and entertainment fields. 

Examples of Inventory Findings

• Client was not properly taking inventory. Correct procedures proved prior counts to be inaccurate, incomplete and to have included obsolete items. Corrected procedures saved the client thousands of dollars in taxes by correcting inventory. Cost savings were generated through lower labor hours used for physical inventories, better organization and supervision.
• Client changed pricing due to results of price tests performed as part of the physical inventory. We discovered some items were being sold below cost. We also implemented ways to track competitor's pricing in order to stay competitive and profitable.
• Client had large inventory of commonly used supplies (such as light bulbs, etc.) unsecured and unaccounted for. We suspected theft due to the usage rates.  We recommended keeping the inventory physically secure, except for maintenance personnel, and required the use of sign-in sheets.  Usage decreased in subsequent months.
• Results of price testing on some items looked high.  The purchasing agent was buying supplies at a mark up from a friend and receiving a kickback. We recommended a bid process be implemented in order to do proper price comparisons.  An authorization policy was also enforced, which included purchase contracts being reviewed and signed by the controller instead of the purchasing agent.
• Warehouse was disorganized due to the merging of two warehouses after an acquisition. The parent company was losing customers due to the inability to locate items to successfully fill orders. We created an organization plan to use bar coding and cycle counts to organize the warehouses, and we eliminated obsolete inventory to free up space.
• Several different companies have had physical security issues.  We have helped implement solutions such as using security cameras, noted fences that were thought to be secure but were not, reviewed security guard procedures and recommended improvements and implemented cycle counts for higher profit and valuable items.