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Taking a physical inventory count

Taking at least one physical inventory count throughout your fiscal year is critical part of your internal control procedures.  An inventory count can

  • Confirm the quantity of inventory for financial statement purposes.
  • Identify sources of shrinkage and theft.
  • Confirm 'back flush' rates for your bills of materials.

Generally at least one full count is conducted at the end of each fiscal year.  Many companies do 'cycle counts' whereby certain areas or products are counted on a rotating basis.   Doing cycle counts eliminates the need to do a complete inventory count at the end of the year.

The following is a general guideline for conducting a physical inventory count.

1.    What areas are you counting?

Many businesses have multiple warehouses and indeed multiple areas within the same warehouse.  Generally it is recommended that you count contiguous areas together so the count can proceed in an organized fashion.   Many companies have a 'map' of their warehouses. Using a map to identify which areas need to be counted is a great tool to visualize the count.  Consideration should also be given to segregate damaged products within their own area.     

Special consideration should be given to the following areas:

  • Pending shipments to customers that have been packed but not shipped are technically part of your inventory and should be counted.
  • Receipts from suppliers received from suppliers should be counted.
  • Stock that has been allocated be production should be counted.

A good idea is to tag or otherwise mark an area after it has been counted.   

2.   Establish a count date

If you are counting to verify quantities for financial statement purposes your count date should be as close to your year-end date as possible.    Counting is time consuming so doing a count on a busy day is not advisable.   Pick a day and time of relative calm. 

Your count date will also be the 'cut-off date'.   The cut-off date is used determine the quantities shown on the physical count worksheet. Meaning that all transactions on or before the cut-off date should be reflected in the count and transactions occurring after the cut are excluded.

3.    Who will be counting?

Usually company staff will be doing the counting although there are numerous firms that can be contracted to conduct your count.     Schedule your staff appropriately and allocate them sufficient time to complete their work.  Staff should be assigned to certain areas of the warehouse.    Counters should be paired up; one person will do the count and the other record the results.    The count would go faster and there would be less likely to fudge the number.   A supervisor should also be assigned.   The supervisor should spot check counts conducted by every staff member.    If the spot checks show persistent discrepancies certain areas may need to be re-counted.

4.    Physical inventory count worksheet

The physical count sheet is provided to counter.   Such count sheet should include the item or sku, description, area or bin, lot / serial # if applicable and a blank spot for quantity counted.     Management should know the 'quantity per books' which will be compared to actual count.  It is not recommended that the 'quantity per books' be shown to counters to discourage them just writing in the number.   The count sheet should also include extra lines so the counter can write in parts in their areas that are not on the count sheet.    After each count transpose the quantity counted onto the count sheet.  

5.   Investigate discrepancies

After all the count sheets have been tallied it's time to compare 'quantity per books' with the actual count.    Invariably there will be differences between book and actual.      Here are some things to investigate:

  • Shipments that are packed but not yet shipped. These should be included in the count.
  • Receipts from suppliers BEFORE the cut-off date that have not been put away. These should be included in the count.
  • Receipts from suppliers AFTER the cut-of date.  These should not be included in the count.
  • Inventory on the shop floor that may have not yet been consumed in production.  These should be counted.

Some more serious reasons for discrepancies include:

  • Theft
  • Shipments going out without invoices.
  • Receipts from suppliers which understates accounts payable.