Chapter 11

The Inventory Process

MULTIPLE CHOICE QUESTIONS

1. What is lead time?

A. The period of time between shipment of ordered goods and receipt
B. The time required by customers for receipt of goods purchased
C. The period of time between the ordering of a product and its receipt
D. The maximum time inventory is to remain on the shelf
C

2. What is safety stock?

A. The quantity of inventory necessary to avoid the loss of sales due to
stockout
B. The optimum order size to prevent a stockout
C. The quantity that minimizes inventory for “just in time” inventory
D. The sum of the lead time stock and stockout stock
A

3. What is economic order quantity?

A. Maximum order quantity
B. A result of balancing holding costs against order costs
C. A quantity that is determined by the minimum holding cost
D. The sum of the safety stock and lead time stock
B

4. What is the most popular inventory control report?

A. Excess inventory report
B. Inventory turnover report
C. Sales and gross profit report
D. Order recommendation report
D

5. What report is essential to organizations using “just in time” operations to

minimize inventory?
A. Excess inventory report
B. Returns and allowances report
C. Inventory and PO aging report
D. Order recommendation report
C
6. Which of the following is a leading supply chain management system?
A. Great Plains
B. Manugistics
C. ACCPAC
D. MAS90
B

7. Which of the following are software systems that expand an organization’s reach
outside to suppliers and customers?
A. Enterprise resource planning systems
B. Just in time inventory systems
C. Supply chain management systems
D. None of the above
C

8. When is an order placed for additional products?

A. When the quantity available for sale reaches the stockout level
B. When quantity available for sale declines to the lead time stock level
C. When sales fall below the maximum stocking level
D. When inventory falls to the economic order quantity
B

9. Which of the following is not a common inventory problem for mercantile

organizations?
A. Maintaining an economic level of inventory on hand
B. Avoiding obsolete inventory
C. Managing a selection of products to achieve satisfactory profitability
D. Determining the lead time for products
D

10. What report is essential to organizations using the "just in time" inventory
approach?
A. Excess inventory report.
B. Returns and allowances report.
C. Inventory and PO aging report.
D. Order recommendation report.
C

11. Which of the following control activities would protect inventory from theft?
A. Limited access to the warehouse containing inventory.
B. Allowing only the inventory manager to authorize removal of items from
the warehouse.
C. Only the shipping clerks can verify the shipments and deliver the items to
the warehouse.
 D. All of the above are control activities that would protect inventory from
theft.
A

12. What type of control activity is the security system on an inventory warehouse?
A. Corrective.
B. Detective.
C. Preventive.
D. Corrective and detective.
C

13. Which of the following does not represent an effective segregation of duties in
the inventory process?
A. Responsibility for reviewing inventory evaluations and approving changes
to inventory valuations (e.g., write-downs or write-offs) should be
separated from the maintenance of perpetual inventory records.
B. Responsibility for reviewing inventory evaluations and approving changes
to inventory valuations (e.g., write-downs or write-offs) should be
separated from the maintenance of perpetual inventory records.
C. The functions of custody of inventory and the responsibility for the
maintenance of the inventory master file records should be separated.
D. The clerks who handle maintenance of perpetual inventory records should
also handle recording the receipt of shipments from vendors.
D

14. Which of the following represent authorization controls for information

processing in the inventory process?
A. Written approval should be required before any item of equipment,
materials, goods, or scrap can be removed from the plant facilities.
B. Inventory part or product numbers should be validated by check digits or
by table/file look-up.
C. Access to inventory in the warehouse should be limited to only those
individuals authorized by badge or biometrics.
D. Prenumbered documents should be used for all inventory adjustments,
disposals, and work order requisitions.
A

15. Where does most of the data entry relating to inventory occur?
A. In the inventory and revenue processes.
B. In the revenue and financial processes.
C. In the revenue and purchasing processes.
D. In the inventory and purchasing process.
C
16. What is the system called that uses technology to manage the purchase and receipt
of merchandise in a manner that minimizes inventory on hand?
A. Enterprise resource planning systems (ERP).
B. Just-in-time inventory (JIT).
C. Inventory control modules (ICM).
D. Electronic data interchange (EDI).
B

17. What is a characteristic of radio frequency identification (RFID) that makes it

preferable to universal product codes (UPC)?
A. RFID codes can identify a class or type of product, and can identify an
individual product as it moves along the supply chain.
B. RFID can only be used with enterprise resource planning (ERP) systems,
while UPC cannot be used with ERP systems.
C. RFID tags are smaller than UPC tags and cannot be detached by the user.
D. None of the above are reasons the RFID is preferable to UPC.
A

18. Which of the following is NOT an advantage of radio frequency identification

(RFID)?
A. RFID may provide information allowing a credit card user to be identified
or other surveillance unknown to the consumer.
B. RFID codes can identify a class or type of product, and can identify an
individual product as it moves along the supply chain.
C. RFIDs codes can be scanned from further away than universal product
codes (UPC), allowing for better tracking of inventory.
D. All of the above are advantages of RFIDs.
A

19. Which of the following represent risks associated with outsourcing?

A. Renegotiation risk.
B. Geopolitical risk.
C. Privacy of sensitive information.
D. All of the above are risks associated with outsourcing.
D

20. Which of the following is NOT a reason for outsourcing?

A. Lower labor costs overseas.
B. Quality of the component will not decrease.
C. Loss of jobs in the home country.
D. Higher levels of technical knowledge in the third-party service provider’s
country.
C
TRUE/FALSE QUESTIONS

1. Because of the similarities in inventory processes of manufacturing organizations,

treatment of inventory problems in the paper industry would be treated like those
in the automobile manufacturing industry.
F

2. Lead time is the period of time between the order of a product and receipt from
the vendor.
T

3. All accounting system inventory control modules use a perpetual inventory

system.
T

4. The larger the quantity of safety stock, the larger the stockout cost.
F

5. The order excess inventory report calls attention only to those overstocked items
that are important in dollar value.
T

6. In a batch posting system, posting to the inventory master file is accomplished

simultaneously with data entry.
F

7. Inventory management is one of the simplest AIS processes.

F

8. To monitor the status of inventory receipts, a purchasing department must have a

report that shows inventory on hand and committed along with open purchase
orders and the date related merchandise is expected to be received.
T

9. An inventory turnover report shows which products may need additional

advertising or promotion in order to improve performance.
F

10. An ERP software encompasses all internal operations.

T

11. Most data entry relating to inventory occurs in the revenue and purchasing
processes rather that in the inventory module.
T

12. Two methods to account for inventory are flexible and static.
F
13. Lead time stock is that quantity of inventory deemed necessary to avoid the loss
of sales due to stockouts.
F

14. The reorder point is reached when the stock on hand equals the safety stock.
F

15. The economic order quantity is the order size that minimizes holding cost plus
stockout cost.
T

16. The maximum stocking level equals the economic order quantity.
F

17. Software systems that extend an organization’s reach outside to suppliers and
customers, managing the planning and flow of merchandise inventory, are known
as supply chain management systems.
T

18. Most data entry relating to inventory occurs in the inventory process.
F

19. If the sum of free stock and units on order equals the reorder point, the
recommended order size is equal to the economic order quantity.
T

20. The purpose of the excess inventory report is to assure that sufficient inventory is
on hand to meet sales demand.
F

21. An important report in the inventory process is one that shows sales and gross
profit by product.
T

22. RFID codes have international standards.

T

23. RFID codes hold more information than UPC codes, but cannot be scanned from
as far away as UPCs.
F

24. The inventory manager should be the only person who has access to the inventory
on hand.
F
SHORT ANSWER/ESSAY QUESTIONS

1. List three of the four tasks that supply chain management systems can perform.

Answer:
Students may answer any three of the following four tasks.
Rationalization of the location and production capabilities of factories and
distribution centers
Unification of world-wide inventory management and order fulfillment
Optimization of the global supply chain
Integration of tax efficiency into the global planning process

2. Name some factors that may cause management to deviate from an order size
recommendation.

Answer:
Expected cash shortages
Expected changes in the rate of sales
Expected shortages of the product

3. Discuss various activities in the inventory process.

Answer:
The three basic activities for the inventory process of mercantile organizations
include receiving, storing, and shipping.

When merchandise is received, personnel with appropriate skill and knowledge

levels are assigned to inspect the merchandise for quality standards.

The merchandise may be stored in structures which can vary according to the
organization. Products are often purchased and sold in different units with the
requirement that it be repackaged.

Based on a sales order, merchandised is pulled, packed, and delivered to

customers. In some cases, there is no physical packaging.

4. List and discuss some reports that are used to help manage the inventory process.

Answer:
Order Recommendations Report. This report includes only those inventory
items that are at or below the reorder point and may also suggest the appropriate
order size.

Excess Inventory Report. This report serves to call management’s attention to

significantly overstocked items.
 Inventory Turnover Report. This report can be relied on to indicate dormant
stock items.

Sales and Gross Profit Report. This report can be used to draw attention to
those products that are marginally desirable and might need additional
advertising and/or promotional emphasis to improve their performance.

Returns and Allowances Report. This report shows the merchandise returns
and allowances for each product that have been granted to customers due to
shipment errors and defective merchandise.

Inventory and PO Aging Report. By reviewing this report, purchasing

managers can anticipate shortages in merchandise and, if the added expense
can be justified, expedite vendor shipments.

5. What are the main activities in the inventory process for a mercantile
organization?

Answer:
The main activities in the inventory process for a mercantile organization are
receiving merchandise from vendors, inspecting the merchandise, counting and
comparing the merchandise received with the packing slip and the purchase order,
transferring the inventory to storage, repackaging the merchandise, rotating the
merchandise, pulling the sold merchandise for shipment, packaging the sold
merchandise, and shipping the sold merchandise to customers.

6. What are the tasks that supply chain management software can perform?

Answer:
Supply chain management software can systematize the location and production
capabilities of factories and distribution centers, unify world-wide inventory
management and order fulfillment, optimize the global supply chain, and integrate
tax efficiency into the global planning process.

7. What are the end of period processing options in the inventory module?

Answer:
The end of period processing options in the inventory module are to post
transactions to the general ledger, archive and reset the inventory adjustments
journal, and delete superannuated accounts.

8. Define the following: lead time, safety stock, reorder point, ordering costs,
economic order quantity.
 Answer:
Lead time (period between ordering restock and receipt or units/day * days to
receive), safety stock (quantity of inventory maintained to avoid stock outs or
stock out v. holding costs), reorder point (safety stock + lead-time stock or units
sold per day * number of days to receive), ordering costs (include creation of PO,
sending it out, handling merchandise, paying invoice), EOQ (minimum order
quantity, optimum order quantity, holding v. ordering costs).

9. Discuss some of the risks associated with the inventory process.

Answer:
Inventory is one of the most liquid assets held by a company. Consequently, there
are a number of risks associated with the misappropriation of this valuable asset.
These risks include:
 Material misstatement of inventory valuation.
 Improper classification or determination of inventory costs.
 Errors in cost allocations.
 Improper application of cost flow models (e.g., FIFO, LIFO, average cost)
 Errors in the perpetual inventory records resulting in overstocking or
obsolescence of items in inventory.
 Improper evaluation of carrying costs versus stockout costs.
 Failure to identify low turnover inventory items
 Improper evaluation of the market value of inventory.
 Excessive losses due to shrinkage or theft of inventory.
 Misappropriation of materials or goods due to manipulation of inventory
adjustments or valuations.
 Unauthorized shipments of inventory.
 Fictitious physical counts of inventory to conceal pilferage. Errors can also arise
due to the improper classification of goods held on consignment.

10. Discuss control activities related to the physical safeguarding of inventory.

Answer: Much of the burden of safeguarding inventories falls on physical security

measures (a preventive control activity). Limited access storerooms or
warehouses, security fences, electronic sensing and monitoring devices,
surveillance cameras, fire/smoke detectors, and security patrols all play an
important role. Access to inventory and inventory records should be controlled
by badges, biometrics, user identification and/or passwords. Locks and security
codes should be changed periodically to further limit unauthorized access.
Employees in sensitive areas should be bonded to minimize loss to the company
in the case of fraud. Other physical controls include quality control procedures
(with regard to acceptance of shipments from vendors) and regular physical
counts of inventory on hand. The results of the physical count should be
compared to the computer-generated inventory on hand listing.
11. Discuss output controls commonly found in the inventory process.

Answer:
Strong output controls should be in place when setting up the programmed criteria
to initiate a purchase order transaction (e.g., when setting up automatic reorder
points). Changes to the master file records should be strictly controlled. Reports
regarding reorders, spoilage, and obsolescence of inventory should be distributed
to the appropriate managers for review.

12. Discuss the advantages and disadvantages of radio frequency identification

(RFID). Give two examples of companies who have implemented RFID systems.

Answer:
RFIDs can identify not only a class or type of product, but also can identify an
individual product as it moves along the supply chain and ends up in the
possession of an individual. Other advantages of RFID over UPC technology
include the ability to scan the code from further away (in some cases, up to 90
feet away), better tracking of inventory movement (making it easier to track
theft), and efficiencies in product recall and detection of counterfeit items. The
RFID tag is quite small, and its transponder contains a memory chip that allows
for the unique product code. The tag is detected as it passes through the
electromagnetic zone by an antenna in the transceiver. This eliminates the need
for a laser reader, such as is required to read a UPC code.

While this technology is extremely valuable for tracking inventory and replacing
cashiers with point-of-sale checkout stands, there are privacy issues that should be
considered. For example, if the RFID tag is not erased at checkout, it could be
easily read without the consumer’s knowledge and may also provide information
allowing a credit card user to be identified or other surveillance unknown to the
consumer. Auditors and accounting professionals involved with the development
and implementation of RFID technology at their company should be aware of the
security concerns, and ensure that these issues are addressed. Companies that
have considered implementing RFID for parts tracking include Delta Airlines and
the Boeing Company. Retailers, such as Wal-Mart, have instituted a scheduled
implementation of RFID for its supply chain.

13. Discuss the benefits and risks of outsourcing that should be considered before
enlisting a third party service provider.

Answer:
The most common reason to outsource is to save money. This can mean savings
in labor and/or component costs. In addition, some outsourced services such as
customer technical support services can provide 24/7 support for worldwide
operations. Sometimes, the technology is more advanced at another organization
so that the outsourced component is produced more cheaply and with higher
quality.
 Risks related to outsourcing are
 Geopolitical issues (e.g., wars, embargos)
 Currency fluctuations
 Jobs in the contracting organization’s home country can be lost due to the
outsourcing of the activity or component.
 Security, in the sense that laws in the third-party service provider’s country might
differ from those of the lead organization’s country. For example, laws regarding
information privacy, patents, and copyrights in countries such as India and
Thailand differ significantly from the laws in the US.
 Renegotiation risk
 Issues related to the quality of the product or service outsourced.

14. Discuss ways that an organization can minimize the risks associated with
outsourcing.

Answer:
The key to protecting an organization interested in outsourcing a good or service
lies in the strength of its service level agreement (SLA). These SLAs can require
due-diligence reviews, SAS 70 reports (discussed in chapter 6), and specific
definitions of what is required of the third-party service provider. In addition, the
SLA can specify requirements with regard to the protection of information assets,
and can request that background checks be performed on employees.