Observation of Independent Audit Inventories and Guidelines

Guidelines for the independent audit in observing inventories are included in the following paragraphs. This selection relates only to observation of inventories and does not deal with other important auditing procedures which generally are required for the independent auditor to satisfy himself as to these assets. When inventory quantities are determined solely by means of a physical count, and all counts are made as of the balance-sheet date, it is ordinarily necessary for the independent auditor to be present at the time of count, by suitable observation, tests, and inquires, which satisfy himself respecting the effectiveness of the methods of inventory-taking. The measure of reliance which may be placed upon the client’s representations about the quantities and physical condition of the inventories.

There are two types of substantive procedures related to auditing inventory. Substantive procedures are methods of verifying the actual numbers on financial statements. This is different from testing of controls, which are procedures that test the systems/policies that give rise to the numbers. Analytical procedures with inventory typically include comparing gross margin numbers with previous years, comparison of the inventory turnover ratio with previous years, and comparison of the unit costs of inventory with previous years. Also, they use test of detail balances for the practice of having the auditor observation at the inventory count.

Before the client performs their inventory count, the auditor typically reviews the client’s proposed policies/procedures pertaining to the inventory count. “Best practices” typically include two-person count teams, pre-numbered tags and proper sequencing, halt on shipping and receiving of goods, segregation of goods that are on consignment, and a master count sheet that is controlled only by the supervisor of the inventory.

During the inventory count the auditor observes whether the client complies with the proposed policies/procedures for the count and if these procedures being performed correctly and efficiently. They also observe the quality and the condition of the goods to see if there is any impairment/obsolescence. The auditor runs their own tests and makes notes of the results and prepares necessary adjustments that must be followed up on to ensure that the inventory records and general ledger reflect the adjustments. Lastly, they obtain important cut-off information to make sure that the inventory is counting goods that need to be counted and not counting goods that shouldn’t be counted.

After the inventory account the auditors will match the qualities brought forward from the count to the recorded amounts on the ledger and book any adjustments that need to be made. Inventory must be valued at the lower of either cost or market value (also known as net realizable value.). Marketers are in the business of selling products, services, ideas, and brands. Content is an important tool for reaching customers and achieving business objectives. A content audit can help you understand which content prompts people to engage with your brand, which content leads them to buy or donate, and which content keeps them loyal.

In recent years, some companies have developed inventory controls or methods of determining inventories, including statistical sampling which are highly effective in determining inventory quantities and which are sufficiently reliable to make unnecessary an annual physical count on each item of inventory. In such circumstances, the independent auditor must satisfy himself that the client’s procedures or methods are sufficiently reliable to produce results sustainably the same as those which would be obtained by a count of all items each year. The auditor must be present to observe such counts as he deems necessary and must satisfy himself as to the effectiveness of the counting procedures used. If statistical sampling methods are used by the client in the taking of physical inventory, the auditor must be satisfied that the sampling plan is reasonable and statistically valid, which has been properly applied, and that the results are reasonable in. the circumstance.

When the independent auditor has not satisfied himself as to inventories in the possession of the client through the procedures described I n the tests of accounting records alone will not be sufficient for him to become satisfied as to quantities; it will always be necessary for the auditor to make or observe some physical counts of the inventory and apply appropriate tests of intervening transactions. This should be coupled with inspection of the records of any client’s counts and procedures relating to the physical inventory on which the balance-sheet inventory is base.

The independent auditor may be asked to audit financial statements covering the current period and one or more periods for which he had not observed or made some physical counts of prior inventories. He may, nevertheless, be able to become satisfied as to such prior inventories through appropriate procedures, such as tests of prior transactions, reviews of the records of prior counts, and the application of gross profit test provided that he has been able to become satisfied as to the current inventory.

If inventories are in the hands of public warehouses or other outside custodians, the auditor ordinally would obtain direct confirmation in writing from the custodian. If such inventories represent a significant proportion of current or total assets, to obtain reasonable assurance with respect to their existence, the auditor should apply one or more of the following procedures as he considers necessary in the circumstances. The auditor should test the owner’s procedures for investing the warehouseman and evaluating the warehouseman’s performance. Secondly, he should obtain an independent accountant’s report on the warehouseman’s control procedures relevant to custody of goods and if applicable pledging of receipts or apply alternative procedures at the warehouse to gain reasonable assurance that information received from the warehouse is reliable. Third, observe the physical counts of the goods, if practicable and reasonable. Lastly, if warehouse receipts have been pledged as collateral, confirm with lenders pertinent details of the pledged receipts (on a test basis, if appropriate).

Another type of Inventory audit is content inventory which is a collection of data about your content. Unlike the content audit, which is qualitative, the inventory is quantitative. It’s a comprehensive list, which is typically a spreadsheet of all content assets, ideally across all content types, channels, and distribution format. A thorough inventory looks at digital as well as print, enabling you to evaluate across all customer touchpoints. From a marketing perspective, the content inventory enables you to operate from a position of knowledge so that you can make decisions based on date.

Typically, due to year-end holidays and weather issues, inventory observations are held in October. However, if the client is more prone to fraud and is notorious for that, auditors may show up at the end of December to obtain more data. Another issue is whether the auditor needs to bring in a specialist or run some off-site testing to make sure that the inventory in the warehouse is genuine. For example, for some goods such as jewelry or high-tech products, it is uncommon for a regular auditor to be able to differentiate between real and fake goods. Auditors may want to bring in a specialist for a thorough examination or send more samples to lab for testing.