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MATERIALS MANAGEMENT

Material is one of the five M’s of an industrial organization i.e. men, money, machine, materials
and methods. Materials Management or Integrated Materials Management is concerned with
planning, procuring, preserving, handling, usage and all other related activities of material.

Definition

“Materials management is the management of the flow of materials into an organization to the
point, where, those materials are converted into the firm’s end product(s).”

- Baily & Farmer

Material management, physical distribution management, and logistic management

Materials management refers to the movement of production materials, from the stage of their
acquisition to the stage of their consumption. Physical distribution refers to the distribution of
finished goods to the customers or the users. Physical distribution starts where materials
management ends. Logistic management is a combination of both materials management and
physical distribution management.

SCOPE MATERIALS MANAGEMENT

The scope of ‘materials management’ is very broad which includes –

1. Planning of Materials: Based on the sales forecast and production plans, the materials
planning is done. This involves estimating the requirements of material, preparing
materials budget, forecasting the levels of inventories and scheduling the orders.

2. Purchases of Materials: Purchasing of materials includes selection of sources of

supply, finalization in terms of purchase, placement of purchase orders, follow-up,
maintenance of smooth relations with suppliers, approval of payments to suppliers,
evaluating and rating suppliers.

3. Transportation of Materials: Transportation of material is the another area where

materials management come into picture. It involves transporting the materials from the
source to the manufacturing unit in cost effective manner and with safety.

4. Preservation (Storekeeping) of Materials: This involves physical control of materials,

preservation of stores, minimization of obsolescence and damage through timely disposal
and efficient handling, maintenance of stores records, proper location and stocking.

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 5. Inventory Control: Inventories represent those items, which are either stocked for sale
or they are in the process of manufacturing or they are in the form of materials, which are
yet to be utilized. Thus, an effective control on inventory is a must for smooth and
efficient running of the production cycle with least interruptions.

6. Usage of Material: It involves ensuring that right material is used for the right purpose
by the right person in the right manner with minimum wastage.

7. Inspection of Material: An inspection determines if the material or item is in proper

quantity and condition, and if it conforms to the applicable or specified requirements.
Inspection is generally divided into three categories: (1) Receiving inspection, (2) In-
process inspection, and (3) Final inspection.

Objectives of Materials Management

The main focus of the materials management is to procure right materials in right quantity, at the
right time, bought from right source and at the right prices.

The various objectives of materials management are briefly describe below.

1. Low Prices: Purchasing the materials at least possible prices is the first objective of material
management. If the purchase department reduces the prices of the items it buy, profits can be
enhanced.

2. High Inventory Turnover: When inventories are low, less capital is tied up in inventories.
This in turn, increases the efficiency with which the company’s capital is utilized.

3. Low Cost Acquisition and Possession: If materials are handled and stored efficiently, their
real cost is lower. Acquisition and possession costs are low when the receiving and store
department operate efficiently.

4. Continuity of Supply: Materials management ensures continuity of supply of materials.

When there are disruption in continuity of supply, excess costs are inevitable.

5. Consistency of Quality: Quality of end product depends on materials that go into it. Hence, it
is the objective of the material management to ensure consistency of quality for sustainability of
product.

6. Low Payroll Costs: “Lower the payroll the higher the profits.” This can be achieved through
efficiently management of materials.

7. Favourable Supplier Relations: Maintaining cordial relations with suppliers benefits

buying company in more than one way. Last minutes requirements and cancellation of orders
due to sudden shift in demand for materials is only possible when relations are healthy.
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8. Development of Personnel: “If you want to plan for a year, plant corn. If you want to plan
for 30 years, plant tree. But if you want to plan for 100 years, plant men.” So goes a Chinese
proverb. Every head of department should understand this saying and work for development of
personnel working under him,

9. Good Records: Good records are considered a primary objective of materials management.
Good records, along with will-planned administrative controls and periodic audits, can
discourage corruption.

Importance of Materials Management

The importance of materials management is that it will facilitate the accomplishment of the
following objectives:

1. Lower Prices for Materials and Equipments

2. Faster Inventory Turnover

3. Continuity of Supply

4. Consistency of Quality

5. Reduced Lead Time

6. Reduced Transportation Costs

7. Reduced Material Obsolescence

8. Improved Supplier Relations

PURCHASING

Purchasing is the managerial activity of acquiring goods or services to accomplish goals of an

organization. Organizations appoints purchase manager for buying materials of the right quality,
in the right quantity, at the right time, at the right price and from right source.

Definition

‘Purchasing’ is the act of buying an item at a price.

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OBJECTIVES OF PURCHASING

The objectives of purchasing are –

1. To pay reasonably low prices for the best values obtainable.

2. To keep inventories as low as is consistent with maintaining production.

3. To develop satisfactory sources of supply and maintain good relations with them.

4. To ensure good vendor performance including prompt deliveries and acceptable quality.

5. To locate new materials or products as required.

6. To develop good procedures, together with adequate controls and purchasing policy.

7. To implement such programmes as value analysis, cost analysis, and make-or-buy to the
reduce cost of purchases.

8. To keep top management informed of material development which could affect company
profit or performance.

9. To achieve a high degree of cooperation and coordination with other departments in the
organization.

Purchasing Cycle/Process

1. Recognition of need – The recognition of need refers to the means by which a needed
item is officially brought to the attention of purchasing department. Two procedures are
followed. One involves the issuance of requisitions or demand notes by the user department or
the stores department, the other involves the issuance of a bill of materials.

2. Description of Requirement – The purchase requisition described the required item. In

order to assure complete and accurate information for ordering, the requisition must include all
necessary information in a form that can be readily checked and verified.

3. Selection of Source – After a need has been recognized and described, the purchasing
department proceeds to select the source of supply.

4. Determination of Price and Availability – The next step in purchasing cycle is to secure the
price for the items to be purchased. This may be accomplished in three ways. For standard items,
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vendor’s catalogues and price lists are available and for such items the buyer need only check
current listings to obtain the price. Negotiation is the second method of establishing price.
Negotiation implies bargaining between buyer and seller. Inviting tenders or quotations is the
third method. Inviting tenders is a must in government undertakings.

5. Placing the order: The legal order is placed with the supplier on a form know as a purchase
order.

6. Order Acknowledgement: Some companies insist on order acknowledgement from the

supplier, acknowledging the receipt of purchase orders and agreeing to supply the items stated in
the order.

7. Follow Up and Expediting: Follow up is done to ensure that the items ordered are delivered
by the supplier on time.

8. Checking the Invoice and Approval: The last step in purchasing cycle is to check the
invoice and approve it for payment.

 Blanket Orders- Blanket order is a method wherein the buyer issues an order covering
the requirement of a small item for one year. The order is relevant for one year.
Whenever the stock of the item reaches low, the buyer simply telephones the supplier and
requests him to supply the item against the outstanding blanket order.

 Stockless Buying- Also called ‘system’s contracting’; stockless buying is a special type
of blanket order. It operates on the following lines:

(a) The buyer places a blanket order or a family of items, such as fasteners, at firm prices.

(b) On a telephone call from a buyer, supplier will deliver the item to the inventory area set
aside in the buyer’s plant. The items are still owned by the vendor.

(c) Vendor submits a single invoice monthly for all items supplied.

(d) Buyers makes a single payment for all items used.

(e) Computer prepares a summary report, at regular predetermined intervals, showing the
items and quantities used, for both the buyer’s and vendor’s analysis, planning and re-
stocking.

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Purchasing Policies

The organization can decide its purchasing policies depending its requirements. They are - (a)
ancillarisation, (b) make or buy decision, (c) speculative buying, (d) vendor rating, and (e)
Critical Incidents Method.

1. Ancillary Development

When a company decides to buy a part from outside suppliers, it is usually sub-contracted, in
most cases, the sub contractor is an ancillary unit. Sub-contracting is the situation where a firm
buys a part from outside suppliers.

2. Make-or-Buy

Another purchasing policy relates to the decision involving whether to buy a part or component
from outside or manufacture in own plant.

3. Speculative Buying-

Speculative buying is conducted with the hope of making profit out of price changes.

4. Vendor Rating

It is the process of rating a supplier based on some rating technique.

Rating Techniques-

There are several rating techniques now being used.

-Price

-Discounts received

-Maintenance of specifications

-Promptness of delivery

-Co-operation

-Credit terms, etc.

5. Critical Incidents Method-

Evaluating vendors by this method requires that a record of events and occurrences related to the
buyer-vendor relationship is maintained in each vendor’s file. The data and comments recorded
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should be significant, not trivial. They ought to reflect positive and negative aspects of actual
performance.

Inventory Management and Control

The term ‘inventory’ originates from the French word ‘Inventaire’ and Latin word ‘
Inventairom’, which implies a list of things found.

Definition

The term inventory includes materials- raw, in process, finished goods, spare and others in order
to meet an expected/unexpected demand or distribution in the future.’

Categories of Inventory-

1. Production Inventories - Raw materials, parts, and components which enter the firm’s
product in the production process.

2. MRO Inventories - Maintenance, repair, and operating supplies which are consumed in
the production process but which do not become part of the product.(eg. , lubricating oil,
soap, machine repair parts, etc.).

3. In-process Inventories - Semi finished products found at various stages in the

production operation.

4. Finished Goods Inventories - Completed products ready for shipment.

Objectives of Inventory Management

1. Ensure a continuous supply raw materials and supplies to facilitate uninterrupted

production.

2. Maintain sufficient finished goods for smooth sales operation and efficient customer
service.

3. Inventories permit the procurement of raw materials in economic lot sizes as well as
processing of these raw materials into finished goods is the most economical quantity
known as “economic lot size”.

4. Reduce dependencies of one another and enable, the organizations to schedule its
operations independently of another.

5. Helps to reduce material handling costs.

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 6. Helps to utilize people and equipment reasonably.

7. It facilitates product display and service to customers.

Inventory Management and Control

Inventory management

Inventory management involves the ‘development and administration of policies, systems and
procedures which will minimize total costs relative to inventory decisions and related functions
such as customer service requirements, production scheduling, purchasing and traffic.

Inventory control

Inventory control pertains primarily to the administration to establish policies, systems and
procedures. For example, the actual steps taken to maintain the stock levels or stock records refer
to inventory control.

Factors Influencing Inventory Managements and Control

 Type of product

 Type of manufacture

 Volume of production

Benefits of Inventory Management and Control

 Inventory control ensures an adequate supply of materials, stores, etc., minimizes stock
outs and shortages, and avoids costly interruptions in operations.

 It keeps down investment in inventories, inventory carrying costs and obsolescence loses
to the minimum.

 It facilitates purchasing economies through the measurement of requirements on the basis

of recorded experience.

 It eliminates duplication in ordering or in replenishing stocks by centralizing the source

from which purchase requisitions emanate.

 It permits a better utilization of available stocks by facilitating inter-department transfers

within a company.

 It provides a check against the loss of materials through carelessness or pilferage.

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  It facilitates cost accounting activities by providing a means for allocating material costs
to products, departments or other operating accounts.

 It enables management to make cost and consumption comparisons between operations

and periods.

 It serves as a means for the location and disposition of inactive and obsolete items of
stores.

 Perpetual inventory values provide a consistent and reliable basis for preparing financial
statements.

Process of Inventory Management and Control

1. Determination of Optimum Inventory Levels - Determination of inventory that an

organization should hold is a significant. Too much of inventory results in locking up of
working capital accompanied by increased carrying costs. Excess inventories, however,
guarantee uninterrupted supply of materials and components, to meet production
schedules and finished goods to meet customers demand. Too less of inventory releases
working capital for alternative uses and reduces carrying costs and increases ordering
costs. But there is the risk of stock out costs.

2. 2. Determination of Degree of Control - The second aspect of inventory management is

to decide just how much control is needed to realize the objectives of inventory
management. The difficulty is best overcome by classification of inventory on the basis
of value. Popularly called the ABC classification, this approach is useful in deciding the
degree of control.

3. 3. Planning and Design of the Inventory System - An inventory system provides the
organizational structure and the operating policies for maintain and controlling goods to
be inventoried. The system is responsible for ordering and receipt of goods, timing of the
order placement, and keeping track of what has been ordered, how much, and from
whom.

Economic Order Quantity(EOQ)

Economic Order Quantity(EOQ) is the level of inventory order of which inventory cost is
minimum. EOQ or Q Opt (Optimum Quantity) is the order size at which the total cost,
comprising ordering cost and plus carrying cost, is the least.

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Assumptions

1. Demand for the product is constant and uniform throughout the period

2. Lead time (time from ordering to receipt) constant,

3. Price per unit of product is constant,

4. Inventory holding cost is based on average inventory,

5. Ordering costs are constant, and

6. All demands for the product will be satisfied (no back orders are allowed).

Weakness of EOQ Formula-

1. Erratic Usages - The formulae used for determining EOQ assume that usage of materials
is both predictable and evenly distributed. When this is not the case, the formulae are
useless.

2. Faulty Basic Information - EOQ calculations are only as accurate as the order cost and
carrying cost information in which they are based. It is no easy job to calculate order cost.
In practice, order cost varies from commodity to commodity. Carrying cost can vary with
the company’s opportunity cost of capital.

3. Costly Calculations - It is not easy job to estimate cost of possession accurately. This
requires hours of work by skilled cost accountants. Actual calculation of EOQ can be
time-consuming even when the simple formulae for steady usage are used.

4. No, formula is substitute for commonsense.

How to calculate EOQ or Q

EOQ or Q = √2DS
H

Where –
D = Annual Demand
S = Per Order Cost
H = Holding or Carrying cost per unit annually

Q – Quantity
Average Inventory = Q
2

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Holding/Carrying Cost = Average Inventory × Per Unit Cost

Total Number of Orders = Annual Demand ÷ Quantity of Order

Total ordering cost for the year = Total Orders × Per Order Cost

Total Cost = Total Holding/Carrying Cost + Total Ordering Cost [ if the price of inventory is
not given]

Total Cost = Price of Total Inventory + Total Holding/Carrying Cost + Total Ordering Cost
[if the price of inventory is given]

Question 1 A company requires 4000 units of a raw material annually to produce

certain goods. Its cost per order is 100. Its carrying cost is Rs 5 per unit
annually. Calculate

(a) the economic order size,

(b) total orders required in a year,
(c) total carrying cost and
(d) total ordering cost for the year.

Solution:

Given –
1. Annual Demand (D) = 4000
2. Per Order Cost (S) = Rs 100
3. Carrying (Holding) = Rs 5
cost per unit annually

(a) Economic Order Size = √2DS

H

= √2 × 4000 × 100
5

= 400 Ans

(b) Total Orders Required = Annual Demand ÷ Quantity of Order

in a Year = 4000 ÷ 400
= 10 Ans

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(c) Total Carrying Cost = Average Inventory × Per Unit Cost
= 400 × 5
2
= Rs 1000 Ans

(d) Total Ordering Cost for = Total Orders × Per Order Cost
the Year = 10 × 100
= Rs 1000 Ans

Question 2 Compute the EOQ for the following data:

No. of units bought at a time Price per unit

Less than 1000 Rs 10.00

1000 to 2999 Rs 09.85

3000 and more Rs 09.70

The order cost is Rs 60 and the carrying cost is 20% of the price. The total
requirement for one year is 10000 units.

Solution:

Given –
1. Annual Demand (D) = 10000
2. Per Order Cost (S) = Rs 60
3. Carrying cost per = Rs (20% of unit price)
unit annually

(a) EOQ for Unit price Rs 10.00 = √2DS

H (20% of unit price)

= √2 × 10000 × 60
10 × 20%

= 775 Ans

(b) EOQ for Unit price Rs 09.85 = √2DS

H (20% of unit price)

= √2 × 10000 × 60
09.85 × 20%
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 = 781 Ans

(c) EOQ for Unit price Rs 09.70 = √2DS

H (20% of unit price)

= √2 × 10000 × 60
09.70 × 20%

= 786 Ans

Lead-time

Lead-time is the time taken to receive the delivery after placing order with the supplier. In other
words, the number of days required to receive the inventory from the date of placing order. Lead
time also called as procurement time of inventory.

Reorder Level

Reorder level is that level of inventory at which an order should be placed for replenishing the
current stock of inventory. Generally the order level lies between minimum stock level and
maximum stock level.

Re-order point = Lead Time (in days) x Average daily usage + Safety Stock

The above formula is based on the assumption that consistent daily usage and fixed lead-time.

ABC Analysis

ABC analysis is the technique for control of inventories. The objective of ABC control is to vary
the expenses associated with maintaining appropriate control according to the potential savings
associated with a proper level of such control. H. Ford Dickie, developed the general concept of
ABC analysis.

For example, an item having an inventory cost of Rs. 1,00,000 such as sheet steel, has a much
greater potential for saving expenses related to maintaining inventories than an item with a cost
of Rs. 100. The ABC approach is a means of categorizing inventory items into three classes ‘A’,
‘B’ and ‘C’ according to the potential amount to be controlled.

Once inventory is classified, we have a firm base for deciding where we will put our effort.
Logically, we expect to maintain strong controls over the ‘A’ items taking whatever special
actions needed to maintain availability of these items and hold stocks at the lowest possible
levels consistent with meeting demands. At the other end of the scale, we cannot afford the
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expense of rigid controls, frequent ordering, expediting, etc., because of the low amounts in this
area. Thus, with the ‘C’ group we may maintain somewhat higher safety stocks, order more
months of supply, expect lower levels of customer service, or all the three. It is this for selective
approach, ABC analysis is often called the Selective Inventory Control Method(SIM).

Procedure for developing ABC analysis-

1. List each item carried in inventory by number or some other designation.

2. Determine the annual volume of usage and rupee value of each item.

3. Multiply each item’s annual volume of usage by its rupee value.

4. Compute each item’s percentage of the total inventory in terms of annual usage in rupees.

5. Select the top 10% of all items which have the highest rupee percentages and classify
them as ‘A’ items.

6. Select the next 20% of all items with the next highest rupee percentages and designate
them ‘B’ items.

7. The next 70% of all items with the lowest rupee percentages are ‘C’ items.

Policy Guidelines for Establishing ABC Category Items

A Items B items C Items

1. Very strict control. 1. Moderate control. 1. Loose control.

2. No, safety stocks (or very 2. Low safety stocks 2. High safety stocks
low)

3. Frequent ordering or 3. Once in 3 months 3. Bulk ordering once in 6

weekly deliveries months

4. Weekly control 4. Monthly control 4. Quarterly reports

statements statements

5. Maximum follow up and 5. Periodic follow up 5. Follow up in exceptional

expediting cases

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6. Rigorous value analysis 6. Moderate value analysis 6. Minimum value analysis

7. As many sources as 7. Two or more reliable 7. Two sources of each item

possible for each item sources

8. Accurate forecast in 8. Estimates based on past 8. Rough estimates

materials planning data

9. Minimization of waste, 9. Quarterly review 9. Annual review

obsolete, and surplus

10. Individual postings 10. Small group postings 10. Group postings

11. Central purchasing and 11. Combination purchases 11. Decentralized

storage purchasing

12. Maximum efforts to 12. Moderate 12. Minimum efforts

reduce lead time

13. To be handled by senior 13. To be handled by middle 13. Can be fully delegated
officers management

Stock Keeping

The activity of ensuring the right quantity of inventories for production as well as for sale that a
business has at a particular time is stock keeping. The activity of stock keeping is ensured
through proper stores management.

Stores are building where inventories are kept and storage is the function of receiving, storing,
and issuing materials. With proper management and coordination particularly with purchasing,
receiving and inspection, storage can contribute to effective operations.

Functions of Stores

• To receive raw materials and account for them.

• To provide adequate and proper storage and preservation to the various items.

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 • To meet the demands of the consuming departments by proper issues and account for the
consumption.

• To minimize obsolescence, surplus and scrap through proper codification, preservation

and handling.

• To highlight stock accumulation, discrepancies and abnormal consumption and effect

control measures.

• To ensure good housekeeping so that materials handling, materials preservation,

stocking, receipt and issue can be done adequately to assist in verification and provide
supporting information for effective purchase action.

• To receive raw materials and account for them.

• To provide adequate and proper storage and preservation to the various items.

• To meet the demands of the consuming departments by proper issues and account for the
consumption.

• To minimize obsolescence, surplus and scrap through proper codification, preservation

and handling.

• To highlight stock accumulation, discrepancies and abnormal consumption and effect

control measures.

• To ensure good housekeeping so that materials handling, materials preservation,

stocking, receipt and issue can be done adequately to assist in verification and provide
supporting information for effective purchase action.

Operations related to Store Management

1. Receiving and inspection

2. Issue and dispatch

3. Stock Records

4. Stores Accounting

5. Stock taking and checking- It is essential in order to verify the records with the actual
count. Stock-taking is either continuous or periodic. Each item should be physically
verified at least once in a year.

6. Stores preservation

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Stores Arrangement-

Proper arrangement and documentation of the storage spaces and storage facilities is helpful in
getting materials for production on time as requisitioned from the stores.

The important features of a good stores arrangement are:

1. Correct knowledge of which particular item exists where

2. Easy accessibility of the items

3. Easy movement of the materials-handling equipment and men

4. Proper utilization of the available store space

5. Minimum spoilage of the materials in store.

Stores Manual

Stores manual is a written statement of policies and procedures. It spells out responsibilities and
authority of store-keeping, standardizing store-keeping activities and stimulating new ideas and
suggestions for improving and streamlining storage operations.

Measurement of Stores Efficiency

Stores efficiency is judged by measuring the performance of the store-keeper. The store-keeper’s
performance can be measured through:

1. Quantitative Techniques

(a) Stores Efficiency Index = No. of requisitions delivered on time

Total number of requirements

Value of inventory lost due to

(b) Storage Loss Index = Deterioration, obsolescence and pilferage
Average value of inventory

(c) Obsolescence Index = Value of non-moving items

Total inventory value

(d) Space Utilization Index = Area used for storage

Total storage area available

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2. Subjective Measurement

Subjective measurement is done through such factors as stock-out situation, reducing

non-moving items, checking of records maintained, hose-keeping, etc.

Stock Verification

The store management system is operated by people, and people do commit mistakes. For
this reason, every inventory item should be physically counted and checked against its book
balance at least once in a year. The books are subsequently adjusted to match the actual count.
Stock verification can be conducted in one of the three ways-

1. Low point inventory

2. Continuous inventory

3. Fixed annual inventory

1. Low Point Inventory- Under this method companies take physical inventory when the stock
is lowest, irrespective of the period. The low point approach minimizes the item required for
actual inventory work because of the small quantities of materials involved.

2. Continuous Inventory Approach- In some companies separate staff are appointed for the
purpose of continuous stock taking. This approach has three advantages. It can be planned and
worked into scheduled activities without a shutdown. Secondly, there is a possibility of detecting
and eliminating causes for discrepancies without allowing them to continue throughout the year.
Finally this approach facilitates efficient utilization of stores personnel. This approach involves
extra cost and only very large companies can afford it.

3. Fixed or Periodic Inventory- In this approach, inventory is taken once a year, generally
coinciding with the financial year. This approach is ideal for seasonal businesses.

Classification and codification

Good store keeping requires proper classification and codification of various items stored in
stock. The advantages of proper classification and codification as follows-

1. Systematic grouping of similar items for correct identification of each and every item.

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 2. Avoids duplicate stocks of same item being held under different names, description,
brand names, part number and different stores.

3. Enables reduction in sizes and varieties.

4. Helps in standardization of materials and helps in finding substitutes.

5. To arrange bin cards and records in stores, accounts and inventory control sections in the
same uniform manner.

6. Ensures accuracy in correspondence, records and posting of receipts and issues in

appropriate records.

Methods of Classification and Codification

Stores are generally classified on the basis of their nature and usage, the former being the most
common method used. Based on nature, stores are classified into specific groups which are -

1. Raw materials

2. Consumable stores

3. Tools

4. Work-in-process

5. Hardware

6. Components

7. Spare parts

8. Packing materials

9. Finished goods

10. Motors, etc.

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