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MATERIAL

Direct material: These are the materials which can be conveniently identified with and
allocated to cost units. Direct materials generally become part of the finished product.
For example, cotton used in a textile mill, timber used in furniture, etc.
Indirect materials: these are those materials, which cannot be conveniently identified
with individual cost units. These are minor in importance, such as lubricating oil, soap,
coal, nuts and bolts, etc.

Material or inventory control:


Materials control involves efficient functioning of the following operations:
(i) Purchasing of materials.
(ii) Receiving of materials
(iii) Inspection of materials.
(iv) Storage of materials
(v) Issuing of materials.
(vi) Maintenance of inventory records.
(vii) Stock audit.
Control methods
Various methods of material control:
Material control methods

ABC analysis Stock levels Economic order quantity Perpetual inventory


system
ABC analysis (selective control)
In this technique, materials are classified according to their value so that costly and more
valuable materials are given greater attention.
‘A’ Items: these are high value items, which may consist of only a small percentage of
the total items handled. On account of their high cost, these materials should be under
the tightest control and the responsibility of the most experienced personnel.
‘B’ Items: These are medium value materials, which should be under the normal control
procedures.
‘C’ Items: These are low value materials, which may represent a very large number of
items. These materials should be under the simple and economic methods of control.
The point of classifying stock by ABC categories is to ensure that material management
focuses on A items where sophisticated controls should be installed. B items may be
given less attention and C items given the least attention.

STOCK LEVELS
Maximum levels:
Formula:
Maximum level = re-order Level (+) re-order quantity (–) (minimum consumption
X minimum re-order-period)
Minimum level: safety stock + Demand in lead time
Formula:
Minimum level = re-order level (–) (average/normal consumption
X (average/normal re order period)
Re-order level or ordering level:
Formula:

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Re-order level = maximum consumption X maximum re-order period

Danger level:
Formula:
Danger level = normal consumption X maximum re-order period for
emergency purchases

Average stock level : This is computed by one of the following two methods.

Average stock level = ½ (minimum level + maximum level)


Alternatively = minimum level + ½ (re-order quantity)

Economic order quantity (Re-order quantity)


It refers to the size of the order which gives maximum economy in purchasing of
material.
It is the quantity for which order is placed when materials are to be purchases. Economic
order quantity (EOQ) minimizes the combined annual cost of
(i) Placing orders (ii) holding stocks and (iii) purchase price.

Ordering cost: it mainly includes cost of stationery, salaries of those engaged in


receiving and inspecting, salaries of those engaged in preparing the purchase orders,
etc.

Cost of carrying or holding (storage cost) : This includes the cost of storekeeping,
interest on capital locked up in stores, the incidence of insurance cost, risk of
obsolescence, deterioration and wastage of materials, evaporation, etc.

Methods to determine EOQ:


1. Formula method
2. Tabular method
Formula method:
EOQ = 2xUXP
S
Where EOQ = Economic order quantity
U = Annual usage, demand, consumption, requirement, needs of material (in
Units)
P = Ordering cost per order;
S = Storage, stock holding, carrying cost per unit per annum.
(% of carrying cost x cost of one unit)

No. of orders per year = Annual consumption


EOQ, ROQ, order size

Time between two consecutive orders = 12 month, 365 days, 360 days
No. of order per year

Purchase cost: Annual demand X purchase price/cost per unit

Ordering cost : No. of order X cost per order

Carrying cost: EOQ/ROQ/Order size X carrying cost per unit per annum

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2
CODIFICATION OF MATERIALS
Names and descriptions of materials are often long and vague. In order to avoid length
and ambiguity in description and names of materials, a symbol may be assigned to each
item of material, which is known as code. Codification is the procedure of systematic
assignment of symbols or codes for each item of store, such codes may be either
numeric, alphabetic or a combination of numerical and alphabetical symbols.

PURCHASE PROCEDURE
Steps: Assuming there is a separate purchase department, the following are the
important steps in purchase procedure:
1. Purchase Requisition Note: It is a formal request to the purchase department to
buy material specified therein.
2. Selection of Suppliers: Suppliers is chosen after market investigation and inviting
tenders.
3. Purchase Order: After selecting supplier, order is placed at agreed price and terms
of purchase.
4. Receipt of materials: When purchased materials are received, these are subjected
to inspection and quality testing. A document known as goods Received Note is
prepared to record materials received, accepted and rejected.
5. Payment: After comparing purchase order and other documents, payment is made
to
the suppliers as per the agreed terms.

STORES RECORDS
1. Bin Card: This is maintained by the storekeeper to record up to date quantity of
each material in stock. It does not record the value of material. It is a perpetual
inventory record.
2. Store Ledger: This record gives the same information regarding stores as bin card
and in addition it gives the money values of materials. Separate ledger folios are
maintained in it for each item of material. The stores ledger is maintained in the cost
accounting department. Balance quantity of each material as per stores ledger
should be the same as shown by bin card.
3. Stores Requisition Note: It is a document which is used to authorise and record
the issue of materials form store. The storekeeper should issue materials on the
presentation duly authorised stores requisition note.
4. Bill of Materials: It is a master requisition which lists all the materials required for
the completion of a job. So , a bill of materials is a special form of stores requisition
note which is generally used by departments having standard material requirements
or a comparatively fixed list of materials.
5. Material Transfer Note: Materials may have to be sometimes transferred form one
job to another. When such transfers are permitted, these should be supported by
Material Transfer Notes.

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INVENTROY SYTEMS
There are mainly two inventory systems viz., Periodic Inventory system and Perpetual
Inventory system.
Periodic Inventory System: Under this system, stock-taking is undertaken at the end of
the accounting year. As the stock-taking involves verifying the physical quantities of
stores in hand.
Perpetual Inventory System: This is a stock recording system which provides an upto
date record of the stock balances held at any given time. All movements of materials
must be immediately recorded so that ledger and bin card give upto date information
about the balance in store. Perpetual inventory system involves the following:
1. Reconciliation of Bin card and Stores Ledger.
2. Continuous stock-taking i.e. physical checking of stock items is done regularly.
Sufficient items are checked every day so that in the course of a year, all items are
checked at least once.

MEHODS OF PRICING MATERIAL ISSUES


There are a number of methods of pricing material issues. Some of the common
methods are as follows:
1. First in first out (FIFO): This method assumes that materials received first are issued
first.
2. Last in first out (LIFO): This method operates in just reverse order of FIFO method. It
is based on the assumption that the last purchased materials are the materials
issued first.
3. Simple average price: It is calculate by adding all the different prices of materials in
stock and dividing by the number of prices used in that total. This method does not
take into account the quantities of materials while calculating the average.
4. Weighted average price: This method gives due weight to the quantities held at each
price when calculating the average price. The weighted average prices is calculated
by dividing the total cost of materials in stock by the total quantity of material in that
stock. The simple formula is that weighted average price at any time is the balance
value figure divided by the balance units figure.

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5 Bhupendra jain; 9811255704
MATERIAL LOSSES
Material losses are classified into two categories - normal and abnormal.
Normal losses: This is that type of loss which has necessarily to be incurred and thus is
unavoidable. For example - loss by evaporation of liquid materials, loss due to loading
and unloading of materials, etc. It is a principle of costing that all such losses are borne
by good output.
Abnormal loss: This type of loss arises due to abnormal reasons like inefficiency, theft,
fire accident, breakage, etc. Abnormal losses are charged to Costing Profit and Loss
Account.

Forms of Materials Losses


1. Waste: It is defined as “that portion of a basic raw material lost in processing, having
no recovery value.” Waste may be visible or invisible. Visible waste is that which is
physically present, e.g. ash, saw dust, etc. Invisible waste, on the other hand, is the
disappearance of basic raw material in the form of smoke, evaporation, etc.

2. Scrap: This is defined as “the incidental residue from certain types of manufacture,
usually of small amount and low value, recoverable without further processing.” The
features of scrap are as follows:
(a) Scrap is incidentally produced form the manufacturing process.
(a) Scrap is usually of small value.
(c) Unlike waste, scrap is always physically available.
Examples of scrap are trimmings in timber industries; cuttings, pieces, etc.

3. Spoiled: Spoiled Work results when products are damaged in manufacturing


operations in such a way that they cannot be rectified and brought back to normal
specifications.

4. Defectives: Defective work may define as that production which is below standard
specification or quality and can be rectified by incurring additional expenditure known as
rectification costs. The main difference between spoilage and defective is that whereas
the former cannot be rectified and sold as good units, the latter can be rectified by
incurring additional costs and brought back to the level of standard quality.

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Q. 1- The annual demand of material is 1,600 units. The unit cost is Rs. 6 and inventory-
carrying cost is 25% per annum. If the cost of one order is Rs. 75, determine:
(a) Economic order Quantity
(b) No. of order per year
(c) Time between two consecutive orders. [Ans. a - 400 unit, b – 4 order, c – 3
month]

Q. 2 - from the following information, calculates economic order quantity and the number
of orders to be placed in one quarter of the year.
(i) Quarterly consumption of material 2000 kg
(ii) cost of placing one order Rs. 50
(iii) cost per unit Rs.40
(iv) Storage and carrying cost 8% of average inventory.
[Ans. 500 kg

, 4 order]

Q.3 – A manufacturer buy certain equipment from outside supplier at Rs. 30 per unit.
Total annual needs are 800 units.
The following further data are available;
Annual return on investment 10%
Rent, taxes, insurance per unit, per year Rs. 1
Cost of placing an order Rs. 100
Determine EOQ & No. order in a year. [Ans. 200 units, 4 order]

Q. 4- About 50 items are required ever day for a machine. A fixed cost of Rs. 50 per
order is incurred for placing an order. The inventory carrying cost per item amounts to
Rs. 0.02 per day. The lead period is 32 days. Compute:
i. Economic Order Quantity
ii. Re-order Level. [Ans. 500 units; 1,600 units]

Q. 5- Two components X and Y are used as follows:


Normal usage – 600 units per week each
Maximum usage – 900 units per week each
Minimum usage – 300 units per week each
Re-order quantity – X 4,800 units, Y 7,200 units
Re-order period – X 4 to 6 weeks, Y 2 to 4 weeks
Calculate for each component:
(a) Re-order level (b) Minimum level
(c) Maximum level (c
D
) Average stock level

7 Bhupendra jain; 9811255704


Q. 6- In manufacturing its products, a company used three raw materials A, B and C in
respect of which the following apply:
Raw Usage /unit Re-order Price / Delivery Order Min. level
materials of product quantity kg. period level
Kg. kg Re. weekly Kg kg
A 10 10,000 .10 1 TO 3 8,000 -
B 4 5,000 .30 3 TO 5 4,750 -
C 6 10,000 .15 2 TO 4 - 2,000

Weekly production varies from 175 to 225 units, averaging 200. What would you expect
the quantities of the following to be:
(i) Minimum stock level of A (ii) Maximum stock level of B
(iii) Re-order level of C (iv) Average stock level of A
[Ans. 4,000 Kg.; 7,650 Kg.; 5,400 Kg.; 9,000 Kg.]

Q. 7- from the details given below calculate:


(i) Re-ordering level (ii) Maximum level
(iii) Minimum level (iv) Danger level
Re-ordering quantity is to be calculated on the basis of following information:
Cost of placing a purchase order is Rs. 20
Number of units to be purchased during the year is 5,000
Purchase price per unit inclusive of transportation cost is Rs. 50
Annual cost of storage per unit is Rs. 5
Details of lead time: average 10 days, maximum 15 days, minimum 6 days,
for emergency purchase 4 days.
Rate of consumption: average 15 units per day, maximum: 20 units per day.
[Ans. 300; 440; 150; 60units]
Q. 8- Medical aid co. manufactures a special product “AID”. The following particulars
were collected for the year 1998:
(a) Monthly demand of AID 1,000 units
(b) Cost of placing an order Rs. 100
(c) Annual carrying cost per unit Rs 15
(d) Normal usage 50 units per week.
(e) Minimum usage 25 units per weed

(f) maximum usage 75 units per week


(g) re-order usage 4 to 6 week
compute from the above :
(1) re-order quantity (2) re-order level (3) minimum level (4) maximum level
(5) average stock level. [Ans. 186; 450; 200; 536;
368 units]

8 Bhupendra jain; 9811255704


Q. 9- The purchase department of your organization has received an offer of quantity
discounts on its order of materials as under:
Price per tonne (Rs.) Tonnes
1,400 less than 500
1,380 500 and less than 1,000
1,360 1,000 and less than 2,000
1,340 2,000 and less than 3,000
1,320 3,000 and above
The annual requirement for the material is 5,000 tonnes. The delivery cost per order is
Rs. 1,200 and the stockholding cost is estimated at 20% of material cost per annum.
You are required to advise the purchase department the most economical purchase
level.
The purchase quantity options to be considered are 400 tonnes, 500 tonnes, 1,000
tonnes, 2,000 tonnes and 3,000 tonnes

If company implements JIT then company purchase 500 units in single order.
Rate of return @ 10%.
Whether JIT adopted by company or not.

(b) what will be the answer to the above question if there are no discounts offered and
price per tonne is Rs. 1,500? [Ans.
1,000 units ; 200 units]

Q. 10- Following information relating to a type of raw material is available:


Annual demand 2,400 units
Unit price Rs. 2.40
Ordering cost per order Rs. 4.00
Storage cost 2% per annum
Interest rate 10% per annum
Lead time Half month
Calculate EOQ, and total annual inventory cost in respect of the particular raw material.
[Ans. EOQ – 258 units; Inventory cost –
5,834]

Q. 11 - A firm is able to obtain quantity discounts on its orders of material as follows:


Price per tonne(Rs.) Tonnes
6.00 less than 250
5.90 250 and less than 800
5.80 800and less than 2,000
5.70 2,000 and less than 4,000
5.60 4,000 and over.
The annual demand for the material is 4,000 tonnes. Stock holding costs are 20% of
material cost per annum. The delivery cost per order is Rs. 6. You are required to

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calculate the best quantity to order.
[Ans. 800 tonnes]

Q. 12 - Zee is a product manufactured out of three raw materials M.N and O. Each unit
of Zee requires 10 kg., 8 kg and 6 kg of M, N and O respectively. The re-order levels of
M and N are 15,000 kg and 10,000 kg respectively while minimum level of O is 2,500 kg.
The weekly production of Zee varies from 300 to 500 units while weekly average
production is 400 units. You are requires to compute
(i) Minimum stock level of M.
(ii) Maximum stock level of N; and
(iii) Reorder level of O.

The following additional data is given


M N O
Re-order quantity (in kg) 20,000 15,000 20,000
Delivery (in weeks)
Minimum 2 4 3
Average 3 5 4
Maximum 4 6 5
[Ans. 3,000 kg, 15,400 kg and 15,000 kg]

Q.13 - Two components, A and B are used as follows:


Normal usage 50 units per week each
Minimum usage 25 units per week each
Maximum usage 75 units per week each
Re-order quantity A:300 units; B: 500 units
Re-order period A: 4 to 6 weeks; B: 2 to 4 weeks.

Calculate for each component: (a) Re-order level, (b) Minimum level, (c) Maximum level,
and
(d) Average stock level.

Q.14 - Calculate the Minimum stock level, Maximum stock level and Re-ordering level
from the following information:
(a) Minimum consumption = 100 units per day
(b) Maximum consumption = 150 units per day
(c) Normal consumption = 120 units per day
(d) Re-order period = 10 to 15 days
(e) Re-order quantity = 1,500 units
(f) Normal re-order period = 12 days. [Ans. 810, 2,750 and 2,250
units]

10 Bhupendra jain; 9811255704


A. Ltd. produces a product, which has a monthly demand of 2,000 units. The product
requires a component X which is purchased at Rs. 20. For every finished product, two
unit of component is required. The ordering cost is Rs. 120 per order and the holding
cost is 10% p.a. You are required to calculate:
• EOQ.
• If the minimum lot size to be supplied is 4,000 units, what is the extra cost, the
company has to incur?
• What is the minimum carrying cost, the company has to incur?

ABC analysis is that technique of material control in which we divide our material into
three categories and investment is done according to the value and nature of that
category’s materials. After this, we control of material according to their level of
investment. We need not to control all the categories but we have to control those
materials which are in a category.

A category materials and its control

In these category materials, we include 10% of total material, but its cost will be high, so
its investment requirement will also be very high and it may be 70% of total investment in
inventory. Store keeper should make safe these materials from any wastage, because its
price or demand is very high. Store keeper also keeps its economic order quantity and
tries to decrease misuse of money in this category.

A category which will also require special attention due to the “large amount of money”
they represent. A small “mistake” in managing the few A Category materials may cost a
lot to your company.

B category materials and its control

In this category, there are many normal materials can be included which are needed for
production. Store keeper can classify 20% of material and we need 20% of total
investment in this type of inventory for buying. But its control is also necessary, because
without this, production may be delay. So, store keeper should not ignore its control and
for continuing supply, storekeeper should maintain its minimum, maximum and re-order
level.

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C category materials and its control

There is no need to control this type of material but normal care is needed for keeping
this material in right position before using it for production. Its quantity is of 70% of total
quantity but cost is 10% of total investment in inventory. So, overstocking can increase
store cost and interest on capital. So, purchase should be in hand.

12 Bhupendra jain; 9811255704

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