Definition
When inventory is material, AU-C 501 expects the auditor to attend the physical count, unless impracticable. At the count the auditor observes whether management's instructions are followed, inspects the inventory for condition and obsolescence, records the last receiving and shipping documents for cutoff, and makes test counts.
Why it matters in an audit or review
Observation gives direct evidence of existence and condition, and shows whether the count process can be relied on to produce the book-to-physical adjustment. The auditor's test counts go two ways: from the floor to the count sheets (completeness) and from the count sheets back to the floor (existence). The auditor also checks that count tags are controlled and accounted for.
Example
A warehouse holds 3,200 SKUs (illustrative). The auditor selects 40 items from the floor, agrees quantity and description to the tags, then picks 40 tags and finds each item on the shelf. One tag shows 120 units against 102 on the shelf. The difference is noted for follow-up, and the final listing is later agreed to the tags.
Common mistakes
- Arriving after counting has started and missing the instruction briefing.
- Test counting only the items easiest to reach.
- Not recording the last shipping and receiving numbers.
FAQ
What if the auditor cannot attend the count?
The auditor generally performs or observes counts at another date and tests intervening transactions. If that cannot be done, a scope limitation may arise.
Sources
- AICPA, AU-C Section 501, Audit Evidence — Specific Considerations for Selected Items (inventory)
- AICPA, AU-C Section 500, Audit Evidence
Definitions paraphrase AICPA and FASB guidance; read the standard itself before relying on a requirement. Example figures are illustrative. This page is guidance, not professional advice. Report an error