Preparing for Year-End Physical Inventory Audit

The execution of your year-end physical inventory count represents the culmination of efforts from various internal departments and your external auditor.  Internal personnel must coordinate activities to ensure the counts are completed accurately, results are collected timely and disruptions to operations are kept to a minimum.  As a major milestone to your financial statement audit, the independent auditors will also observe the year-end inventory count and make test counts to support the physical existence of inventories.  The coordination of these activities requires advance planning and communication among all participants.

Want to develop a mutually effective and efficient year-end inventory plan with your auditor? Considering these six factors will get you off on the right start.

1. Timing – The planned timing of the year-end inventory count should be discussed in advance with your auditors to confirm that procedures are suitable for the unique nature and management structure of your operations. The timing of your year-end inventory count will be influenced by several factors including the nature of the accounting system (perpetual v. periodic), extent of internal control activities, number and location of sites and operational characteristics of your business.
2. Shutting Down – Freezing warehouse operations for the performance of the inventory count and observation represents the preferred protocol thereby eliminating transportation in and out of the facility and halting production movement.  The use of multiple counting teams paired with auditors may reduce the amount of downtime associated with the inventory count shutdown. Materials received after the performance of the count should be segregated from counted inventories until all areas are cleared by the auditor. In isolated circumstances where it is not feasible to shutdown warehouse operations, personnel should be prepared to support movement variances by supplying supporting documentation to the field auditor.  This includes receiving tickets, bills of lading and production/pick-tickets as applicable.
3. Organize – A clean warehouse with inventories organized in an orderly fashion will facilitate the observation by allowing faster identification of test-count items and instilling a higher degree of auditor confidence that everything has been accurately counted.
4. Site Assistance – Arrange to have knowledgeable warehouse personnel available to assist the auditors during the observation.  Experienced warehouse personnel can expedite the auditor’s evaluation of the overall condition of inventories as well as assist with locating/identifying items selected by the auditor for test counts.
5. Documentation – Provide your auditor with the count instructions issued by management to inventory management personnel.  If your inventory count procedures are not documented, consider compiling a memo which summarizes management’s protocol for the count and collection of the results.
6. Third-party Locations – Inventories are occasionally held by outside parties such as a public warehouse or a consignment customer.  Management should instruct third-party inventory custodians to count inventories as of the same date as the principal inventory count and forward records to management.  Your auditors may request those records for use in direct confirmation with third-party custodians.

By considering these factors in advance, you’re well on your way to a more efficient physical inventory audit. For more on preparing for your physical inventory audit, contact your RKL advisor.