The scenario of business and commerce is ever-changing and thus maintaining accurate inventory records is paramount. Inventory verification in India, just as in any part of the world, is a critical process that ensures a company’s financial records align seamlessly with its inventory records. This alignment guarantees the reliability and accuracy of financial statements, as well as the identification of any disparities in stock counts or financial records. In this blog, we’ll explore the 9 essential audit procedures for inventory verification in India, shedding light on their significance and practical application.

Physical Inventory Count

The foundation of any successful inventory verification process is the physical inventory count. It involves physically counting the items in your warehouse or storage facility and meticulously comparing these numbers to what is recorded in your inventory management system. Leveraging technology such as barcode scanners can be a tremendous asset during this process, especially for businesses that adhere to just-in-time inventory methods or those that frequently compute their economic order quantity (EOQ).

For instance, if your inventory management software indicates that you have 1,000 products, but your physical count only yields 950 units, this variance must be addressed promptly to ascertain its cause.

Cutoff Analysis

The cutoff analysis is a strategic measure taken during the physical inventory count. It involves suspending all inventory-related operations temporarily to eliminate the potential for errors stemming from uncontrolled variables. During this predetermined period, typically referred to as the “cutoff time,” no receiving or shipment of products occurs. This safeguards the accuracy of stock movement recording in the financial period.

For example, if a cutoff analysis is scheduled from 10:00 AM to 2:00 PM on November 1, 2023, all activities related to inventory movement in and out of the warehouse are temporarily halted to ensure precise reporting.

Finished Goods Inventory Analysis

This analysis holds particular relevance for manufacturers and producers. It revolves around assessing the cost of finished goods, ensuring that the value of these completed products is accurately reflected in the financial statements. As goods progress through the production process and transition into “finished goods” ready for sale, this procedure helps maintain financial accuracy and exercise better control over inventory.

For instance, if you’ve manufactured 100 T-shirts with a total cost of INR 6,000, comprising raw materials, embroidery, buttons, and other components, you can determine that each T-shirt costs INR 60 to produce.

Freight Cost Analysis

The analysis of freight costs is integral to understanding the expenses associated with transporting products from one location to another. Additionally, this procedure evaluates instances of items getting lost or damaged during transit. By accounting for these losses and damages, businesses can maintain accurate inventory valuation.

For instance, tracking the cost of transporting products from your warehouse to your stores, such as carrier costs for truck shipments, is a key component of this analysis.

Overhead Analysis

Overhead expenses encompass all the business costs that aren’t directly tied to raw materials and labor required for production. This category includes expenditures like rent, electricity, and other “hidden” costs associated with maintaining and managing inventory. Analyzing overhead costs is vital to understanding how they impact the overall inventory cost, enabling more precise budget planning.

For instance, if your monthly indirect costs amount to INR 50,000 and your production capacity is 2,000 T-shirts per month, expanding to 4,000 T-shirts would require an overhead increase to INR 70,000 per month. When combined with variable costs, this analysis aids in identifying the optimal production scale through economies of scale.

Inventory in Transit Analysis

When materials are being transported between different locations, monitoring inventory in transit becomes crucial. This audit analysis aims to ensure that no items are lost or damaged during transportation. Inventory auditors meticulously review transfer documentation to identify and rectify any issues.

For example, if it takes 1.5 days to transport products from your warehouse to three different locations, monitoring the transit time helps determine when preparations should begin to ensure timely product arrival.

High-Value Stock Tests (ABC Analysis)

The High-Value Stock Tests, commonly known as ABC analysis, involve classifying products based on their profitability. Group A typically comprises high-value items, Group B includes mid-tier products, and Group C encompasses low-value items. However, it’s important to note that some products in Group C might exhibit high selling volume, making them suitable for strategic placement near entrances to expedite sales. Conversely, high-value, low-volume items in Group A warrant more secure storage to prevent costly theft.

For example, businesses can categorize products into these three groups, allocating the top 20% of high-value products to Group A, the next 50% to Group B, and the remaining 30% to Group C.

Direct Labor Analysis

Direct labor analysis focuses on evaluating the cost of labor required to manufacture specific products. This encompasses factors such as wages, working hours, shift differentials, and overtime hours for employees. Furthermore, it includes payroll taxes, bonuses, and other benefits costs associated with employee compensation to provide a comprehensive view of direct labor expenses.

For instance, tracking the cost of labor hours, shift differentials, and additional benefits for employees involved in the manufacturing process is essential to accurately assess direct labor costs.

This content is meant for information only and should not be considered as an advice or legal opinion, or otherwise. AKGVG & Associates does not intend to advertise its services through this.