Material Cost Control

Techniques / Methods
 Aspects of Material Control
There are three primary areas in Materials
Control:

Introduction to Materials Control and Purchase /

Procurement Documents

Stock / Inventory control [levels]

Materials Issue
 Part 1 : Introduction to Materials Control and
Procurement Documents
• Materials: The term 'materials' refers to all
commodities or components which are consumed
in the process or preparation for manufacturing.

• Materials may be classified into Direct Materials

and Indirect Materials (includes consumables such
as cleaning chemicals, lubricants , protective
wear).
 Why Control Materials
Systematic control over the procurement,
storage and usage of material so as to maintain
an even flow of material and avoiding at the
same time excessive investment in inventories”

Materials control is a system which ensure that

right quality of M. is available in the right
quantity at the right time and right place with
right amount of investment..
 Materials Control Personnel

◦ Purchasing / Procurement Agent – employee

who does the buying of raw materials , usually
with selected suppliers

◦ Receiving Clerk – employee who is responsible

for the receipt of incoming shipments.
 Cont…

◦ Storeroom Keeper – employee who has charge

of the materials after they have been received.
 they maintain Bin Cards for each item. A bin
card is a document that records the status of a
good held in a stock room.
 A typical retailing business with a large stock
room will use a bin card to record a running
balance of stock on hand, but not Pula Values
 Continue
 A bin card is maintained for each item kept in stores. Eg:
BC 2 - Brooms
BC 34 – Nails
BC 20 – Wooden planks
BC 28 – Computers
BC 30 – chairs

In many storerooms bin-cards are now computerized.

 Cont….
• Costing / Accounts Department
• Also maintains records of materials in stock
using Stores Ledgers.
• A stores ledger is a record kept of the quantity
and amount (value) of every material supplies on
hand.

• A Stores leger card is maintained for each item kept

in stores.
• Stores Ledgers are now computerized
 Cont..

Now should be able to answer these Questions:

What are the differences between a bin card and a

stores ledger?

Why are bin cards and Stores ledgers kept

separately?
 Methods of Maintaining Inventory
Records
There are two methods:
Periodic Inventory System - relies upon an
occasional physical count of the inventory to
determine stock balances

Perpetual Inventory System - keeps continual

track of inventory balances. Stock balances are
recorded every time inventory is received or
issued.
Question: what are the pros and cons of each ?
 Cont..

• Control is maintained by ensuring that

those responsibilities for purchasing,
receiving, storing and issuing of material
are in separate functions (segregation of
duties).
 Materials Procurement
Material Requisition Note: A note used by the
production Dept to order materials from stores

Purchase Requisition - the form used to notify the

purchasing agent that materials are needed.

It is prepared by the storeroom personnel

(centralized buying) or by the Dept which uses the
material (decentralized buying)
 Cont…..
Purchase Order - that gives the purchasing agent
authority to order the materials.

It specifies the materials to be ordered.

It is prepared by the Purchasing Dept, often after

invitations for tenders and selecting the best
tender.
 Cont…
Invoice – invoice from the supplier that should be
compared to the purchase order.

It is Prepared by the supplier, mainly for the

Costing / Accounts Dept to prepare payments

Material Received Note –form that the receiving

clerk uses to count and identify the materials
received.
It is prepared by the Receiving Dept (often Stores
Receiving Dept or sometimes Security Dept )
 Control of Investment in Material
Why Control Investment in Material / Costs of Carrying Stock
What happens if you over-invest in materials?
 Some are perishable, spillages may occur, as well as other damages
[breakages]
 Leads to temptations of theft
 It can become obsolete [out-dated] and at different dates
 Takes up space [at a cost], also security costs
 It ties up capital / money that could be used by the business in
other areas.
 Cont….
What happens if you under-invest in materials? /
costs of carry insufficient stock
You run the risk of:

Production stoppages
Stock stock-out / shortage [inadequate stock for
sale]

Loss of customers
 ABC Inventory Classification

ABC analysis is an inventory categorization

method which consists in dividing items into
three categories, A, B and C: A being the most
valuable items, C being the least valuable ones.
 Cont…
Principle :
Carry as many items of C as desired ‘low value,
low investment , low risk, ’ [e.g., Pens,
toothpicks, glue, forks etc]

Carry as few items of A as possible ‘high value,

high investment, high risk, ’ [e.g., Computers,
spare car engine parts)

Item B are middle / medium value items

 Distribution of ABC Classification

Total amount v/ value required

ABC class Number of items
e.g. (P100, 000)

A 10％ 70％ (P 70,000)

B 20％ 20％ (P20,000)

C 70％ 10％ (P10,000)

Total 100％ 100％

 Part 2: Inventory Control Methods /
Technology

i. Setting Levels of Stock

ii. Determining Economic Order Quantity

 Setting the Levels of Materials
• Maintaining the appropriate level of raw materials is one of the
most important objectives of materials control.

• Inventory of sufficient size and diversity must be maintained.

• Management must determine other working capital needs in
determining inventory levels.

• Adequate planning and control is required.

 Four Level Settings

• There are Four common levels that are calculated

in the control of stock /Material flow.

• These levels are calculated for EACH item of stock as

every item is used at its own unique rate, and as each
item has its own risk when you carry it.
1. Four Level Settings
Re-Order level (ROL) :

* It is the point at which stock of a particular material is ordered

again.
* When you reach this level, a new order for the supply of the
material component is initiated

Formula:
ROL= Maximum consumption or usage x Maximum lead time
 Note:
 The following items need to be taken into consideration when
ordering:

1. Usage – anticipated rate at which a particular item of material will

be used.

2. Lead time / Re-order period – estimated time interval

between the placement of an order and the receipt of
the material ordered.

3. Safety stock – estimated minimum level of inventory

needed to protect against stock outs.
 Minimum Stock Level
2 . Minimum (or safety stock) level:

This represents the minimum quantity of the material, which must

be maintained in hand at all time.

 Stock levels should not be allowed to fall below this level

Formula:
= Re-ordering level – (Av. consumption x Av. Lead time or re-order
period)
 Maximum Stock Level

3. Maximum level: Maximum quantity of an item of material, which

can be held in stock at any time. Stock should not exceed this
quantity.

Formula:
• = Re-ordering level +Re-ordering quantity – (Minimum
consumption x minimum re-ordering period
• Max. SL = ROL – [Min Cons x Min RP] + RQ / EOQ
 Average Stock Level
4. Average stock level: Average Stock level shows the average
stock held by a firm. The average stock level can be calculated
with the help of following Formula:

 = Minimum stock level + ½ of Re-order quantity

(or)

 (Min stock level+ Max stock level)

2
 Economic Order Quantity

• EOQ is the size of the order which contributes

towards maintaining the stocks of material at
the optimal level and at a minimum cost.

• EOQ is the size of the order which contributes

towards maintaining the stocks of material at
the optimal level and at a minimum cost
 The formula
EOQ FORMULA IS:

2XOXQ
C
 EOQ FORMULA:

• Where EOQ = Economic Order Quantity

O = Order cost per order
Q = Annual quantity required in units
C =Carrying cost per unit per annum
 WHEN CALCULATING EOQ:
Note: For EOQ we need to determine ANNUAL
DEMAND. Therefore:

• If demand is given in days, x 360

• If demand is given in months , x by 12
• If demand is shown in weeks, x by 50