A small business’s ability to track inventory and minimize errors, omissions and fraud depends on the existence of a robust inventory reporting and tracking system. Some small businesses continue to rely on a manual inventory system. Others have begun to computerize their inventory tracking process as the costs of doing so have decreased. While the underlying inventory process may vary, tracking inventory includes the following general elements:
Inventory requisitions. These record the type, volume and purpose of an inventory purchase.
Receiving reports. These capture the date, amount and type of inventory received, as well as specifying the person that accepted the inventory shipment.
Inventory ledger. Nowadays, these are often computerized, allowing borrowers to perpetually track the amount of inventory on hand. But businesses carrying a limited inventory may continue to rely on a manual, paper-based inventory system.
Disbursement tracking. For manufacturers that use raw materials to fabricate a product, this element of the process tracks the distribution of inventory from the warehouse to the manufacturing floor.
Shipping documents. These itemize inventory shipped to customers or other facilities within the company’s operations.
Job cost sheets. For companies that sell manufactured products, these reports show the inventory consumed by each job.
Conversion to scrap records. These report damaged or obsolete scrap that the company no longer can use.
Receipts of scrap proceeds. These show cash proceeds from scrap liquidation.
Depending on the level of oversight and records in place to control the receipt and distribution of inventory, different types of fraud can occur. For example, if a borrower doesn’t track incoming inventory, dishonest employees may steal inbound shipments.
Lenders must look beyond the financial statements to truly understand a borrower’s inventory reporting and tracking systems. This assessment may require occasional site visits and interviews with owners and managers.
Ask about internal controls over inventory. To illustrate, borrowers should have different employees perform each of the steps within the inventory process. For instance, two or more employees should play a role in scrap identification and liquidation. And the borrower should conduct surprise audits of inventory on hand. It also should have physical safeguards in place, such as security cameras placed throughout the warehouse and electronic means to control access. Adopting a bar-coding system also helps ensure that inventory doesn’t end up lost or stolen.
Bottom line: Stopping inventory fraud hinges on the deployment of an effective inventory tracking mechanism.