MATERIALINVENTORY CONTROL

No cost accounting system can become effective without proper and eficient control ot
materials. This is so because quite often material is the largest single element of cost and as such
an efficient system of material control leads to a significant economy in the total cost. Material is
as much cash as cash itself and any theft, waste and excessive use of materials are immediate and
direct financial losses.
Meaning and Definitions:
Material or inventory control may be defined as "Systematic control and regulation of
purchase, storage and usage of materials in such a way s o as to maintain a n e v e n flow of
production and at the same time avoiding excessive investment in inventories. Efficient
material control cuts out losses and wastes of materials that otherwise pass unnoticed."
Thus an efficient system of material control should be comprehensive enough to cover purchase
system, storage system, issue to production and determining stock levels for each item of material.
OBJECTIVES OF MATERIAL OR NVENTORY CONTROL
of
The main objectives material control are discussed below:
1, No under-stocking: Under-stocking may leads to shortage of materials. Shortage of
and production may then he held
material may arise at a time when they are urgently needed
The delay or shortage in production due to non availability
of
materials is very costly and results
in
maintaining no under-stocking.
in loss of profits. Thus, material control system heips
2. No Over-stocking : Investment in materials must be kept as low as possible considering
the production requirements and thetinancial
resources otthe business. Over-stocking of materials
costs unereoy resulting in adverse effect on profits This
locks up capital and causes high storage
obsolescence.
nay als0 result in loss due to
materials is
3. Economy in Purchasing: The purchasing ot the highly specialised finction R.

purchasing materials at the most favourable prices purchaser is able to make a

Contribution to the reduction in cost.
4. Material ofGood Quality : While purchasingmaterials,due consideration should be given
to the auality of material. It is no use purcnas nerlals of inferior quality or very superior
quality. For each type of product, there is a particular type quality of material which is needed and
hat quality alone should be purchased.
46
SBPD Publications Cost
Accounting
Minimum Wastage : In order to minimise the loss on material, proper storage conditions
Deprovided to different types of materials. Losses of materials occur due to determination,
C e n c e , pilferage and theft, evaporation, etc. All round efforts should be made to keep these
loRses at the minimum.
6. Inforination about Materials : Not only that materials should be available when required,
but there should also be a system to givecomplete and up-to-date accounting information about the
information about availability of materials may
a Dty ot
materials. Sometimes inadequate
Cause new purchases to be made of materials already in stock.
of the above of material require keeping of proper material
control will
The
ecords. The hsta of all maternalsobjectives
ulfilment and stores required by a firm for the production should be drawn
figures. Also the lead time for each ofitem has to be
p together with atleast weekly consumption minimum quantity required each item in
detemined, whih will enable a firm to ascertain the of stock at any point of time to ensure that
stock. It is also necessary to fix the m a x i m u m quantityobsolescence is minimised.Use of ABC analysis
is not locked up unnecessarily and the risk of
capital
and EOQ formula can be of grea help in this regard.
INVENTORY CONTROL
ESSENTIAL REQUIREMENT OF
material control system
The the essential requirements of a successful
following are

1There should be proper coordination in all

concerned departments, such as, production
department, storage and
department. purchasing department, receiving department, inspection
accounting department, etc.
and expert
2 There should be central purchasing department under the control of a competent
purchase manager.
3 There should be proper classification and codification of materials.
4 Perpetual inventory system should be operated so
that up-to- date information is available
about the quantity of material in stock.
5 Adequate records should be introduced to control materials during
production and the
quantities manufactured for stock.
in
6 materials, supplies and equipment to ensure economy
Preparation of budgets concerning
purchasing and use of materials.

7. Materials requirements should be properly planned.

8 The storage of all materials should be well pianned subject to adequate safeguards and

superison.
maximum stock level, etc. should be fixed
9. The various stock levels like minimum stock level,
for each item of material.
internal check should be operated so that all
10. An efficient system of internal audit and
transactions involving materials are checked by reliable and independent persons.
issues and stock of
11. There should be regular reporting to management regarding purchase,
obsolete item, spoilage, returns to suppliers, ete.
materials. Special reports should be prepared for
scoPE OF MATERIAL CONTROL
The following activities are incorporated under material control system:
A. Techniques of Material Control:
(a) ABC Analysis
(b) Determination of stock levels
(c) Economic Order Quantity (EOQ) Analysis
(d) Perpetual Inventory System
(e) Periodic Annual Inventory Control System
(VED Analysis
B. Purchase of Materials
C. Storing of Materials
D. Iseue of Materiala,
TECHNIQUEs OF MATERIALS CONTROL
Following are the main tecnniques of materials control
 47
(a) ABC ANALYSIS
The concept of ABC Analysis was coined by
is a value based system of material Pareto,In Indian philosopher in the nineteenth
an
Tt
control. this technique materials
are analysed
according to heir value
so that costly and more valuabl
materials are given greater attention
iter of materials are lassified according to their and
care. All value-high, medium and low values,
hich are known as A, B and C items respectively. ABC technique is some time called as
better control" method. "Always
A'Items:These are high valueitenms which may coneist ofonly a small percentage of the total
items handled. On account of their high cost, these materials should be under the tightest control
andthe 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 ofitems.
These materials should be under the simple and economic methods of control.
The point of classifying stock into A, B and C categories is to ensure that raaterial management
focuses on A item where tightest control should be installed. B items may be given less attention
items least attention.
and C selective control which aims at concentrating efforts on those materials
The ABC technique is a
is so because it is unwise to give equal attention to all itemns
where attention is needed most. Thisranked in the order of their descending importance showing
in stock. The items are listed and is illustrated below with arbitrary percentage figure
and value item. This
of each
quantity
o of Total Value % of Total Quantity Type of Control
Categor 70--75% 5-10% Strict control
A
15-20% 20-25% Moderate control
B Loose control
5-10% 70-75%
C
Total
the total items account for as much as 70%-75%
In the above table it is shown that 5%-10% of
which need very strict control because of their high
of the total value. These are A category items for
20%-25% of the total quantity but account
cost significance. The second type of items represent the items
15-20% of the total value. These are B
items which need routine type of control. Finally,
These C items
70%-75% of total quantity but account only for 5%-10% of total value.
representing and issuing of
are kept under simple physical
control. The rules regarding purchasing, storing
of materials.
importance
various categories of items should be formed according to value and
ADVANTAGES OF ABC ANALYSIS

Following are the main advantages of ABC Analysis

those items which represent large amount of capital
1. A strict control can be exercised on
invested.
be utilized in the best possible way.
2. Investment in inventory is regulated and funds can

the required quantity of materials alone

are
3. Storage cost also will be less as only
purchased. that
ensured by concentrating on fewer items
are
4. Quick purchase of materials can be
required at one time. best results especially when
5. It is based on the principle of control by exception which gives
resources and staff are less.
items.
6. It helps in maintaining enough safety stock for C' category
7. Selective control helps in maintaining high stock turnover rate.

(b) DETERMINATION OF STOCK LEVELS

most of the large companies adopt
In order to guard against under-stocking and over-stocking,
stock levels. These levels level (ii) Minimum level
are- (i) Maximum
a scientific approach of fixing
level (iv) Danger level, etc. These levels are not permanent
and must be
) Re-order/ ordering of materials
circumstances. Thus, change wi!l take place if consumption
Changed to suit changing review of capital available, it is decided
that the
increased
sOVerall or decreased or if in the light of a
inventory must be increased or decreased.
 48 SBPD Publications Cost Accounting
The Modern Inventory Management makes use of
research and statistical techniques in fixin
stock-levels. However, given below is the description of various levels along with formula
that a
commonly used in their computations.
Factors Affecting Stock Levels
Some of the factors which influence the stock levels are ;
1. Anticipated rate of consumption,
2. Amount of capital available
3. Availability of storage space
4. Cost of storing
5. Procurement costs
6. Reliability of suppliers
7. Minimum order quantities imposed by suppliers
8. Risk of loss due to (a) obeolescence (b) Deterioration (c) Evaporation and (d) Pall in market
pnces, etc.
MAXIMUM STOCK LEVEL
This is that level above which stocks should not normally be allowed to rise. The maximum
level may however, be exceeded in certain cases, e.g., when usually favourable purchasing condition
arise. It is computed by the following formula:
Maximum Stock Level = Re-order level +Re-order Quantity
(Mini. Consumption x Mini Re-order Period

The following factors are taken into account in setting this level
1. Rate of consumption of material
2. Risk of obsolescence and deterioration
3. Storage space available
4. Cost of storage and insurance
5. Availability of funds needed
6. Seasonal considerations, e.g. bulk purchases during seasons at low prices
7. Reorder Quantity
local authority in respect of certain materials in
8. Restrictions imposed by Government or
etc.
which there are inherent risk of fire, explosion,
level is to e n s u r e that capital is not unnecessarily blocked
The idea of setting maximum stock
obsolescence and deterioration.
in stores and also to avoid loss due to
MINIMUM STOCK LEVEL
should not normally be allowed to fall. This is essentially
a
It is that level below which stock is risk of
touched. In case of stock falling below this level, there
a
safety stock and is not normally should be given to the acquisition of fresh supplies. It
in production and thus top priority
stoppage
is computed by the following formula:
Minimum Stock Level Reorder level (Normal Consumption x Normal reorder period)
=
-

considered:
fixing this level, the following factors
are
In
1. Rate of consumption conditions so that stoppage
2. The time required to acquire fresh supplies under top priority
in production can be avoided.
LEVEL
RE-ORDER LEVEL OR ORDERING
initiated for fresh supplies. This
at which purchase requisition is
This is that level of material such a way that by re- ordering when
fixed somewhere above minimum level. This is fixed in received just
level is new supplies will be
fall to this level, then in the normal course of events,
materials
is reached. It is calculated with
the help of following formula
before the minimum level Max. Re-order Period)
Re-order level (Max. Consumption x
=

factors are taken into consideration

In fixing this level the following
of the material
1. Rate of consumption
2. Minimum level
3. Delivery time
delivery time.
4. Variation in
 49
'aterials Control and Valuation

DANGER
This is a level at which normal issues LEVEL
of materials are stopped and materials are issued for
When stock
the minimum level.
reaches danger level, s level is generally fixed somewhat below
action needed
production can be avoided. Purchasing materials on anreplenishment
urgent
urgent Da* o16 in higher purchasing
is for the
cost. It is calculated with the help of
Danger Level (Normal
=
following formula re-order period under emergency condition)
Consumption x Maximum
AVERAGE STOCK LEVEL
It is calculated with the
help of following formula:
Average Stock Level =(Mini. Stock level +Max. Stock level)
llustration 1.
Level rom the
Re-ordering
1 ulate Minimum Stock Level, Maximum Stock Level and
following particulars:
Maximum Consumption 70 units per day.
Normal Consumption 40 units per day.
Minimum Consumption 30 units.
Re-order Quantity 500 units.
Re-order Period 10 to 15 days.
Normal Re-order Period 12 days.
Solutionn:
1. Re-ordering Level = Max. Cx Max. R.P.
where,
Max. C. = Maximum Consumption = 70 units
Max. R.P. = Maximum Re-order Period = 15 days
R.L. = 70x 15

1,050 units
Minimum Stock Level = R.L. - (N.C. x N.R.P.)
2.
where,
R.L. =Re-order Level = 1,050 units

N.C. Normal
Normal Consumption
= =
40 units
N.R.P. Re-order Period = 12 days
Mini. S.L = 1,050 -(40 x 12)
= 1,050-(480)
= 570 units

3. Maximum Stock Level =R.L. +R.Q. (Min. C x

-

Min. R.P.)
where,
R.L. Re-order Level =
1,050 units
R.Q.= Re-order Quantity 500 units =

Min. C= Minimum
Consumption 30 units
Min. R.P. Minimum Re-order
=
=

Max. S.L. 1,050 + 500 (30 x

=
Period 10 days =

10)
1,050+ 500 300
=

= 1,250 units
Ilustration ?
 Materials Control and Valuation

) ECONOMIC
Economic order Quantity is alsoORDER
termed
QUANTITY (E.0.Q) ANALYS
Re-order Quantity. P0n o
S1Ze the order which gives maxin,um an

contributes towards maintaining the material at in purchasing any, imum cost. whi
economy
xing economie order quantity. two the optimum
1ev sideration
types of costs should be taken
1. Ordering Cost : This is the cost of placing on order with in vthe supplier. It includes the
following expenses:
aCost of stafT posted in the purchasing department, inspection
department. s
Cost of stationery,
of floating tenders, cost of postage and telephone charges, etc. Thus, this type o d t age
comparative evaluation of quotations, o
involved in placing the order, cost of inspection and cost of accouning TOaking payments. In
ad
other words the cost varies with the number of orders. "
T y i n g Cost : It is the cost of holding the materials in the store and inciudes
(a Cost of storage space which could have been used for some other
purpose
(b) Cost of
maintaining the materials to avoid deterioration.
C) Cost of bins and racks that have to be provided for the storage of materials.
(d) Transportation cost in relation to stock.
(e) Cost of spoilage in stores and handling.
t o s t of obsolescence on account of some of the materials becoming obsolete after some
time of storage either due to
change in the process or product.
g)Amount of interest payable on the money locked-up in the materials.
(h) Clerical costs.
(i) Insurance cost, etc.
Tsum up, economic order quantity is determined keeping in view the ordering cost and
carrying cost. With the interaction ofthese two costs,the economic ordering costs during a partienlar
period are equal to carrying costs during that period and total cost to order and carry is the lowest
as is made clear in the cdiagram given below

Y
EOQ
1000 Total Cost
750
500 Inventory
Carrying Cost
250 Ordering
Cost
300 600 900 X
Units per order

From the above diagram it 1s clear

that
opposing nature. For example, if an attempt is inventory carrying cost and ordering costs
made to reduce the inventory carrying are of
staclkas low as possible, the cost of ordering will go up cost by keeping
will automatically rise on the other
because the number of
hand, if order 1s
placed for a large replenishment orders
stock wil remain longer in
stores and quantity
inventory carrying cost will go up. The problemat one tirne, the
to balance these two
types cosES and the economic order
o
is, therefore
agoregate cost is the
minimum. 'This 1s shown in the above
quantity is fixed at a
point where the
lering has been shown sloping downward indicating lower diagram in which the line of cOst of
and #ho line representing inventory cost when
large quantity is purcha-ed
larger stocks. Thus, the carTying cost going
upward
total cost curve is at its economic
indicating higher costs for holding
order quantity, which 1s the ideal
lowest point. order size is at a
point where
56
SBPD Publieationa Coat Aerounting

Assumption of Eeonomie Order Quantity (EOQ)

EOQ is based on the following
assumptiona :
I. Prices of the item remain conatant which cost
keep carrying
2. The quantity of the item to be consumod during a partieular period is welKMn, i e
stabls,,
quantity to be consumed is certain.
3. frm lo plncE B many
There are dynamie eonditions of the
as it needs
upply whieh enable n
'rtay
4. Purchase price of material per unit is constant.
5. Ordering cost per unit is constant.
6. As soon as the previous stock in fininhed, ordered matorial in receiven
EOQ can be computed with the help of following formula :

EOQ 24As
where,
EOQ = Economic Order Quantity
2 It is u constant figure
A = Annual consumption of materials in units or rupees
S = Cost of placing an order
I= Annual carrying cost of storing one unit
llustration 7.
Find out Economie Order Quantity and number of order placod per year from thee following data
Annual Consumption 10,000 Units
Cost of Placing and Receiving an Order 50
Cost of Material per Unit 25
Annual Carrying Cost of One Unit, 10% of Inventory Value. R.U., B. Com., 200
Solution
E.0.Q= V 2AS

where,
A Annual Consumption in Units =10,000 units
S =Cort of
Placing Order an 50
I =Inventory Carrying Cost of One 1 Init =
72.5
25 x 10
L.e., 2.5
100

1. E.0.Q-24S
I
2x 10,000 x 50
2.5

10,00,000
2.5
= V4,00,000

2. 632 Units (Approx.)

Number of Order
placed per year
Total Annual Consumption

10,000
E.O.Q
=16
632 Orders (Approx.)
64 SBPD Publications Cost Accounting
(d) PERPETUAL INVENTORY SYSTEM
This is a system of stock control in which continuous record of receipt and issue of materials
is maintained by the stores department. It shows the physical movement of stocks and their current
balance. A perpetual inventory system is usually supported by a programme of continuous
stock-taking. In other words, perpetual inventory system means the system of records, whereas
cotinuous stock-taking means the physical checking of actual stock with the records. Strictly
speaking the perpetual inventory system means maintenance of such records (stock control cards,
bin cards and the stores ledger) that will show the receipts, issue and balance of all items in stock
at all times. But to ensure accuracy, the system must be supplemented by a system of continuous
stock checking which ensures that physical stock agrees with the book figures. The system is
essential for planning production and to see that production is not interrupted due to want of
materials and stores.
The Chartered Institute of Management Accountants London, defines
the perpetual
inventory system as, "a system of records maintained by the
the physical movements of stocks and their current balance."
controlling department, which reflect
The success inventory system depends upon the
of perpetual following:
1. Maintenance and up-to-date wr.ting up of the following records : (a) the store ledger or
bin cards.
2. Reconciling the quantity balances shown by store ledger and bin card.
3. Checking the physical balance of a number of items every day sympathetically and by
rotation.
4. Explaining promptly the causes of discrepancies between physical balances and book
figures.
5. Making corrective entries where called for after noting the discrepancies.
6. Removing the cause of the discrepancies.
ADTARImnACna
 Materials Control and Valuation 65
ii) The information about actual
stock of a particular item
available, only book figures above t be
are available.
on a
particular day
nay*
(e)
Under this
PERIODICIANNUAL INVENTORY cONTROL SYSTEM
system, stock-taking is undertaken
at the end of the accounting year.
taking involves veritying the physical quantities of
stores in hand, some firms
As tnE s
plant operations when
this is done. This is temporariiy
it is rarely feasible to take stocks when s
is going on. Thus, the annual stock- because production
production holds up. taking should be organised well in advance tw minunas

The following points are to be

considered while conducting periodic stock verification
1. A person sihould be
2. While stock
appointed to control the whole operation.
verification is going on, store room should not be opened for issues and
receipts.
3. All damaged, deteriorated or used
items must be recorded separately.
4. The stock-taking sheets must be
under the control of one individual, consecutively
numbered as issued to staff on duty as required.
5. Materials received should be listed
6. Make each person responsible for a
separately but still under inspection.
particular section.
7. Show the method of check i.e. count,
weight, measurement on the stock sheet for eachh
item.
8. The method of pricing should be known and if possible, it is desirable to enter all
in terms of units of issue on the stock sheets in advance.
prices
9. In case of decentralised store systems, the materials in transit at the date of
stock-taking
must be taken into account.
LIMITATION^
 (f)VED ANALYSIS
VED-vital, essential, desirable, analysis is used primarily for control of spare parts. The spare
parts can be divided into three categories-vital, essential and desirable, keeping in view the
criticality to production. The spares, the stock out of which even for a short time will stop production
for quite sometime and where the
cost of stock out is very high, are known as vital spares. The
the absence
spares, of which can not tolerated for more than a few hours o r a day and the cost
be
of lost production is high and which are essential for the
production to continue, are known as
essential spares. The desirable spares are those spares which are needed bui their absence for even
66 SBPD Publications Cost Accounting

a
weel: or
stoppage of production. Some spares, through negligible in monetary
so will not lead to
au,
ay be vtal for the production to continue
and require constant attention. Such spares may
net eeve the attention they deserve, if they are maintained according to ABC analysis because
ter alue of consumption is small. So, in their cases VED
rasults analysis is made to get the effective
B. PIRCHASE OF MATERIAIS.