Inventory is a common area susceptible to fraud risk. By implementing controls over your entity’s inventory, it will help to mitigate some of those risks as well as make your processes surrounding your inventory environment more efficient. Here are three key internal controls for inventory management.

1) Store inventory in a controlled environment

Inventory should be stored in an environment that is appropriate and secure. It is recommended that most items be stored inside a building away from areas open to the general public and in an area that can be locked to individuals not granted access. Items that must be stored outside should be stored in a shed or a fenced in area that is able to be locked or has some other method to control who has access. Consider the need for extra security measures for inventory that may be more vulnerable after working hours. For example, if extra lumber is stored outside in a fenced in area, it may be beneficial to install a security camera nearby as an extra security precaution. It is also important to ensure that your inventory is organized and labelled clearly and correctly so that items are easy to identify during counts.

2) Implement a system to track inventory throughout the year

• Keep a record of additions, returned inventory due to damaged or incorrect items, and items used or sold in daily operations.
• Require employees sign for all inventory items they are going to use and submit the list to the appropriate accounting personnel so the items can be adjusted out of the inventory balance. Keep such usage reports on file for proper record keeping.
• Perform frequent inventory cycle counts throughout the year to ensure the inventory balance is accurate and has not experienced any unexpected changes. To conduct a cycle count, select a handful of items to count every few months and compare to the inventory listing. Different items should be selected for each cycle count to ensure all items are tested frequently. Over time, this will help manage the inventory balance, assist in detecting significant changes to the inventory balance, and make end of the year counts more manageable.
• Ensure all orders of new inventory are inspected upon arrival for accuracy and damages. Sign and date the receipt to show record of approval and/or document any issues noted. If issues are detected and items need to be returned or refunded, this should be relayed to the accounting personnel so it can be corrected on their end as well.
• Implement procedures surrounding the ordering process so appropriate levels of inventory are on hand throughout the year. This will help the entity have enough inventory available if, for instance, more of certain items are needed at specific times during the year. It will also help eliminate excess inventory levels.

3) Maintain adequate segregation of duties

Adequate segregation of duties ensures employees do not have overlapping duties or the opportunity to commit fraudulent activities. Best practices include: a) one person responsible for ordering and accounting for the purchase of inventory items b) another person in charge of receiving the inventory items and inputting them into the inventory tracking system. Separating these jobs helps to prevent fraud and internal theft as it ensures that no one person can control both the accounting records and the inventory listing. If only one person was involved in the process, it would be relatively easy for that person to remove items from the inventory listing and then adjust the books to reflect the change, preventing anyone else from noticing there was an issue. c) If inventory adjustments are needed, the proposed entry should be reviewed and approved by someone other than the person entering the entry into the accounting software.

If you need help implementing inventory controls, contact one of our fraud experts at (888) 388-1040.