PHYSICAL VERIFICATION OF INVENTORY PROCESS

Medium to large organizations having high quantity of stocks must design a perpetual
inventory count system. Physical verification of inventory on a perpetual basis helps to
monitor and control the stocks effectively. A perpetual inventory system can be either
weekly or monthly. An annual verification of stocks during year end audits can reveal
differences between physical and book quantities which would be difficult to identify and a
rectification at that stage may not be possible leading to an excessive write off.

Inventory Schedule

The inventory schedule must be prepared prior to the stock count. It must specify the date
and time of the count and the staff who will be participating in the stock count. The
schedule must be communicated to the staff involved in the stock take.

Staff involved in stock count

At least 2 employees need to be involved in the stock count for each area. One employee
must be involved in handling the inventory on day to day basis (example Store
Keeper) whereas other employee should not be involved in handling the daily stock
movements (example Accountant, member of sales team etc.). One employee must
count the stocks, whereas the other employee must verify and record the count.

Organizing Count Area – Stores Department

The warehouse / count area where the inventory is stored must be well organized.
Inventory needs to be stored in such a manner that it can be easily identified. Thus the
racks where the inventory is kept must have labels specifying the item stored.

If inventory is stacked on pallets, certain standards need to be followed for the total
number of cartons on a pallet. For example 5 cartons kept horizontally and 6 vertically i.e.
total 30 cartons on a pallet. All the pallets in a storage area must be stacked in the same
manner. This would help in completing the stock count quickly and without any errors.

Inventory Count Sheets

Area wise inventory count sheets must be available for the stock take. The inventory count
sheets need to be numbered and should have a complete list of all items in stock as per the
stock records on the computer system. The unit of measurement specified on the count
sheet should match the unit of measurement in which stock is required to be recorded in
the books. This will enable to compare the book stock with the physical stocks counted and
would reduce errors of conversion. For example if the book stock is in Cartons and Pieces,
the physical stock needs to be counted and recorded as Cartons and Pieces. If the book
stock is in kilograms, then the physical stock needs to be weighed and recorded in kilograms.
A blind count is always beneficial i.e. the system stock should not be mentioned on the
inventory count sheet.

The staff involved in the stock count must initial / sign each and every page of the
inventory count sheet.

Cut Off Procedures

Adequate cut off procedures need to be followed. For instance, GRN (goods receipt note)
for all raw materials received need to be accounted prior to counting and included in the
stock count during physical stock take. Similarly finished goods for which invoices are
entered need to be segregated and transferred to dispatch section and should not be
counted during physical stock take. All pending sales invoices and GRN’s need to be entered
before generating the stock count sheets from the system.

Summarizing the above all goods just received for which GRN is not prepared and all sales
invoices entered which are not yet dispatched should be segregated and not counted during
the physical stock take.

Completeness

To ensure completeness the stock needs to be counted in a systematic order. Thus stock
count should be pallet wise or stack by stack either from left to right or right to left.
Similarly stocks kept on racks should be counted from top to bottom or vice versa.

Quantities present in more than one open carton must be combined before counting it as a
carton or as pieces.

Each count area must be checked before moving to the next to make sure that nothing was
missed.

Obsolete Items

Obsolete and slow moving stocks need to be counted and separately identified. Similarly any
items which are damaged need to be marked on the inventory count sheets, since these
items would need to be valued at the lower of cost or net realizable value.
Comparison with System Stock

The physical stock must be entered in the system to compare with the book stock.
The stocks must be entered in the same unit of measurement as present on the
system. If possible the staff entering the stock needs to be different from the
staff involved in the stock count to ensure segregation of duties. This would depend
on the size of the organization and the staff available. Entry should be done from
the count sheets page by page to ensure all items are entered. Any items which were
not present in the count sheets and written manually during physical stock should be
entered with care and checked with similar items in the system.

Subsequent data entry of sales invoices and GRN can be done only after comparing the
system stocks with the physical stock.

Variance Analysis

After entering the physical stocks, the variances, if any, must be analyzed. Huge variances
must be investigated by performing a recount of those items, verifying whether the entry
of physical stock was correctly done, whether any errors are present in data entry of
invoices, stock receipts and stock issue.

The variances need to be accounted for such that the system stock reflects the result of
the physical stock count.

Authorization of Inventory Stock Counts

The stock count sheets and the variances arrived at need to be verified by a Senior
Management Staff. The variances and the final result of the stock count must be
authorized.

The reviewer needs to verify whether the counting instructions were followed and the
reasonableness of the variances before sending the adjustment entry to the accounting
department for recording.