REPORT ON

AUDIT OF STORES
INVENTORY
ACTIVITIES

U.S. Deplllanent of Energy

M c e of Inspector General
Assistant Inspector General for Audit
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 REPORT ON
AUDIT OF STORES
INVENTORY
ACTIVITIES

June 1878

U.S. Department of Energy

Office of lnspector General
- -. . ..
. - -
Assistant lnspector General for Aud? '
NOTICE I
nis =Port ma Prepared as an account of work
simnrored by the Unitcd States Government. Neither the
I
r
Washington D.C 205&-
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!. any warranty, expreu or implied, or m u m u any legal
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:
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Available from:

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 REPORT ON AUDIT OF
STORES INVENTORY ACTIVITIES

Presented herewith is a s m a r y of the principal findings sterming from a u d i t s

of s t o r e s inventory a c t i v i t i e s t h a t were conducted a t 22 ERDA (now DOE and
hereinafter referred t o a s DOE) contractor locations during FY 1977. Attach-
ment I contains a l i s t i n g of the contractor locations where the a u d i t s were
per formed.

The primary purpose of t h e a u d i t s was to.determine the adequacy of procedures

and p r a c t i c e s f o r assuring that s t o r e s inventories a r e being maintained a t
the most economical l e v e l s consistent with program requirements. Particular
a t t e n t i o n was given t o the j u s t i f i c a t i o n f o r adding new items and retaining
e x i s t i n g items, and t o the b a s i s for the q u a n t i t i e s of s t o r e s t o be purchased.

BACKGROUND

. I n September 1970, a report was issued on the r e s u l t s of an agency-wide a u d i t

of s t o r e s inventory a c t i v i t i e s . The report indicated t h a t there were a num-
ber of weaknesses i n the management of s t o r e s inventories r e l a t i n g t o adding
new items, r e t a j n i n g unneeded items, and e s t a b l i s h i n g q u a n t i t i e s t o be pur-
chased. A s a r e s u l t , a s i g n i f i c a n t percentage of the t o t a l s t o r e s inventory
of $90 million was i n long supply o r had had no usage during t h e p r i o r 12
months.
Since the 1970 a u d i t , there has been a steady and s i g n i f i c a n t increase i n the
d o l l a r value of s t o r e s inventories, due i n p a r t t o f a c t o r s such a s i n f l a t i o n
and management decisions t o r e c l a s s i f y equipment items a s s t o r e s inventory.
A t the end of f i s c a l year 1975, the value was $158 million. A year l a t e r ,
the value increased t o $196 m i l l ion. By t h e end of f i s c a l year 1977, t h e
value had r i s e n to $210 million.

I n view of the magnitude and nature of the p r i o r a u d i t findings and the con-
tinuing increase i n the d o l l a r value of s t o r e s inventory, w e decided t h a t
another a u d i t i n t h i s a r e a was desirable. Field o f f i c e a u d i t d i r e c t o r s were
therefore requested t o conduct reviews i n t h i s a r e a sometime during FY 1977,
with the timing and coverage l e f t t o t h e i r d i s c r e t i o n , based upon l o c a l con-
d i t i o n s . A l l were asked, however, t o evaluate the adequacy o f the proce-
dures and p r a c t i c e s r e l a t i n g to:
1. The j u s t i f i c a t i o n for adding new i terns t o 'the inventory, in-
cluding review and approval by higher authority.
2. The i d e n t i f i c a t i o n of long supply and no usage (no issuance
from storage during a s p e c i f i c period of time) items, and the
j u s t i f i c a t i o n for t h e i r retention.
 3. The appropriateness of quantities purchased, in l i g h t of past
usage, amount on harid, and projections for future needs.
The sections t h a t follow summarize the more significant findings noted in
the FY 1977 reviews together w i t h the overall conclusions t o be drawn from
these findings and related recommendations.

AUDIT FINDINGS

Adding New Items - I n order t o assure t h a t inventories on hand w i l l meet cur-

rent needs without being excessive t o those .needs, one essential s t e p is t o
provide for prior r.eview, approval, and written j u s t i f i c a t i o n for proposed
new items before they can be added t o the inventory.

The procedures a t most locations covered by the audit were adequate in t h i s

regard. However, the audit did disclose single instances of the following
def ic ienc ies :

1. The written procedures did not require a written justification

a s t o the need for new items.

2. New items were added t o the s t o r e s inventory on t h e basis of

o r a l requests from employees, and the requests were not being
reviewed and approved by supervisors knowledgeable of program
requirements.
3. The designated request form for adding new items was not being
properly completed, nor was appropriate approval being ob-
.
t a ined
Retaining Existing Items - Another s t e p t h a t is necessary t o effectively con-
t r o l inventory l e v e l s is t o periodically ascertain t h a t the items beinq re-
tained in inventory continue- t o be needed t o meet current requirements; and
t o promptly dispose of items t h a t a r e no longer needed.
The audit disclosed t h a t manual systems used by two contractors t o identify
slow-moving items were ineffective, due t o the large number of s t o r e s items.
Another contractor ' s inventory r epor t ing system d id not include spare par ts
control, with the r e s u l t t h a t some spare p a r t s were overstocked.
The more significant problems, however, concerned the handling of items t h a t
had been identified a s slow-moving. For example, 15 percent of one contrac-
t o r ' s inventory, which was valued a t $1.5 million, had not had any usage for
a t l e a s t one year. The department with the most inactive items was provided
with a "no usage" report which indicated t h a t 628 of its items f i t t h a t cat-
egory. After review by the department, 450 of the 628 items were designated
for r e t e n t i o n but no w r i t t e n j u s t i f i c a t i o n was provided. Furthermore , while
the other 178 items were' t o be written o f f the records and disposed o f , ac-
t i o n had been taken on only a few items a t the time of the a u d i t three months
later.

In another instance, the q u a n t i t i e s on hand for about half of 15,000 s t o r e s

inventory items valued a t $3.4 million were equal t o one y e a r ' s supply or
more. An e a r l i e r a u d i t report had recommended t h a t a combined review by
functionally responsible departments be performed of non-moving and slow-
moving items t o j u s t i f y the retention. of necessary m a t e r i a l s and authorize
d i s p o s i t i o n of excess materials. The contractor had agreed with the a u d i t
recommendation but had not established the review team a t the time of the
c u r r e n t a u d i t which took place more than three years a f t e r the e a r l i e r au-
dit.
In t o t a l , 1 3 of the contractors covered by the a u d i t were e i t h e r not making
timely reviews of the continued need for s t o r e s inventory items i d e n t i f i e d
a s slow-moving or were not j u s t i f y i n g the decision t o r e t a i n such items.
Failure t o take such s t e p s increases the likelihood of unneeded items remain-
ing i n the inventory, with r e s u l t a n t increased c o s t s f o r financing, storage,
recordkeeping, physical inventory taking and safeguarding of inventories,
and increased l o s s e s through deterioration.and obsolescence.
Quantities Purchased - I n order t o avoid excessive q u a n t i t i e s on hand, a
r e a l i s t i c b a s i s must be used for determining the q u a n t i t i e s t o be purchased.
Consideration must be given t o such f a c t o r s a s past usage, amount on hand,
and projections for f u t u r e needs. To the extent practicable, contractors
a r e encouraged by DOE policy t o use the economic order quantity (Em) prin-
c i p l e of stock replenishment. Through the use of the EO(), which is based
on the c o s t s of buying and holding stocks, funds u t i l i z a t i o n is maximized
by providing for the ordering of stocks a t optimum economic l e v e l s consist-
e n t with current needs.

Most of the contractors covered i n the a u d i t were using some form of EOQ
system f o r determining q u a n t i t i e s t o be ordered and most were considered t o
be reasonably s a t i s f a c t o r y by audit. Nevertheless, weaknesses were found
i n some of the systems which could r e s u l t 'in the q u a n t i t y ordered varying
from t h a t considered t o be the most economical. The types of weaknesses
disclosed were a s follows:

1. Cost f a c t o r s were not reviewed. The reorder q u a n t i t y was de-

termined through an EOQ formula which included the c o s t r a t i o
between the c o s t t o order an i t e m and the holding c o s t per
d o l l a r of inventory. me c o s t f a c t o r had not been reviewed
for a t l e a s t one year; thus, there was no assurance t h a t the
ECQ computations were based on c u r r e n t c o s t d a t a .
 2. Cost d a t a used was not used accurately (erroneous computa-
t i o n s ) o r was not properly c l a s s i f i e d (ordering c o s t s were
c l a s s i f i e d a s holding c o s t s ) . A s a r e s u l t , the EOQ was in-
correct.
3. Where complex systems were i n use, consisting o f a number
of i n t e r r e l a t e d elements, the feedback t o indicate whether
adjustments were needed t o the elements of the system
(e.g., s e r v i c e l e v e l s , order points, usage forecasting) was
inadequate .
S t a t i s t i c a l Data - The usual e f f e c t of weaknesses i n c o n t r o l s over adding new
items , retaining e x i s t i n g items , and purchasing economical q u a n t i t i e s is an
increase i n the q u a n t i t i e s of long supply and no-usage items on hand. S t a t i s -
i c a l d a t a pertaining t o such items was included i n some of the individual au-
d i t reports, although not necessarily i n a uniform manner. Notwithstanding
the v a r i a t i o n s , the d a t a revealed s i g n i f i c a n t amounts of i n a c t i v e items in
s t o r e s inventories.. Examples of the more s i g n i f i c a n t amounts a r e presented
below:

1. Of one c o n t r a c t o r ' s t o t a l s t o r e s inventory of $6.2 m i l l ion,

t h e anount of no-usage items i n the p r i o r 12 months was $2.1
million and the amount of items with more than 24 months'
supply on hand was $1.1 million.
2. Another contractor had $2.9 million i n s t o r e s inventory, of
which $1.4 million was i n long-supply items ( c u r r e n t quanti-
ties on hand exceeding p r i o r 12-month withdrawals), and $1.0
m i l l i o n i n inventory l i n e items with no i s s u e s during the
p a s t 12 months.
3. Using a 24-month c r i t e r i o n , 34 percent of a t h i r d contrac-
t o r ' s s t o r e s inventory of $21.7 m i l l i o n was e i t h e r i n long
supply o r inactive .
4. The overstocked portion of long supply (more than 48 months'
supply) items of a fourth c o n t r a c t o r ' s inventory was $311,647.
No-usage items were valued a t $90,551. The t o t a l s t o r e s in-
ventory was $1,465,658.
5. A s of December 31, 1976, a f i f t h contractor had 1,777 no-
usage items f o r the previous 1 2 months with a t o t a l value of
$239,131 o u t .of a t o t a l inventory of over $4.5 million. A
s p e c i a l r e p o r t prepared s i x months l a t e r indicated t h a t the
value of long-supply (more than 48 months' supply) items was
$291,726 a t t h a t t h e .
 6. The value of no-usage items (no issuances for more than 18
months) i n a s i x t h contractor's stores inventory was $281,000
out of a total of slightly over $4 million. A review of $3.4
million of the stores inventory total indicated the value of
items w i t h more than 1 2 months' supply on hand was $1.9 m i l -
l ion.

While retention of a significant portion of the slow-moving or inactive items

would likely be justified, since special process spares and spare parts are
included i n the amounts, the s t a t i s t i c a l data does suggest that sizeable .
quantities of stores inventories. currently on hand may no longer be needed.
Further retention of these unnecessary items could result i n the types of in-
creased costs discussed previously.
A s noted e a r l i e r , except for the three areas listed on page 1-2,
the partic-
ular inventory matters to be covered a t each contractor location were l e f t
to the judgment of the cognizant audit director. The findings that follow
resulted from this "non-uniform" part of the audit; thus, the frequency of
occurrence of a given'problem area cannot be related to the group as a whole
since the area i n question may not have been covered a t a l l locations.
Financial Controls - To provide adequate financial control over stores inven-
tor ies, i t is important that the records pertaining to inventory balances be
kept current and accurate; that periodic physical inventories be taken and
reconciled to stock records and accounting records; and that the stores in-
ven tor ies be correctly classified .
The audit disclosed one or more of the following deficiencies a t eight con-
tractor locations:

1. Physical inventories were not taken with the frequency pre-

.scribed by DOE and contractor procedures.

2. Quantities on hand for numerous inventory items were out-of-

balance with stock records, one reason being that some w i t h -
drawals had not been recorded. Also, quantities recorded as
being on order were, i n fact, not on order.

3. Inconsistencies existed between stock records and related

quantities i n the accounting records.

4. I tems were misclassif ied among various ca tegor ies of stores

inventory and' be tween stores inventory and equipment .
Physical - Controls - Another element of control directly associated with phys-
ical inventories and inventory records is the control over stores items while
they are in a warehouse or other holding f a c i l i t y , and the manner i n which
stores items are issued to the employees. Care must be taken that the items
are properly segregated and protected, and that the issuances are for valid
purposes.
The audit disclosed that some aspect of physical control needed to be im-
proved a t seven locations.
1. Controls over inventory.withdrawals during overtime hours were
lacking a t two locations, and controls over the use of bench,
stocks were lacking a t another location.
2. The storage warehouse for stores inventories was outside the
secured area a t one location, while a t another the large slid-
ing door i n front of the stock bins and receiving area was
l e f t open during working hours. Under these conditions, un-
authorized removals of stock are more likely.

3. "Free-issue" items ( i.e., no record is maintained of each is-

suance) needed to be put under more control i n order t o avoid
excessive usage resulting in stock-outs.

4. A sign, indicating U.S. Government property, had not been af-

fixed to a l l warehouses and storage areas, thus the deterrent
of Federal prosecution of illegal entry was not made known.
9

5. Materials to be returned to vendors for credit had not been

segregated in the warehouse, which could result i n inaccurate
physical inventories, improper usage, or delays i n processing
the returns.
Conclusions and R e c o ~ n d a t i o n s
While weaknesses in procedures or practices, relating to particular elements
of inventory management, were disclosed a t some locations, the audit results,
when viewed as a whole, indicated that most of the features of inventory man-
agement covered by the audit (adding new items, replenishment, financial con-
trols and physical controls) were being performed in a generally satisfactory
manner. On the other hand, many contractors were not taking prompt action to
determine the disposition of items that had been identif ied as slow-moving .
The s t a t i s t i c a l data developed on long-supply and no-usage items strongly
suggests that the number one problem is that items w i t h l i t t l e or no likeli-
hood of future use continue to be retained in inventory.

The principal arguments for retention of unneeded items are the cost i n time
and manpower that would be incurred to identify and dispose of them and the
small return on the dollax that is usually received against the high cost or
detrimental effect that would be incurred i f i t happened that the item was
needed i n the future.
This l i n e of reasoning overlooks the f a c t 'that major continuing c o s t s a r e
involved i n physical p r o t e c t ion, accountabil it y , tying up c a p i t a l and t h e
.
1i k e

I n view of the many program changes t h a t have occurred i n recent years and
a r e continuing t o occur; the combining of many d i v e r s e elements in DOE;
and the sizeable increase i n s t o r e s inventories t h a t has taken place, we
recommend t h a t a concerted, one-time e f f o r t be undertaken under a uniform
program developed and directed By the Property and Equipment Management
Branch, Directorate of Procurement and Contracts Management, HQ. The ob-
j e c t i v e of t h i s program would be t o weed o u t and dispose of unnecessary
s t o r e s inventory i tems which, p a s t exper ience and cur r e n t a u d i t s indicate,
a r e l i k e l y t o be many millions of d o l l a r s .
Additionally, w e a r e providing copies of t h i s r e p o r t t o f i e l d o f f i c e man-
agers with the recommendation t h a t they forward i t t o a l l of t h e i r oper-
a t i n g contractors f o r information and use i n evaluating t h e adequacy of
t h e i r own inventory management procedures and p r a c t i c e s .

HQM 78-102
 LISTING OF CONTRACTOR LOCATIONS
WHERE INDIVIDUAL AUDITS WERE PERFORMED

Office and Contractor

Albuquerque 0 p r s t . i o n s Office

The Bendix Corporation, Kansas City Division

Gener a1 Elec t r i c Company, Neutron Devices Depar tmen t
Los Alamos S c i e n t i f i c Laboratory
Mason & Hanger - S i l a s Mason Co., Inc.
Monsanto Research Corporation
Rockwell International Corporation, A t o m i c s 1nterna t ional Divis ion
Sand ia Labor a tor i e s
Chicago Operations Off ice
Arnes Laboratory
Brookhaven National Laboratory
Fermi National Accelerator Laboratory
Idaho Owr a t ions Office
M;&G Idaho, Inc.

Nevada Owrations Office

E G G , Inc. :
Energy Measurements Group, Las Vegas
Control Group Operations, Los Alamos.
Contract Group Operations, San Ramon
Holmes & Narver, Inc. -. Pacific Test Division
Reynolds Electrical & Engineering Co , Inc . .
Oak Ridge Operations Office

Goodyear .Atomic Corporation

National Lead Company of Ohio
Union Carbide Corporation, Nuclear Division

San Francisco Owrations Office '

Lawrence Berkeley Laboratory

Lawrence Livermore Laboratory
Savannah River Operations Office

.
E I. duPon t de Nemour s and Company

ATTACHMENT I
QU.S. GOVERNMENT PRINTING OFFICE: 1978-261-324/76