A recent case reported in the Automotive News discussed when a parts manager pleaded guilty to ordering parts from the OEM, not stocking them into the dealer’s DMS, and selling them personally on Facebook. Between the parts cost and the FedEx account being used to ship these ‘sales,’ the dealership lost $575,000 in less than four years.1
A similar case occurred in 2009 when a Nebraska parts manager ordered special order parts for body shops but voided the sale invoices once the SOP order went through to the manufacturer. Parts received were set aside and sold on eBay. Total dealership loss: over $280,000 over four years.
I hope you’re thinking the same thing I did. What about an annual physical inventory of parts and the monthly parts pad-to-general ledger reconciliation? Let’s dive deeper into how these two normal operating processes should have halted the scam.
We strongly encourage dealerships to have an outside party perform an annual parts physical inventory and adjust the general ledger accordingly. It’s not something to complete and forget, however – keep track of each year’s result. Are you writing off $50,000 every year? That adds up to huge numbers, as we saw in the cases above. What steps are taken as a result of the write-off – is there any sort of investigation into how this happened? That’s an awful lot of parts to be lost or broken. Keep a spreadsheet to track each year’s adjustment. It goes without saying that large write-offs occurring each year indicate a problem.
While the annual physical is an important tool, the monthly Parts Pad to General Ledger reconciliation has more potential to discover the source of the problem. It is not unusual to see large swings in the difference between accounting and the parts inventory – timing is usually to blame. Parts might receive a stock order on the last day of the month, and their inventory may grow by $30,000. If accounting doesn’t receive the invoice for those parts until the 3rd of the new month, they will close with a lower general ledger balance than parts since they haven’t recorded the newest purchase by month end. Another month may show accounting higher if parts has done a large return to the manufacturer, which hasn’t yet been credited to the parts statement. These ebbs and flows aren’t concerning. A problem is indicated when the difference continues to grow month after month.
Common Reasons for Accounting and Inventory Discrepancies
Here are a few common reasons for large discrepancies between accounting and parts inventory that I’ve observed firsthand:
- Incorrect Allocation of Parts Purchases: This could happen if the parts department doesn’t code accounts on purchases. I’ve seen offices include freight in the inventory account, which is inflating the account balance. Have a stamp made up with lines for each likely account number on parts purchases – parts inventory, miscellaneous inventory (tires, cores, etc.), freight, and discount. The parts manager then fills in the figures for accounting to post.
- Rejected Parts Returns: When a return is created, parts are removed from the pad and, thus parts inventory. Accounting usually doesn’t learn of the return until the credit is received – and they probably don’t know if the return was accepted and paid in full. The parts return could be created to send back 100 items, but if the OEM only receives or accepts 70 items, they will not be paying for the missing parts. The parts department has removed 100 items from the pad, but accounting is posting a credit for only 70. I recommend that parts return documentation be shared with the office for tracking. Create a sub-account for receivables for parts returned to the factory pending credit. Some manufacturers will accept obsolescence returns but at a reduced credit amount. If the manufacturer is paying only 40% of cost for these aged parts, the other 60% still has to be removed from the general ledger. Parts needs to communicate with the office in unusual circumstances like this.
- Negative Quantity on Hand: Often, a part will be billed to a repair company while the part is on backorder, creating a negative count on the pad. When the part is received, it should be stocked on the DMS, thus relieving the negative count, but it could just be handed over to the technician, and the negative value is never removed. If that part is never stocked into the parts pad, accounting will have a higher value, since they are the only side who has recorded the purchase.
- Bulk Oil: Every time your dealership receives an oil delivery, it’s likely the price of the oil has changed. Accounting will record the purchase price at actual cost on the vendor’s invoice – but the parts department will only record the quantity received and may not check the cost associated with the oil’s part number. Your pad value could be significantly impacted in this high turn part if the cost hasn’t been updated in years.
- Emergency Purchases: If you frequently purchase parts from neighboring dealers, you’re paying a markup that will not be reflected on the parts pad, contributing to a higher general ledger balance. When submitting the vendor invoice to accounting, the parts department should code these purchase invoices to match the pad value, and the markup should be coded to the inventory adjustment account, which will be offset against discounts. Non-OEM parts should be recorded on the pad at the actual purchase price.
- Appreciation/Depreciation and Other Adjustments: Every month, the manufacturer will adjust the costs of certain parts. Some may decrease in value, but typically, we see appreciation – parts costs increase, and these updates will provide the net change in the value of inventory. Many dealerships record this monthly, but some choose to wait until year-end, netting it against any possible loss when the parts physical inventory is completed. If your store waits to book appreciation, the parts pad will be higher than accounting – be sure to include the total unrecorded price change on the pad to GL reconciliation. Adjustments after completing the physical inventory are usually held for year-end; this pending adjustment should also be recorded on each monthly reconciliation until it is posted.
- Manual Adjustments: On any given day, authorized parts employees may need to record adjustments to quantities on hand. They may go to a bin to pull a part and find that the part is not on the shelf, although the DMS shows one in stock. So that part will be manually adjusted to remove it from the pad. Accounting should be notified of adjustments like this – not to record in accounting, but to add to the reconciliation. I’d suggest a spreadsheet be kept detailing the part, date, value, and any other details the parts manager can provide. Some manual adjustments are to correct errors when stocking in parts and have no bearing on accounting at all. I’ve seen many cases of a quantity of 10 items being accidentally keyed in as 100. When discovered, there may be a large negative adjustment, such as removing the extra 90 items. This wouldn’t affect the pad-to-GL reconciliation.
- Pending Parts Invoices: Parts counter tickets are similar to open repair orders – parts move off the pad onto an invoice, but the value isn’t deducted from the general ledger until the ticket is closed (paid or added to an accounts receivable balance). These should be reconciling items on the pad to GL rec – but take a deeper look at how old these tickets are. It’s possible these parts were never picked up. The A/R customer may have exceeded their credit limit and tickets were left in pending (but parts were released). I’ve found shop tickets that were never closed, as well as unsettled employee purchases. The parts department should never hand the part and the invoice to a customer and instruct them to pay the cashier at another counter. The customer must return to the counter and show their paid receipt in order to receive the parts they purchased.
- Warranty Adjustments: What happens if parts claimed for warranty repair are rejected? Make sure these items are written off and not simply added back to inventory. I notice many dealerships will hold warranty repair orders open until the claim is paid. I feel this is an unsafe practice, as the warranty administrator could remove parts and labor that is not included in the claim payment. If the parts are gone, they cannot be re-added to inventory. Often, the admin leaves the ticket open to add parts that are essential to the repair but have not been billed out. Ask your administrator how frequently that happens – if the parts department forgets to charge out parts on warranty claims, odds are they’re also forgetting on customer pay and internal work, too.
- Accounting Error: A quick look at the general ledger detail for the month might point to an incorrect account number being used. Look for entries to the inventory account from unusual sources, like New Vehicle Purchases or Payroll. Try sorting the details by dollar amount to look for duplicate postings. Follow up on journal entries affecting parts inventory that aren’t the monthly appreciation/depreciation adjustment.
Spotting Red Flags in Parts Inventory Reconciliation
When accounting compares its figures to the parts managers’, they should be relatively close – typically, a 2-5% variance is considered to be acceptable. Most differences are due to timing; you can expect to see the variance change each month. Sometimes, accounting will be higher. Next month it may be lower. We don’t want to see a variance that grows monthly – for example, accounting inventory exceeds the parts side total by $15,000 this month, next month it’s $22,000, and the following month is $38,000. Something is happening on a consistent basis to drive these two figures further apart.
Most differences will be timing and accounting errors. Could your difference be due to theft? Look carefully at manual adjustments and voided parts invoices. Who has the authority to perform either of these tasks? Spot check large value parts purchases – have they been stocked in on the pad? Is the parts department secured, and who has access? Look at the aging of SOP parts on backorder. Is there an excessive amount of negative quantity on hand items? Match FedEx and UPS fees for outgoing packages to the parts sale.
With literally so many moving parts, this is the most challenging inventory to reconcile. Errors add up quickly, leading to costly year-end adjustments. Need help with your reconciliation? Withum has former controllers and fixed operations directors available to get your reconciliation questions answered. Don’t let the differences in your parts inventory get out of control!
References:
- Former Vt. Dealership employee pleads guilty to mail fraud. Automotive News, 38, June 24, 2024. ↩︎