Stock Audit
Stock audit refers to the physical verification of inventory, which may also include inventory valuation based on the terms of reference. It is a generally accepted auditing procedure. A stock audit, also known as an inventory check, involves verifying the quantity and condition of items stored in a warehouse to determine the actual stock position through an independent assessment.
From a legal perspective, a stock audit is a statutory requirement that every business entity must conduct at least once in a financial year. The process includes counting the physical stock at a specified location and cross-checking it with the recorded stock maintained by the company. The primary objective is to identify and correct discrepancies between the recorded and actual stock by making necessary adjustment entries.
Meaning of Stock
Inventory typically consists of:
- Stores
- Spare parts
- Loose tools
- Maintenance supplies
- Raw materials, including components
- Work in progress
- Finished products
- Waste or by-products
Purpose of Stock Audit
A stock audit is conducted to:
- Identify and segregate dead stock, slow-moving stock, obsolete stock, and scrap.
- Detect discrepancies between recorded stock and actual physical stock.
- Update records to match physical stock or adjust physical stock based on book records.
- Ensure proper preservation and management of inventory.
Benefits of a Stock Audit Consultant
- Identification of slow-moving, obsolete, and dead stock, as well as scrap.
- Prevention of pilferage and fraud.
- Instant access to accurate inventory valuation.
- Cost reduction and improved financial performance.
- Third-party verification, including audits for agent warehouses.
- Minimization of inventory management gaps.
Important Aspects of Stock Audit
As per the ICAI Guidance Note on Stock Audit, the key aspects of inventory audit include:
- Evaluation of Internal Control
This involves separating incompatible functions and implementing standardized methods to track stock movement. Data generated by different departments is cross-verified, and specific controls over stock issuance, receipts, physical verification, and recorded inventory are examined. - Verification
The management is responsible for physically verifying stock. The auditor’s role is to gather sufficient and reliable evidence to validate the management’s claims regarding:
- Existence of Stock – Confirms that the recorded stock physically exists at the end of the financial year.
- Ownership of Stock – Ensures that the recorded inventory is legally owned by the entity.
- Valuation of Stock – Verifies that stock valuation methods are correctly applied and that stock conditions are assessed based on valuation principles.
Appointment of Stock Auditor
A stock auditor is appointed by the bank from which the auditee (borrower) has taken a working capital loan. The appointed auditor must have:
- At least three years of post-qualification practicing experience.
- At least two years of experience conducting stock audits across different industries or sectors.
- In the case of a firm, the experience of the partners is considered the experience of the firm.
- Physical verification of stock
- Outstanding amounts from debtors and creditors
- Quarterly stock statements submitted to the bank
- Purchase and sales transactions during the period
- Drawing power and insurance coverage of the company
- Other mandatory information as required
Stock Audit Process
1. Cut-off Analysis
- Takes attendance during stock-taking.
- Confirms stock details with third parties if a significant portion of inventory is held by them.
2. Physical Inventory Counting
The auditor counts every item of inventory using methods such as barcode scanning to ensure all stock is accounted for.
3. Inventory Layers Analysis
- Conducts on-site stock verification.
- Examines records such as goods received notes, material issue notes, inspection reports, and bin cards.
4. Analytical Review & Work-in-Progress Analysis
Item Inventory Analysis (ABC Analysis) Products are categorized as: A: High-value items B: Mid-tier value items C: Low-value items This helps manage inventory more efficiently. Inventory-in-Transit Analysis Tracks shipments between locations to confirm that all items are accounted for and not lost during transit.
Role of the Auditor in Stock Audit
1. Physical Verification of Stock & Documentation Review
- Conducts on-site stock verification.
- Examines records such as goods received notes, material issue notes, inspection reports, and bin cards.
2. Third-Party Confirmation
- Takes attendance during stock-taking.
- Confirms stock details with third parties if a significant portion of inventory is held by them.
3. Stock Valuation Compliance
- Conducts on-site stock verification.
- Examines records such as goods received notes, material issue notes, inspection reports, and bin cards.
4. Analytical Review & Work-in-Progress Analysis
- Conducts analytical procedures to validate inventory assertions.
- Analyzes work-in-progress stock to confirm valuation accuracy.
5. Final Audit Report & Opinion
- Obtains a written statement from the management detailing inventory records, valuation methods, and physical verification procedures.
- Provides an audit opinion based on sufficient and appropriate audit evidence, ensuring the inventory records are true and fair.