GUIDE AND WORK PAPER TEMPLATE
PHYSICAL VERIFICATION OF INVENTORIES
CA Sripriya Kumar
This template is prepared on a best effort basis. User discretion is advised
Table of Contents
PART A – SA ON INVENTORY VERIFICATION.....................................................2
1. SA 501 GUIDANCE ON INVENTORY VERIFICATION.............................2
PART B – WORK PAPER TEMPLATE......................................................................4
2. CLIENT DETAILS...............................................................................................4
3. KEY RISKS..........................................................................................................4
4. INVENTORY CATEGORIES TO BE COVERED...........................................4
5. LOCATIONS TO BE COVERED......................................................................5
6. DATE AND TIME OF COUNT AND TEAM...................................................5
7. KEY ASPECTS IN RELATION TO INVENTORY COUNT..........................5
8. REPORT...............................................................................................................7
9. CONSIDERATIONS IN RELATION TO STOCKS WITH THIRD
PARTIES..........................................................................................................................8
PART C – SA 501 INVENTORY VERIFICATION...................................................9
10. SA 501 ICAI CHECKLIST ON INVENTORY VERIFICATION..................9
Page 1 of 14
Part A – SA on Inventory Verification
1. SA 501 Guidance on Inventory Verification
1.1. Standards on Auditing (SA) 501, "Audit Evidence – Specific Considerations for
Selected Items," provides guidance for auditors when assessing inventory balances
during a financial statement audit. Understanding and implementing the
requirements of SA 501 ensures the acquisition of sufficient and appropriate audit
evidence regarding the existence and condition of the entity's inventory.
1.2. It is imperative to note that the requirements listed in this note provide a general
outline of SA 501. The auditor must exercise professional judgment and tailor audit
procedures to the specific circumstances of the engagement and the assessed risks
involved. Adherence to SA 501 is essential for obtaining a reasonable level of
assurance on the existence and condition of the entity's inventory balances.
1.3. This work paper template is designed for practice units to assist in matters relating
to year end verification of inventories. Certain important aspects of SA 501 are
placed below for ready reference
1.4. Attendance at Physical Inventory Counting (Paragraph 6) - Whenever
possible, the auditor should attend the client's physical inventory counting. This
allows the auditor to observe management's procedures, evaluate internal controls,
inspect inventory, and perform test counts. Attendance is crucial for obtaining first-
hand knowledge about the reliability of management's inventory records.
1.5. Alternative Procedures (Paragraph 6): In cases where attendance at physical
inventory counting is impracticable, the auditor must design and perform
substantive alternative procedures to obtain sufficient and appropriate audit
evidence. Reasons for impracticality need to be documented, and such reasons
should not be mere inconvenience or additional cost (A12).
1.6. Inventory Held by Third Parties (Paragraph 9): The auditor shall request
direct confirmation of the quantity and condition of inventory held by third
parties. If management refuses to do so, the auditor shall consider this a scope
limitation and potentially modify their audit opinion (A19-A21).
1.7. Audit Procedures over Physical Inventory Counts Other than at Year-End
(Paragraph 7): If the inventory count occurs at a date other than the balance
sheet date, the auditor shall perform audit procedures to obtain satisfaction that
changes in inventory between the count date and the period-end are properly
recorded.
1.8. Understanding Management's Instructions (A5): The auditor shall carefully
review and understand the counting instructions provided by management to
inventory count personnel.
1.9. Evaluating Internal Controls (A6): Evaluating the effectiveness of the entity's
internal controls over the inventory count process is vital in determining the
reliability of the inventory records.
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1.10. Testing Counts & Observing Procedures (A7-A8): Performing independent test
counts during the physical inventory count and directly observing management's
procedures allows the auditor to gain confidence in the accuracy of the count.
1.11. Inventory Attendance at Physical Inventory Counting (Ref: Para. 4(a))
The auditor's primary goal in attending the physical inventory count is to obtain
sufficient and appropriate audit evidence regarding the existence and condition of
the entity's inventory. And while attending the count, the auditor typically performs
the following procedures placed below
a. Observing Management's Count Procedures: Critically assess if management's
established counting procedures are designed to achieve an accurate count and are
being followed by those involved.
b. Inspecting the Inventory: Verify the existence of items included in the count and
evaluate their condition. Look for signs of damage, obsolescence, or slow-moving
inventory (A6).
c. Performing Test Counts: Independently count selected inventory items and compare
them to management's count records. This tests the completeness and accuracy of
management's records (A7).
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PART B – WORK PAPER TEMPLATE
2. Client Details
Name of the Client
Financial Year
Date(s) of Count
Members of the Counting Team
3. Key Risks
The key risks associated with an Inventory verification are as under and the auditor should
ensure that such risks which could result in misstatement of financial information are
appropriately mitigated
o Non coverage of all categories of inventory
o Non coverage of all locations where inventory is held
o Duplication of locations / inventory counted
o Wrong noting of items at the time of counting
o Unit of measure wrongly noted ( 4 Kgs written as 4 MT)
o Loss of Count sheets
o Data entry errors in preparation of inventory statement of books vs physical
o Disagreement on inventory counted
o Non identification of obsolete / damaged / non moving inventory
o Error in valuation of inventory after finalisation of count
o Adjustment Entries not booked for excess / shortage in a proper manner
The engagement team is required to carry out a risk assessment and plan the inventory
count in accordance with SA 501 ”AUDIT EVIDENCE—SPECIFIC CONSIDERATIONS FOR
SELECTED ITEMS”.
4. Inventory Categories to be covered
The following are the categories of inventories as identified by the management and as per
the books and records of the Company
Categories Applicable to Client
Raw Materials
Finished goods
Stock-in-trade
Stores and spares
Loose tools
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Categories Applicable to Client
Others ( Specify )
5. Locations to be covered
All locations where inventory is held / likely to be held should be identified and covered for
the physical verification process. The addresses of the various locations is to be specified
as under
Location Types Addresses
Main factories
Additional Factories
Third party converters
Own Storage depots
Third Party Storage depots
Temporary Warehouses
Any others
6. Date and Time of Count and Team
The details of the Client and audit team personnel who are required to carry out / observe
the verification are to be recorded as under
Location Date Time Client Staff Audit Staff
7. Key aspects in relation to inventory count
The key safeguards to be adopted during inventory count by client and auditor’s
observation of the same are categorised into 4 different phases
Policy level and Stock Taking instructions
Planning - Before the count
Execution – during the count
Closure – After the count
If there are any material deviations in the below mentioned requirements, then the
same may be documented in the Report on the Physical verification process
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A. Policy Level
1 The Company has a well-defined and documented Policy on Year end Inventory
Verification
2 The policy provides for specific details on how the count is to be carried out ,
dates and personnel carrying out the count
3 The above policy has been properly reviewed by the management
B. Before the Count
1 All Categories of inventory are covered - RM / WIP / FG / Stores and Spares
Note : If the entity has WIP, determine how the entity identifies stage of
completion of WIP, and Identify accounting records to be used for calculating
WIP
2 All inventory locations in the Company are covered - all go downs, factories, port
locations, bonded warehouses etc.
Note : If inventory is stored in multiple locations, determining the number of
locations to obtain the evidence from.
3 All intermediary storage locations are also covered - eg. Floor stock, obsolete
storage area
4 All temporary warehouses are covered
5 The entity has maintained proper book records of inventory and such book
stocks can be extracted prior to the commencement of the Count
6 Written stock verification instructions are issued before the count and a copy of
management instructions for the count is obtained and evaluated for adequacy.
Where no instructions have been issued, make inquiries of management and
other personnel, to gain understanding of inventory count procedures.
7 Cut off references are obtained before the count
8 Verification protocols ensure that stocks are verified batch wise as stipulated by
policy
9 The auditor verifying the inventory is provided a plan / floor plan of inventory
storage locations.
1 Teams have been briefed on the process to be adopted and escalation process
0 in case of any issues
C. During the Count
1 Determine if the understanding used at the planning phase is appropriate. If not,
make necessary modifications to the inventory count procedures as deemed
appropriate.
2 Controls over stock verification sheets issued for count purposes (serial
numbering)
3 If the Count is not completed on the same day, the location is sealed so that
there is no un-authorised movement at night
4 No movements are permitted during verification
5 Count sheets are maintained for a defined period as an audit trail
6 Stock sheets are signed by the client personnel performing the count and the
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auditors who participate in the process
7 Obtain evidence over the completeness of the count.
The inventory count should always proceed from physical to books and not the
other way around as it may cause omission / duplication of counts
Once a location or a bin or an area is completed, the same should be marked /
identified as completed to prevent duplication of the same
D. After the Count
1 Final verification report summarises inventory verified / locations covered /
Excess / shortage / batch mismatches
2 Final Excess / Shortage summary is reconciled to Book stocks by Head -
Finance / Head Operations
3 Adjustment entries are reviewed and approved as per Delegation of Authority
4 Adjustment entries are accounted for promptly in accounting system
5 Back up to adjustment entries are printed and filed
6 Access to personnel for accounting verification related adjustments are
restricted
7 Vat / Cenvat impact if any of inventory adjustments is properly cognised for
8 Professional Scepticism is applied - trust but verify
9 Obtain all relevant documentation for Audit file which includes
1. Count instructions
2. Inventory listing (signed by authorised representative)
3. Count sheets
4. Adjustments recorded (if any)
5. Roll forward / roll back listings
6. Documents required for cut off procedures
The results of the count should be summarized as quickly as possible ideally
before the end of the count process. The summary of excess / shortage should
also be derived at the earliest. Ideally, the data entry of the count sheets must
happen parallel to the counting process with 2 separate teams – one for physical
verification and the other for data entry
8. Report
The Stock verification report should contain the name of the client, locations covered,
the date and time of the count, the categories of inventory covered and the stock
verification details as per next paragraph
The excess shortage report should be presented with reference to the control totals of
the book stock as provided by the management in the below format along with financial
impact thereof
In case of non compliance of any aspects in relation to the inventory verification process
stated above or any other additional aspects, these may be included in the section on
Observations relating to the stock count
Format of Stock sheet compilation and Excess / Shortage Summary to be signed by the
management should contain the following details
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1. Serial Number
2. Raw material / WIP / SIT / Finished goods / Stores and spares / loose tools / others
3. Material Code
4. Material Description
5. Location of Inventory
6. Unit of Measurement
7. Method of selection of item
8. Quantity as per books ( incl. with third party )
9. Quantity as per count
10. Quantity held with third party ( counted / confirmed )
11. Difference
12. Rate per unit
13. Difference in value
14. Remarks ( obsolete / non moving )
The cut off documents as relevant for the purpose of the verification have to be
documented as under
Particulars Cut off documents
Last Receipt from Purchases Invoice details, gate inward reference, freight details
Last receipt Stock transfer Invoice details, gate inward reference, freight details
Last Issue – Sales Invoice for sales, gate outward register reference, freight
details
Last Issues – Stock transfers Invoice for transfer, gate outward register reference,
freight details
First receipt from purchases Invoice details, gate inward reference, freight details
First receipt from stock Invoice details, gate inward reference, freight details
transfers
First issue for sales Invoice for sales, gate outward register reference, freight
details
First issue for stock transfers Invoice for transfer, gate outward register reference,
freight details
9. Considerations in relation to Stocks with third parties
If inventory under the custody of third party is material to the financial statements, auditor
must:
1. Request a confirmation of inventory held by the third party
2. Perform other audit procedures as required, such as,
a. Arranging and attending the count OR Arrange for another auditor to attend
the physical inventory verification.
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b. Obtain another auditor’s report on the inventory held.
c. Inspect documentation.
d. Request confirmation
e. Summarise the position of books vs physical stocks
Serial number
Location of inventory
Amount in value for each type of inventory,
Whether location count physically observed?
Observed by us / another auditor
Total value of inventory
Total value selected for samples
Total value physically observed
Differences
Remarks
Note: format for recording of observations to be the same as Format of Stock sheet
compilation and Excess / Shortage Summary as signed by the management
PART C – SA 501 INVENTORY VERIFICATION
10. SA 501 ICAI Checklist on Inventory Verification
Para No. Particulars Response [Yes, WP
No, NA] (give Refer-
comments ence
wherever
required)
Inventory
Par Has the auditor obtained sufficient
a4 appropriate audit evidence regarding the
existence and condition of inventory by:
a) Attending physical inventory count to:
Evaluate management’s
instructions and procedures for
recording and controlling the
results of the entity’s physical
inventory counting;
Observe the performance of
management’s count procedures;
Inspect the inventory; and
Perform test counts; and
b) Performing audit procedures over the
entity’s final inventory records to
determine whether they accurately
reflect actual inventory count results?
[Note: Attendance at physical inventory
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Para No. Particulars Response [Yes, WP
No, NA] (give Refer-
comments ence
wherever
required)
counting involves:
Inspecting the inventory to ascertain
its existence and evaluate its
condition, and performing test counts;
Observing compliance with
management’s instructions and the
performance of procedures for
recording and controlling the results
of the physical inventory count; and
Obtaining audit evidence as to the
reliability of management’s count
procedures.
These procedures may serve as test of
controls or substantive procedures
depending on the auditor’s risk
assessment, planned approach and the
specific procedures carried out. (Para
A2)]
[Note: Matters relevant in planning
attendance at physical inventory
counting include, for example:
Nature of inventory.
Stages of completion of work in
progress.
The risks of material misstatement
related to inventory.
The nature of the internal control
related to inventory.
Whether adequate procedures are
expected to be established and
proper instructions issued for physical
inventory counting.
The timing of physical inventory
counting.
Whether the entity maintains a
perpetual inventory system.
The locations at which inventory is
held, including the materiality of the
inventory and the risks of material
misstatement at different locations, in
deciding at which locations
attendance is appropriate.
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Para No. Particulars Response [Yes, WP
No, NA] (give Refer-
comments ence
wherever
required)
Whether the assistance of an auditor’s
expert is needed appropriate audit
evidence. ( Para A3)]
[Note: Observing the performance of
management’s count procedures, for
example those relating to control over
the movement of inventory before,
during and after the count, assists the
auditor in obtaining audit evidence that
management’s instructions and count
procedures are adequately designed and
implemented. In addition, the auditor
may obtain copies of cut off information,
such as details of the movement of
inventory, to assist the auditor in
performing audit procedures over the
accounting for such movements at a later
date. (Para A5)]
[Note: Inspecting inventory when
attending physical inventory counting
assists the auditor in ascertaining the
existence of the inventory (though not
necessarily its ownership), and in
identifying, for example, obsolete,
damaged or ageing inventory.(Para A6)]
[Note: Performing test counts, for
example by tracing items selected from
management’s count records to the
physical inventory and tracing items
selected from the physical inventory to
management’s count records, provides
audit evidence about the completeness
and the accuracy of those records.(Para
A7)]
[Note: In addition to recording the
auditor’s test counts, obtaining copies of
management’s completed physical
inventory count records assists the
auditor in performing subsequent audit
procedures to determine whether the
entity’s final inventory records accurately
reflect actual inventory count results.
(Para A8)]
Par Has the physical inventory counting been
conducted at a date other than the date
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Para No. Particulars Response [Yes, WP
No, NA] (give Refer-
comments ence
wherever
required)
a5 of the financial statements?
If yes, has the auditor performed audit
procedures to obtain audit evidence
about whether changes in inventory
between the count date and the date of
the financial statements are properly
recorded?
Par Has the auditor attended the physical
a 6, inventory counting?
7 If No, whether some physical counts are
made or observed on an alternative date
and performed audit procedures on
intervening transactions?
If attendance at physical inventory
counting is impracticable, has the auditor
performed alternative audit procedures
to obtain sufficient appropriate audit
evidence regarding the existence and
condition of inventory?
If No, has the auditor modified the
opinion in the auditor’s report in
accordance with SA 705 (Revised)?
[Note: In some cases, attendance at
physical inventory counting may be
impracticable. This may be due to factors
such as the nature and location of the
inventory, for example, where inventory
is held in a location that may pose
threats to the safety of the auditor. The
matter of general inconvenience to the
auditor, however, is not sufficient to
support a decision by the auditor that
attendance is impracticable. The matter
of difficulty, time, or cost involved is not
in itself a valid basis for the auditor to
omit an audit procedure for which there
is no alternative or to be satisfied with
audit evidence that is less than
persuasive. (Para A12)]
[Note: In some cases where attendance is
impracticable, alternative audit
procedures, for example inspection of
documentation of the subsequent sale of
specific inventory items acquired or
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Para No. Particulars Response [Yes, WP
No, NA] (give Refer-
comments ence
wherever
required)
purchased prior to the physical inventory
counting, may provide sufficient
appropriate audit evidence about the
existence and condition of inventory.
(Para A13)]
Par Is the inventory under the custody and
a8 control of a third party, material to the
financial statements?
If yes, has the auditor obtained sufficient
appropriate audit evidence regarding the
existence and condition of that inventory
by performing one or both of the
following:
a) Request confirmation from the third
party as to the quantities and
condition of inventory held on behalf
of the entity.
b) Perform inspection or other audit
procedures appropriate in the
circumstances?
[Note: Where information is obtained that
raises doubt about the integrity and
objectivity of the third party, the auditor
may consider it appropriate to perform
the following other audit procedures
instead of, or in addition to, confirmation
with the third party:
Attending, or arranging for another
auditor to attend, the third party’s
physical counting of inventory, if
practicable.
Obtaining another auditor’s report, or
a service auditor’s report, on the
adequacy of the third party’s internal
control for ensuring that inventory is
properly counted and adequately
safeguarded.
Inspecting documentation regarding
inventory held by third parties, for
example, warehouse receipts.
Requesting confirmation from other
parties when inventory has been
pledged as collateral. (Para A16)]
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