For a large retail client with a history of significant inventory variances, your role as an observer is not to recount the entire warehouse—it's to obtain audit evidence about whether the client's count procedures are reliable and whether the final inventory exists, is complete, and is accurately recorded.
The highest-risk areas are usually:
- Count accuracy
- Count completeness
- Inventory movement during the count
- Cutoff
- Misidentified or obsolete inventory
- Potential management override
Here are the procedures and red flags that experienced inventory observers pay the closest attention to.
Before the count begins
Make sure you understand:
- The client's written inventory instructions
- Count team assignments
- Whether inventory movement is frozen
- How recounts are handled
- How discrepancies are investigated
- Whether scanners or paper count sheets are used
- Whether count sheets are pre-numbered and controlled
Red flags:
- No written instructions
- Employees seem unsure of procedures
- Supervisors giving different instructions
- Count sheets lying around unsecured
- Blank count sheets already signed
- Missing sequence control over count tags
Inventory movement (one of the biggest risks)
Inventory should generally stop moving during the count unless there is a well-controlled process.
Watch for:
- Forklifts still picking orders
- Receiving trucks unloading
- Shipping continuing normally
- Employees moving pallets after they've been counted
- Inventory transferred between aisles
If movement continues:
- Is every movement documented?
- Is every pallet clearly marked as counted/not counted?
- Is movement approved?
Major red flag:
A pallet gets moved after counting with no documentation.
That creates both existence and completeness issues.
Observe the actual counting
Watch how employees count.
Good signs:
- Actually counting
- Opening cartons when required
- Counting by layer when appropriate
- Independent verification
- Recording immediately
Red flags:
Guessing quantities.
Examples:
"That's always 500."
"Looks full."
"We'll just use last year's number."
Watch for "pencil whipping."
Examples:
Writing numbers before counting.
Copying system quantities.
Looking at inventory records before counting.
The count should originate from the physical inventory—not the ERP.
Blind counts
One of the strongest controls is when counters cannot see the expected quantity.
Red flags:
Count sheets already contain:
- Expected quantity
- Book quantity
- ERP quantity
If employees can simply confirm the expected number, confirmation bias becomes a serious issue.
Count tags / count sheets
Verify:
Every tag accounted for.
Unused tags returned.
Void tags retained.
Missing tags investigated.
Red flags:
Missing tags.
Duplicate tags.
Photocopied tags.
Uncontrolled handwritten sheets.
Floor-to-sheet testing
This is a key audit procedure.
Choose inventory on the floor.
Trace it to:
- Count sheet
- Tag
- Scanner record
Purpose:
Test completeness.
Questions:
Was this inventory actually recorded?
Was every pallet counted?
Sheet-to-floor testing
Reverse direction.
Select a count sheet.
Locate the inventory physically.
Purpose:
Test existence.
Watch for:
Count sheets describing inventory that doesn't exist.
Double counting
Very common in large warehouses.
Watch for:
Pallets straddling aisles.
Overflow storage.
End caps.
Temporary staging areas.
Damaged goods area.
Returns area.
Cross-dock inventory.
Red flag:
Same pallet counted twice by different teams.
Missed inventory
Also common.
Inspect:
Top racks.
Overflow storage.
Mezzanines.
Receiving dock.
Shipping dock.
Outside storage.
Trailer inventory.
Returned merchandise.
Damaged inventory.
Quarantine area.
Quality inspection area.
Repair area.
Employee hold area.
Consignment inventory.
Vendor inventory.
High-value items
Spend more attention here.
Electronics.
Jewelry.
Luxury goods.
Controlled products.
Small expensive inventory.
Observe:
Locked cages.
Restricted access.
Independent recounts.
Supervisor review.
Damaged or obsolete inventory
Existence isn't enough.
Observe:
Dust.
Expired goods.
Broken packaging.
Rust.
Water damage.
Discontinued merchandise.
Old seasonal products.
Products with outdated labels.
Ask:
How are obsolete goods identified?
How are reserves determined?
Unit of measure issues
Huge source of errors.
Watch for:
Eaches
Cases
Master cartons
Inner packs
Pallet quantities
Examples:
One pallet = 48 cases.
One case = 12 units.
Employees accidentally counting:
48 instead of 576.
Partial containers
Red flag:
Employees assume every pallet is full.
Instead verify:
Partial layers.
Broken pallets.
Opened cartons.
Mixed pallets.
Mixed SKU pallets
Very common.
Watch carefully.
One pallet may contain:
SKU A
SKU B
SKU C
If counted as one SKU:
Material error.
Similar-looking products
Example:
Different colors.
Different sizes.
Different model numbers.
Watch employees verify SKU numbers—not just packaging.
Barcode scanning
If scanners are used:
Watch for:
Successful scans.
Manual overrides.
Duplicate scans.
Scanner failures.
Offline scanners.
Large numbers of manual entries are worth asking about.
Recounts
Good practice:
Material variances trigger recounts.
Observe:
Who performs recounts?
Independent?
Same employee?
Supervisor involvement?
Red flag:
Original counter simply changes the number without recounting.
Supervisor oversight
Strong counts include supervisors actively reviewing.
Weak counts:
Supervisor sitting in office.
No walkthroughs.
No spot checks.
No review of unusual counts.
Inventory ownership
Not everything in the warehouse belongs to the client.
Watch for:
Consignment inventory.
Vendor-owned goods.
Customer-owned goods.
Repair inventory.
Returned goods awaiting disposition.
Ask how these are identified and excluded or separately tracked.
Cutoff testing
One of the most important areas.
Inspect:
Receiving.
Shipping.
Loading docks.
Ask:
Which shipments occurred immediately before and after count?
Which receipts occurred immediately before and after count?
Watch for:
Goods shipped but still counted.
Goods received but not counted.
Goods in trailers.
Bills of lading.
Receiving reports.
Shipping documents.
Red flags that deserve immediate discussion with your senior
- Employees copying book quantities.
- Inventory continuing to move without controls.
- Large warehouse sections skipped.
- Count teams unable to explain procedures.
- Missing count sheets.
- Duplicate count tags.
- Supervisors overriding counts without recounts.
- Significant damaged inventory ignored.
- Large amounts of unlabeled inventory.
- Mixed inventory not separated.
- Numerous manual scanner overrides.
- Unsecured high-value inventory.
- Inventory stored outside normal locations.
- Employees joking that "the numbers never match anyway."
- Management directing counters toward specific quantities.
- Pressure to finish quickly rather than accurately.
Questions worth asking during the observation
If appropriate within your role, you can ask questions such as:
- "How do you know this location has already been counted?"
- "What happens if your count differs from the system?"
- "How are partial pallets counted?"
- "What do you do if you find inventory with no label?"
- "How are damaged goods handled?"
- "Can inventory still be moved during the count?"
- "Who approves recounts?"
- "How are unused count tags controlled?"
Practical advice for a junior auditor
Take detailed contemporaneous notes rather than relying on memory. Record the location, time, aisle or bin number, SKU, names or identifiers of count team members (if appropriate under your firm's documentation standards), what you observed, and any follow-up questions or explanations provided. Photograph inventory only if your firm's policies and the client's rules permit it.
If you observe something that seems inconsistent with the count instructions or presents a risk of material misstatement, don't assume someone else has noticed. Raise it promptly with your senior or manager. Even if the issue turns out to have a reasonable explanation, timely communication allows the engagement team to decide whether additional audit procedures are needed.
