Material Control
Material Control
Material or inventory control may be defined as ‘systematic control and
regulation of purchase, storage and usage of material in such a way so as to
maintain an even flow of production, 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 should be comprehensive enough to cover purchase
system, storage system, issue to production and stock determination for
each item of material.
Significance of Material Control
Material is the single largest element of cost and as
such an efficient system of material control leads to a
significant economy in the total cost.
Any kind of material loss leads to direct and
immediate financial losses because it is as much cash
as cash itself.
No cost system can be effective without proper and
efficient control of materials.
Objectives of Material Control
• No under-stocking: It leads to material running out of stock at one time or other. Shortage of
material may arise at a time when they are urgently needed and production may be held up.
Hampering in production is very costly and results in loss of profits.
• No over-stocking: Over stocking of materials locks up capital and causes high storage cost,
thereby resulting adverse effect on profits. This may result in loss due to obsolescence.
• Economy in purchasing: By purchasing at most favourable prices, the purchaser is able to make
a valuable contribution to the reduction in cost.
• Proper Quality: It is of no use to purchase materials of inferior quality or very superior quality.
Only needed quality of material should be purchased.
• Minimum wastage: Losses of material occur due to deterioration , obsolescence, pilferage and
theft. All round efforts should be made to keep these losses to the minimum.
• Info about materials: Efficient material control system provides complete and up-to-date info
about the quantity of products. Inadequate info may lead to new purchases of materials already in
Techniques of material control
There are many methods of material control, the most important being highlighted below:
• Economic order quantity (EOQ)
• ABC technique
• Stock levels- Minimum, maximum and reorder
• Proper purchase procedure
• Proper storage of materials
• Inventory turnover ratio
• Perpetual inventory system
• Material cost standards
• Material Budgets
ABC Technique
Large manufacturing companies, where stocks of
direct material and component parts consist of
many thousands of different items, companies find
it useful to divide materials, parts, supplies and
finished goods into sub classifications for the
purposes of inventory control.
Basis of classification
• % number of items contributing to proportion
of total value of inventories
• Inventory items are ranked according to
investments in each item in the inventory.
Let us define ABC/ Pareto Analysis
• A- Significantly few - items few in number contributing
high proportion of value of inventories
B- Not few, not too many - neither very cheap nor very
costly
C- Insignificant /many - relatively large no. of items,
normally inexpensive
Let us define ABC/ Pareto Analysis
• ‘A’ Items: High value items which may consist of only a
small percentage of total items handled. High cost
materials should be under strict / tightest control and the
responsibility of most experienced staff.
• ‘B’ Items: Medium value materials which should be under
normal / moderate control.
• ‘C’ Items: Low value materials which may large in number.
It should be under simple, loose and economic methods of
Main Features of ABC
• Value based system of material control.
• Materials are analysed according to their values so
that costly and more valuable materials are given
greater care and attention.
• All items are classified into high, medium and low
values according to their respective values.
• Also known as ‘Always Better Control method.’
Advantages of ABC
• Closer and strict control system.
• Investment in inventory is regulated and funds can be
used in the best possible way.
• Economy in stock carrying cost.
• It helps in maintaining enough stock for ‘C’ category
items.
• Selective control helps in maintaining high stock
turnover rate.
Stock Levels
• Maximum Stock level - Reorder level + reorder
quantity - (Min. consumption * Minimum reorder
period)
• Minimum stock level - Reorder level – (Normal
consumption * Normal reorder period)
• Reorder level - Maximum Consumption * Maximum
Reorder Period
• Average level - Minimum level + Maximum level/2
Reorder quantity (Economic
order quantity or EOQ)
It is the quantity for which order is placed when
stock reaches reorder level. By fixing this quantity,
the purchaser does not have to recalculate the
quantity to be purchased each time he orders for
material.
It is also known as EOQ because it is the quantity
which is most economical to order.
Computation of EOQ
2C O
EOQ
I
C = Annual demand (units)
O = Cost of placing an order
I = Cost of carrying inventory
Example of EOQ
Annual usage -6000
cost of placing order- Rs 30
Carrying cost -20%
Cost per unit of material- Rs 5
Find EOQ?
2 6000 30
EOQ
5 * 20%
3,60,000
600UNITS
Pricing of Material Issues
When methods are issued from stores to production department , a question arises
regarding the price at which materials issued are to be charged. This is because
same material may have been purchased in different lots at different times at several
different prices. Therefore , Inventory valuation and the pricing of issuing material
is being executed through the following various methodologies:
1. First in First out (FIFO)
2. Last in First out (LIFO)
3. Highest in First out (HIFO)
4. Simple Average Method (SAM)
5. Weighted Average Method (WAM)
6. Base Stock Method
First in First out (FIFO)
The materials which are received/purchased at first are to
be issued first. This is the method suitable for the trend
of falling prices in the market.
It uses the price of first batch of materials purchased for all
issues until all units from this batch have been issued.
After the first batch is fully issued, the price of next batch is
used for pricing.
Why it is considered as a suitable method for falling
prices?
The issues of the materials are made at higher prices
against the low price of replacement of materials. The
low price of replacement of materials against the
issues is possible only during the trend of falling
prices.
Advantages of FIFO
It is easy to understand and simple to operate.
The materials are issued at purchase price and thus no
unrealized profit/loss arise from the operation of this
method.
Based on the realistic assumption that materials are
issued in the order of their receipts.
Value of the closing stock is at cost as well as at the
Disadvantages of FIFO
• There may be the possibility of clerical errors at the moment of
maintaining the stock register due to price fluctuations.
• The comparison between the jobs cannot be made possible due to
various prices involved. The materials issued for one job is at earlier
prices which do not agree with the materials issued for another job at
later prices. When the price of materials do not agree with each other,
they will not be considered for comparison.
• The issue prices do not reflect the market price due to upward price
trend. The main reason is that the issues are only due to earliest
consignments
Last in First out (LIFO)
Under this method, the issues are made at the price of latest
consignment.
The current cost of the jobs/work orders are denominated only in
terms of the price of the latest consignment.
During the rising prices, this is considered to be a most suitable
method. This method helps the management to quote competitive
prices on the basis of latest consignments.
This method was considered by all the firms in the US as a
predominant one over the others in fixing the price on the
commodities competitively during the post Second World War years.
Advantages
It has greater applicability only when the transactions are very
minimal and prices are steady in the environment.
The recent purchase through the latest consignment reflects the
current market prices in the cost of sales of the firm.
The issue of materials through latest consignments are
denominated in terms of higher prices; led to illustrate lesser
profits due to higher charge during the production and lessens
the income tax burden.
Disadvantages
Greater possibility for more number of clerical
errors.
This method also helps to compare the jobs or
works.
There may be a possibility of either overstating or
understating the value of the stock in the balance
sheet.
Highest in First out (HIFO)
The major underlying assumption of this method is to value the
closing stock as minimum as possible at the end of concluding the
stores register.
The high priced materials are issued one after the another, among the
various consignment of the materials available in the stores.
This method may not only assist the firm to devalue the stock, but
also to price the issue exorbitantly. It leads to a charge through cost
plus contracts. It may be possible for the firm during the monopoly
situations to increase the price of materials.
Method of Average
In practice, the issue of materials cannot be made from any singular lot purchases.
Normally speaking, the materials are grouped together in categories on the basis
of similar characteristics but not on the basis of purchase price. If the materials are
grouped together irrespective of purchase price, the issues should be done
appropriately on the basis of average cost method. The average cost method is
bifurcated as follows:
Simple Average Method
Weighted Average Method
Base Stock Method
Simple Average Method (SAM)
Under the simple average method, the issues are
made only on the basis of simple average price.
Definition: “Simple Average Price” “A price which
is calculated by dividing the total of the prices of
materials in the stock from which the material to be
priced could be drawn by the number of prices used
in that total”
Simple Average Method (SAM)
• Example: A pillow manufacturer purchases raw
cotton from three different quantities at three
different prices.
Quantity (Purchased in Kg) Prices
• 10,000 20
• 20,000 30
• 30,000 40
Therefore, Simple average price = 20 + 30 + 40 / 3
= Rs 30
