In the modern age of competitive businesses, every aspect of the business is critical for the survival and progression of the business. Working capital management and in particular, inventory management is absolutely vital and cannot be ignored.
Inventory management is discussed in a separate article, but for effective management of inventory, first and foremost thing is maintaining accurate and up to date records of inventory.
What is inventory record? It is simply the information about the materials held as inventory by the entity at any time. The Stores Department should keep a record of the quantity of each and every item of inventory by recording the movements in inventory. By movements, we mean that stores department should record additions in inventory when some item is purchased and similarly record the negative movement in inventory when some item is issued to any operating department (cost centre). Bin cards are often helpful for keeping an up to date record of the quantity of materials. Bin card is a card or table for each item of inventory. Each receipt and issue of inventory is recorded on this card, thus giving the number of items/ quantity held at any time.
Another separate record might be held in the Cost Accounting Department for each item of inventory, called the inventory ledger. Inventory ledger is a record of the quantity of materials held as inventory, record of the quantities received as purchases and record of the quantities issued from the stores to operating departments. In addition to the quantities, the inventory ledger records costs of the materials as well. Cost of materials held as inventory, costs of materials purchased and cost of materials issued to the operating departments.
An entity may keep the above mentioned records in manual form or electronic, or both. It may introduce a merged system where the same computerized record of inventory is used by the Stores Department as well as the Cost Accounting Department. But the important thing is that the Company must have an accurate and up to date record of materials held as inventory.
Comparison of inventory records with physical inventory
It is often emphasized that for effective inventory management, accurate and up to date inventory records are essential. But for numerous reasons, the quantity of materials shown in the inventory records might not agree with the actual physical inventory held in the warehouse/ stores. Even with a good record keeping system, there still might be some differences and discrepancies but management should try to minimize these differences between actual physical inventory and the inventory records. If the differences are too big, it means that information produced by the inventory records is inaccurate and un reliable, which will have an adverse impact on the decision making and inventory management.
Following are some reasons which may give rise to differences between physical inventory and inventory records along with the corrective measures:
Errors and Omissions
There is always a possibility that mistakes may be made in recording receipts of materials, issues from stores or material return to the stores. For instance, 45 units of material A were issued from store but erroneously it was recorded as an issue of 54 units of material A, resulting in inaccurate inventory records. Similarly, it might be the case that some purchases, issuances or returns are not recorded by mistake.
Errors and omissions might be inevitable considering that it is natural that human beings make mistakes, but these errors and omissions can be minimized by introducing better procedures and controls over the recording process. For example, better supervision of the recording process, not over burdening the staff, hiring qualified staff etc.
Theft and loss
Some items might be stolen and they might go unnoticed unless identified in a stock count as a difference between physical inventory and inventory records.
It is very important that inventory is kept safe and proper measures are taken to prevent theft and loss of inventory. Measures for safe keeping inventory may include use of CCTV cameras, appropriate safety locks, use of security guards etc.
Physical Damage of inventory
If the store condition is not appropriate for the materials, it is possible that inventory might deteriorate in quality or if there are some slow moving items which are in the store for a long time, it is possible that they get expired. Difference in physical inventory and inventory records may arise if these damaged/ expired items are discarded by the stores department but the related write off is not recorded in the inventory records.
Better storage condition might reduce physical damage but still there is always a possibility of deterioration/ expiry of inventory. The important thing is that there should not be a communication gap between the stores department and inventory record keeping department. Whenever any item is discarded by the stores department, it should be written off in the inventory records as well.
We have briefly discussed the reasons of discrepancies in inventory records and physical inventory along with the possible remedial measures. But these measures will only minimize these discrepancies and even with very good controls over inventory recording and good storage conditions, differences and discrepancies may arise between physical inventory and inventory records. Therefore, it is very important to conduct physical stock counts on a regular basis to check for any differences and discrepancies. Inventory records should then be adjusted to correct quantities of materials as per physical count.