How to Find Inventory Fraud During Year End with ERP

Many companies will be doing physical inventories (and adjusting their ERP systems to agree with counts) at the end of December and the first of January. Remember that just because you are a small business, you’re not exempt from fraud. In fact, the MAJORITY of frauds occur in businesses with less than 100 employees! Here are some things to look for when you are doing these adjustments (for both managers and IT departments / outsourcers):

  • Many adjustments to reduce inventory without many entries to increase inventory. In most inventory systems, counts on items will be different from the inventory records. Keying errors, stocking errors, shipping errors, etc., all contribute to this. You’ll ship a black item when midnight blue was ordered, and the customer won’t complain because the colors are so similar. However, if all the entries are in a downward direction, something is causing inventory to shrink. You should dig deeper to find out what it is.
  • Credits to customer accounts that don’t correspond to inventory returns. This depends on the type of business you’re in. In many businesses, customers should not receive credit until the product is returned. Seeing entries in customer accounts that aren’t justified by inventory receipts may indicate a need to dig a bit.
  • Employees that stay late and arrive early to do parts of the inventory count themselves. This may indicate a need to adjust counts to the correct numbers.
  • Profit margins that decrease from year to year after the adjustments are posted
  • Take particular note of misplaced items.If you have a large number of items that are not located where they should be, you should look deeper. It may be carelessness, or it may be items that have been pulled from incoming or outgoing shipments without being recorded to ‘make up the difference’ for items stolen

This isn’t a comprehensive list, but it will help you get started thinking.
Here are some suggestions for taking a physical inventory to increase the chances that you’ll find fraud if it exists:

  • Count in twos. One of the employees in each team should be an employee that doesn’t normally have access to inventory.
  • Randomly recount items that have previously been counted. Make sure you count items from all the teams. You’ll find some errors, but if a team has a number of errors, all in the same direction, take a closer look.
  • Randomly test pallets for hollow centers. Several inventory frauds have been covered up by stacking pallets around the edges and leaving the centers hollow (or filled with empty boxes). You also need to weigh and open a few boxes from the middle and bottom of pallets.

A few ideas. If you think you have a problem, consult an expert in both fraud and ERP systems. You’ll need both to get the best result.