While consulting with parts department managers and owners on the recording and reconciling of parts inventories for many years, our firm has seen unusual activity and trends as they pertain to these inventories in new vehicle dealerships. In the last couple of years, we have observed physical parts inventories, in some instances 30% higher in dollars than the accounting inventory on the dealer financial statements. This is contrary to normal operations where the parts physical pad and accounting records should be very close in amounts. If parts are being reconciled on a regular basis, as they should be, and you are seeing discrepancies, proactive steps should be taken.
Reconcile the physical amount of your inventory to your accounting records as part of your month end close. As your fixed operations represent a higher gross profit percent compared to your vehicle sales and are so important when it comes to the service absorption to cover your fixed expenses, parts inventories are a valuable component of your balance sheet, and should be equated to cash, to be reconciled on a regular basis. Some dealerships reconcile cash daily or weekly. There’s no reason why, at least on a monthly basis, that this cannot be done for parts.
The actual mechanics involved are very similar to a bank reconciliation. You can start with the parts pad amount, add back any work in process parts on unclosed repair order and parts ticket, adjust by any purchases that haven’t been recorded in accounting, account for any appreciation or depreciation coming from the manufacturer parts pricing updates (which should be recorded on a regular basis). This should bring you to the accounting amount. Or this can be done in reverse starting from accounting. There shouldn’t be any differences. We have heard from parts ‘experts’ that a difference of 2% to 3% is okay. Would it be okay if your bank accounts were 2% to 3% different from your general ledger cash accounts?
In addition, within the accounting office, the trade payables associated with factory parts should be reconciled against the factory “parts statement” to ensure that this ties out as well. This should be done by someone not involved in the posting/recording of these invoices in accounting, and keep in mind that depending on the factory, this payable may also include warranty credits, vehicle incentives, and other payable/receivables from the factory.
Some items that lead to discrepancies, besides theft, and this is by no means an exhaustive list, include the use of parts cost overrides or quantity overrides; pending tickets that are relieving inventory with no associated repair orders or never closed, special order parts that aren’t accounted for on the pad, and clean and dirty cores that aren’t being accounted for on the pad.
Within accounting, examine transactions in the parts inventory accounts; are they coming from the correct source, such as parts and service journal sources, and purchase journals? Are there any cash disbursements or general journal entries? If so, why? These sources shouldn’t generally be used in these inventory accounts. We have seen payable invoices for non-OEM parts that aren’t being recorded to the correct inventories within accounting, sometimes expensed in error. These can help explain discrepancies as well.
Have an independent parts physical performed. It’s amazing what can be discovered by an independent third party counting and reconciling your parts, and commenting on the conditions of your parts departments. This should be done at least annually as a best business practice, and a perceived safeguard against possible theft within this area. Stealing of parts inventories are among one of the most common events of thefts in automobile dealerships, and more likely than not, it is occurring internally with your employees. Even If you haven’t had inventory discrepancies in the past, it’s a good idea to have these performed.
Take great care in selecting a qualified third party to count, reconcile, & summarize your inventory.
When using a company for independent parts physicals, observe what their procedures are. How are they counting and recording the quantities in bins; are they punching the results to get an accurate total amount for the pad; and most importantly, are they reconciling back to the general ledger. In the statement earlier about parts dollars being higher than the accounting records, these were not being done by the company. The reports given to the dealer after physicals were performed showed no indication that physical amounts were tied out to accounting, nor did they show what was actually done as it pertained to the work performed by this company. The dealer(s) were given summaries that basically mirrored the parts reports prior to the physicals. There was no backup for any of the work performed. In these instances, this indicated that the independent company counted the parts, bins, etc. but didn’t follow up to reconcile to actual, rendering their results unusable.
The above is an extreme example on using a third party, but it did happen to two of our clients, (who had significant overages in physical parts, due to overriding on costs amongst other factors) so we want to make you aware that it does occur.
When researching these companies, talk to other dealers who use them, ask for sample reports, and consult with your automotive CPA firms, if applicable. They generally know many of the companies that perform these services and can assist you in finding qualified third parties to count, reconcile, and summarize your inventories, and hopefully consult with you on best practices.
If a third party is used, ensure that their results and findings are discussed with you and appropriate personnel within your dealership. What should be on their reports include the amounts of write-ins that they had to do, which shows that parts are either in the wrong bins, or they aren’t properly identified within the inventory system. They should be able to identify and report on the aging of the inventories, parts obsolescence, and the general conditions of the department. Their reconciliations and the mechanics behind it should be no different than what was noted above.
Key point: The accounting for your investment in this asset of parts inventories shouldn’t be treated any differently than your cash. Reconciliations should be conducted frequently, and any variances should be addressed immediately with causes determined.
About the Author
Scott Lewis became a CPA and started his career with two privately held automobile dealerships from 1996 – 1998. As one dealership was acquired by AutoNation, Scott acted as a corporate liai-son during that transition period. Scott joined Rosenfield and Company in 1998 and has been with the firm ever since. EMAIL: Scott@rosenfieldandco.com
