Control of Inventory

Two primary objectives of control over inventory are as follows:¹

1. Safeguarding the inventory from damage or theft.
2. Reporting inventory in the financial statements.

1. Safeguarding Inventory

Controls for safeguarding inventory begin as soon as the inventory is ordered. The following documents are often used for inventory control:

Purchase order

Receiving report

Vendor’s invoice

The purchase order authorizes the purchase of the inventory from an approved vendor. As soon as the inventory is received, a receiving report is completed.

The receiving report establishes an initial record of the receipt of the inventory. To make sure the inventory received is what was ordered, the receiving report is compared with the purchase order. The price, quantity, and description of the item on the purchase order and receiving report are then compared to the vendor’s invoice. If the receiving report, purchase order, and vendor’s invoice agree, the inventory is recorded in the ac­counting records. If any differences exist, they should be investigated and reconciled.

Recording inventory using a perpetual inventory system is also an effective means of control. The amount of inventory is always available in the subsidiary inventory ledger. This helps keep inventory quantities at proper levels. For example, compar­ing inventory quantities with maximum and minimum levels allows for the timely reordering of inventory and prevents ordering excess inventory.

Finally, controls for safeguarding inventory should include security measures to prevent damage and customer or employee theft. Some examples of security mea­sures include the following:

1. Storing inventory in areas that are restricted to only authorized employees.
2. Locking high-priced inventory in cabinets.
3. Using two-way mirrors, cameras, security tags, and guards.

2. Reporting Inventory

A physical inventory or count of inventory should be taken near year-end to make sure that the quantity of inventory reported in the financial statements is accurate. After the quantity of inventory on hand is determined, the cost of the inventory is assigned for reporting in the financial statements. Most companies assign costs to inventory using one of three inventory cost flow assumptions. If a physical count is not possible or inventory records are not available, the inventory cost may be esti­mated as described in the appendix at the end of this chapter.

Source: Warren Carl S., Reeve James M., Duchac Jonathan (2013), Corporate Financial Accounting, South-Western College Pub; 12th edition.