Chapter 03 Material Costing

1. to understand the basic principles of Material Control
2. to study the procedures of Purchase, Storing and Issues
3. to acquaint with the latest techniques in inventory control
4. to understand the pricing of issues

1. CHAPTER 03 MATERIALS CONDUCTED BY: P. Ayanthi Madumali

2. Learning Objectives After studying this topic, you should be able, 1. to understand the basic principles of Material Control 2. to study the procedures of Purchase, Storing and Issues 3. to acquaint with the latest techniques in inventory control 4. to understand the pricing of issues

3. Materials Materials The term ‘ material’ generally used in manufacturing concerns, refers to raw materials used for production & sub-assemblies parts. Stores Stores in a company comprises many other items besides raw materials, such as tools, equipment, maintenance repair items , factory supplies, components, fixtures. Sometimes , finished goods and partly finished goods are also included within the scope of this item.

4. Material Control Material control basically aims at efficient purchasing of materials, their efficient storing and efficient use or consumption . Various aspects of Material Control Purchasing Control Stores Control Issue Control

5. Objectives of Materials Control Material of desired quality should be available when needed for efficient and uninterrupted production. Material should be purchased only when it is needed and in most economic quantities . Purchasing of material will be made at the most favorable prices under the best possible terms . materials are protected against loss by fire, theft, animals Issues of materials are authorized properly and are accounted for properly .

6. P rocedures for Purchasing 01.Purchase Requisition A form known as ‘Purchase Requisition’ is commonly used as a format requesting the purchase department to purchase the required material. Normally the purchase requisition is issued by the Stores Department when the quantity of the concerned material reaches the minimum level

7. 02. Select suitable suppliers After the receipt of purchase requisition, the purchase department places an order with a supplier, offering to buy certain material at stated price and terms. However before issuing the purchase order, quotations may be invited from various suppliers for arriving at the best deal 03. Purchase order purchase order is issued to the selected supplier. purchase order is a legal document and it results into a contract between the company and the supplier .

8. 04.Receiving the Materials The receiving department performs the function of unloading and unpacking materials which are received by an organization . 05 . Approval of invoice Approval of invoice indicates that goods according to the purchase order have been received and payments can be made for the same 06. Making the Payment After the invoice is approved the payment is made to the supplier

9. Stores Control Material purchased by the purchase department is sent to stores before it is issued for production . A storekeeper is a person who is in charge of the stores department .The following functions are usually performed by a storekeeper . Protecting the material Avoiding overstocking and under stocking Keeping proper records of usage, wastages e tc.

10. Aspects of Stores Control 01.Stores Layout careful designing and arrangement of storerooms is desirable for savings in cost. The layout should take care of proper ventilation, lighting, temperature control and easy handling . Types of Stores systems/ Layout Centralized stores : A stores is only one in the company which receives materials for & issued to all who need them. Decentralized stores : Stores is that type of stores which receives materials for & issues them to only one department & not to the whole company. Decentralized stores may be in many number in the company.

11. Sub Stores : Sub stores are managed by & controlled by the centralized stores it self. At the beginning of period the CS issues a fixed quantity of materials to sub stores. At the end of the period sub stores send a filled requisition form to CS to maintain the stock to predetermine level. 02.Classification and Codification of Materials : Materials can be classified according to their types . Codification can be done for simplification of identification. Whatever system of codification is used, it should be ensured that the system is simple to understand and easy to operate . E.g.: TC/BMS/LH01/CHA/252

12. Inventory Control One of the important aspects of the overall material management is the inventory control. It is necessary to avoid the overstocking as well as under stocking. For ensuring this , maximum level, minimum level, re-order level are fixed. For inventory control, the following methods are used . ABC System Just in Time Inventory Two bin system Stock level Perpetual Inventory System

13. 01.Perpetual Inventory System The main advantage of this system is that it avoids disruptions in the production caused by periodic stock taking. Bin Card It is the quantitative record of all receipt of materials, issue of materials and the balance of materials on a particular day. Bin Card do not record the amount of receipt or issue, it records only the quantity by store department. Stock ledger Stores ledger is prepared by accounting department ,that ledger is a record of quantities & values.

14. 02.ABC System In this inventory are classified according to the value of usage. Materials are classified as A, B and C according to their value . The high value items should be controlled more carefully while items having small value though large in numbers can be controlled periodically . Items in Class % of total items % of total value of inventory A 10 % 70% B 35% 25% C 55% 5%

15. 03. Just In Time Inventory Material purchased from supplier should directly go the assembly line, i.e. to the production department. There should not be any need of storing the material. The benefits of Just in time system are as follows , Right quantities are purchased or produced at right time. Cost effective production Inventory carrying costs are eliminated totally. saving in the stores cost. Losses due to breakage, wastage, pilferage etc. are avoided

16. 04. Two bin system The two bin inventory control method is mainly used for small or low value items. When items in the first bin have finished , an order is placed to refill or replace these items. The second bin contains enough quantity of the item until the ordered quantity arrives . 1 st Bin 2 nd Bin

17. 05.Stock Leve l Minimum level Re order level Maximum level Time (Days ) Stock level (Units )

18. 01.Re-order Level This level is fixed for deciding the time of placing an order. If the stock of materials reaches this level, fresh order is placed Re-order Level = Maximum consumption * Maximum supply Period 02. Maximum Level This is the highest level of material beyond which the inventory of material is not allowed to rise. Obviously this level is fixed with the objective of avoiding overstocking Maximum Level = Re-order Level + Re-order Quantity – [Minimum Consumption * Minimum supply period ]

19. 03.Minimum Level This level is fixed with the objective of avoiding shortage of material. Care is taken that the stock do not fall below this level . Minimum Level = Re Ordering Level – [Average consumption * Average supply period] 04.Average Level This level is the average of the maximum and minimum level Average Level = Maximum Level + Minimum Level 2

20. EOQ (Economic Order Quantity ) EOQ is the order quantity that minimizes the total holding costs and ordering costs. T his concept is based on some assumptions. These assumptions are as follows . The concerned material will be available all the time without any difficulty . The price of the material will remain constant. Ordering cost and carrying costs are variable. Impact of quantity discounts on the prices is negligible.

21. The formula EOQ = 2*D*Co CH Where EOQ = Economic Order Quantity Co= order cost per order D = Annual quantity required in units CH =Stock holding cost per unit per annum

22. Example The annual consumption of a part “X” is 8000 units. The procurement cost per order is $40 and the cost per unit is $0.5. The storage and carrying cost is 50% of the material unit cost. Required: Calculate the EOQ by ,01. Formula Method 02. Tabular Method

23. Solution Co= $40 D= 8000, CH= $0.5*50% EOQ = 2*D*Co CH EOQ = 2 * 8000 *40 0.5*50 % = 1600 units

24. No of order = D/Q = 8000/1600 = 05 Order Cost = D/Q * Co =05 * 40 = 200 Stock holding Cost = ½ * Q * CH = ½ * 1600 * 0.25 = 200

25. No of order No of units in one order Ordering Cost Holding Cost Total inventory cost 1 8000/1 = 8000 1* 40 = 40 ½* 8000*0.25=1000 1040 2 8000/2 =4000 2 * 40 =80 500 580 3 8000/3 = 2667 3 * 40 =120 334 484 4 8000/4 = 2000 4 * 40 =160 250 410 5 8000/5 = 1600 5 * 40 =200 200 400 6 8000/6 = 1334 6 * 40 =240 240 407 Table to calculate EOQ In EOQ, Co=CH

26. Cost $ Units per order Ordering cost Carrying cost Total cost 100 200 300 8 00 1600 2000 Minimum cost EOQ=1600 units

27. Cost $ No of order Carrying cost Ordering cost Total cost 100 200 300 2 4 6 Minimum cost EOQ=5 order

28. Issuing Control Another important aspect of material control is the issue control. Material is issued to production and utmost care is to be taken while issuing the material. The first thing is that without authorization material should not be issued to any department Pricing of Issues Material is issued to production and it is necessary to find out the consumption value of the material . The various methods of pricing of issues are, FIFO LIFO WAC SAP

29. FIFO : As per this method, material received first is issued first . Thus the material in stock at the beginning of a period is issued firstly and then the issues are made according to the dates of purchases made LIFO: under this method is that the material which is purchased last is issued first to the production. Therefore the issue should be charged at the latest prices Simple Average Cost Method Under this method, the issues are charged at the average price of the material purchased without taking into consideration the quantities involved in the same Weighted Average Method: This method takes into consideration the prices as well as the quantities of materials purchased. Thus weighted average is computed after each receipt by dividing the total amount by the total quantity

30. Inventory Turnover Inventory turnover ration enables the management to avoid capital being locked up in undesirable stocks. This ratio indicates the efficiency or inefficiency with which inventories are maintained. Inventory turnover ratio = Cost of materials consumed Cost of average stock held during the period Stock turnover = Days during the period Inventory turnover ration Average opening & closing stock No.of days for inventory held

31. Thank You…..