Prof: Ankita Rohatgi Management Accounting for Engineers

MATERIAL CONTROL

1.MEANING OF MATERIAL CONTROL

Material control is a systematic control over purchasing, storing and consumption of

materials, so as to maintain a regular and timely supply of materials, at the same time,

avoiding overstocking.”

“Material control refers to the management function concerned with acquisition, storage,

handling and use of materials so as to minimise wastage and losses, derive maximum

economy and establish responsibility for various operations through physical checks, record

keeping, accounting and other devices.”

2. OBJECTIVES OF MATERIAL CONTROL

The following are the main objectives of materials control:

(a) To enable uninterrupted production:

The main object of material control is to ensure smooth and unrestricted production.

Production stoppages and production delays cause substantial loss to a concern.

(b) To ensure requisite quality of materials:

The quality of finished products depends mainly on the quality of raw materials used. If

quality of the raw materials is not up to desired standards, the end product will not be of

desired quality which affects the sale of the product in the market resulting in loss of profits

as well as goodwill of the concern. It is of vital importance to exercise strict control and

supervision over the purchases, storage and handling of materials.

(c) To minimise wastage:

The loss of material may occur on account of rust, dust, dirt or moisture, bad and careless

handling of materials, poor packing and many other reasons. The causes responsible for such

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Prof: Ankita Rohatgi Management Accounting for Engineers

losses must be brought to light and utmost efforts should be made to minimise the wastage of

raw materials. This is possible only by introducing an efficient materials control system.

(d) To fix responsibility:

A proper system of materials control also aims at fixing responsibility of operating units and

individuals connected with the purchase, storage and handling of materials.

(e) To provide information:

Another objective of materials control is to provide accurate information regarding material

cost and inventory whenever needed by management.

3.NECESSITY AND IMPORTANCE OF MATERIAL CONTROL:

In a productive undertaking the need of materials control arises on account of the

following reasons:

1. For keeping the stock of raw materials within limits in the stores i.e., to avoid overstocking

and understocking of raw materials, materials control is significant.

2. It ensures proper storage of materials. For the proper preservation and safety of materials,

adequate storage facilities are to be provided. With the help of proper storing of materials,

quantity of materials as and when required can be issued to various jobs.

3. For knowing proper cost of production, control over materials is indispensable.

4. Certain techniques and methods are developed under the system of materials control

thereby ensuring optimum utilisation of materials.

5. In order to undertake continuous checking of materials, the necessity of a proper system of

materials control cannot be ignored.

6. A well managed system of materials control ensures the availability of different kinds of

materials without delay.

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Prof: Ankita Rohatgi Management Accounting for Engineers

4.Economic Order Quantity

The total costs of a material usually consist of Buying Cost + Total Ordering Cost + Total
Carrying Cost.
Economic Order Quantity is ‘The size of the order for which both ordering and carrying cost
are minimum.
Ordering Cost: The costs which are associated with the ordering of material. It includes cost
of staff posted for ordering of goods, expenses incurred on transportation, inspection expenses of
incoming material....etc
Carrying Cost: The costs for holding the inventories. It includes the cost of capital invested in
inventories. Cost of storage, Insurance.....etc
The assumptions underlying the Economic Ordering Quantity: The calculation of economic
order of material to be purchased is subject to the following assumptions:-
(a) Ordering cost per order and carrying cost per unit per annum are known and they are fixed.
(b) Anticipated usage of material in units is known.
(c) Cost per unit of the material is constant and is known as well.
(d) The quantity of material ordered is received immediately i.e lead time is Zero.
The famous mathematician ‘WILSON’ derived the formula used for determining the size of
order for each purchases at minimum ordering and carrying costs, which is as below :-
Economic Ordering Quantity =
EOQ
Where,
A = Annual demand
O = Ordering Cost
C = Carrying Cost

NUMERICALS
Illustration 1 :
(1) Calculate the Economic Order Quantity from the following information. Also state the number
of orders to be placed in a year.
Consumption of materials per annum = 10,000 kg
Order placing cost per order = Rs 50
Cost per kg of raw materials = Rs 2
Storage costs = 8% on average inventory

Illustration 2:

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Prof: Ankita Rohatgi Management Accounting for Engineers

The average annual consumption of a material is 18,250 units at a price of Rs 36.50 per unit.
The storage cost is 20% on an average inventory and the cost of placing an order is Rs 50. How much
quantity is to be purchased at a time?
Illustration 3 :
The annual demand for an item is 3,200 units. The units cost is Rs 6 and inventory carrying
charges is 25% p.a. If the cost of one procurement is Rs 150, determine:
(a) E.O.Q.
(b) No. of orders per year.
(c) Time between two consecutive orders.

Illustration 4

The following information relating to a type of Raw Material is available:

Annual Demand 2,000 units

Storage Cost 2% p.a

Interest Rate 8% p.a

Unit Price Rs. 20

Ordering cost per order ` 20

Calculate EOQ and Total Annual Inventory Cost of the Raw Material.

Illustration 5
A manufacture buys certain essential spares from outside suppliers at ` 40 per set. Total annual
requirement are 45,000 sets. The annual cost of investment in inventory is 10% and cost like rent,
stationery, insurance, taxes, etc. per unit per year works out to be ` 1. Cost of placing an order is ` 5.

Calculate:
1. The EOQ (By formula method)
2. No. of order to be placed.

Illustration 6
The Purchase Manager of an organisation has collected the following data for one of the A
class items.
Interest of the locked up capital 20%
Order processing cost (`) for each order ` 100
Inspection cost per lot ` 50
Follow up cost for each order ` 80
Pilferage while holding inventory 5%
Other holding cost 15%
Other procurement cost for each order ` 170

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Prof: Ankita Rohatgi Management Accounting for Engineers

Annual demand 1,000 units

Cost per item ` 10
What should be the EOQ

Illustration 7:
A company manufactures a special product which require a component Alpha . The particulars
are collected for the year 2015:
1. Annual demand for Alpa 8000 units.
2. Cost of placing an order Rs 200 per order.
3. Cost per unit of Alpa Rs 400
4. Cost of carrying 20% p.a
The company has been offered a quantity discount of 4% on purchase of Alpa provided that the
order size is 4000 components at a time.
Required:
a. compute the economic order quantity
b. Advise whether quantity discount offer can be accepted.

Illustration 8:
Anil company buys its annual requirement of 36,000 units in six instalments. Each unit costs
Re 1 and the ordering cost is Rs 25. The inventory carrying cost is estimated at 20% of unit value.
Find the total annual cost of the existing inventory policy. How much money can be saved by using
E.O.Q?

Illustration 9
From the following particulars with respect to a particular item of materials of a manufacturing
company, calculate the best quantity to order:
Ordering quantities Price per ton
(tonne) `
Less than 250 6.00
250 but less than 800 5.90
800 but less than 2,000 5.80
2,000 but less than 4,000 5.70
4,000 and above 5.60
The annual demand for the material is 4,000 tonnes. Stock holding costs are 20% of material
cost p.a. The delivery cost per order is Rs 6.00

6.Computation of Stock Level

1. Maximum Level:
The Maximum Level indicates the maximum quantity of an item of material that can be held in
stock at any time. The stock in hand is regulated in such a manner that normally it does not exceed
this level.

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Prof: Ankita Rohatgi Management Accounting for Engineers

Maximum Level = Re-Order Level + Re-Order Qty – (Minimum Rate of Consumption X

Minimum Re- Order Period)
2. Minimum Level:
The Minimum Level indicates the lowest quantitative balance of an item of material which
must be maintained at all times so that there is no stoppage of production due to the material being not
available.
Minimum Level = Re-Order level – (Normal Rate of Consumption X Normal Re-Order Period)
3. Re-Order Level:
When the stock in hand reach the ordering or re-ordering level, store keeper has to initiate the
action for replenish the material. This level is fixed somewhere between the maximum and minimum
levels in such a manner that the difference of quantity of the material between the Re-ordering Level
and Minimum Level will be sufficient to meet the requirements of production up to the time the fresh
supply of material is received.
Re-Ordering level=Minimum Level + (Normal Rate of Consumption × Normal Re-order
Period) Another formula for computing the Re-Order level is as below
Re-Order level = Maximum Rate of Consumption x Maximum Re-Order period (lead time)
4. Danger Level:
It is the level at which normal issue of raw materials are stopped and only emergency issues are
only made. This is a level fixed usually below the Minimum Level. When the stock reaches this level
very urgent action for purchases is indicated. This presupposed that the minimum level contains a
cushion to cover such contingencies. The normal lead time cannot be afforded at this stage. It is
necessary to resort to unorthodox hasty purchase procedure resulting in higher purchase cost .
Danger Level = Normal Rate of Consumption × Maximum Reorder Period for emergency
purchases

Illustration 10
The components A and B are used as follows:
Normal usage .... 300 units per week each
Maximum usage .... 450 units per week each
Minimum usage .... 150 units per week each
Reorder Quantity .... A 2,400 units; B 3,600 units
Reorder period .... A 4 to 6 weeks, B 2 to 4 weeks.
Calculate for each component:
(a) Re-order Level (b) Minimum Level (c) Maximum Level (d) Average Stock Level.

Illustration 11:
Two components A and B are used as follows:
Normal usage = 50 per week each
Re-order quantity = A- 300; B-500
Maximum usage = 75 per week each
Minimum usage = 25 per week each
Re-order period: A - 4 to 6 weeks; B - 2 to 4 weeks
Calculate for each component:

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Prof: Ankita Rohatgi Management Accounting for Engineers

(a) Re-order level; (b) Minimum level; (c) Maximum level; (d) Average stock level.

6.METHODS OF INVENTORY CONTROL

There are some selective inventory control methods to have an effective control on the
inventory. The important methods are: 1. ABC Analysis (Always Better Control) 2. VED
Analysis (Vital, Essential, Desirable) 3. FSN Analysis (Fast, Slow moving and Non-moving)

Method # 1. ABC Analysis:

One of the widely used techniques of inventory control is the ABC (Always Better Control)
analysis. This analysis is based on the annual consumption of inventory items in a year.

It has been found that:

a. Only a small number of inventory items consume a very large share of inventory
consumption during the year.

b. A little larger number of inventory items covers a moderate share of annual inventory
consumption.

c. A very large number of items just cover a very small share of annual inventory
consumption.

These facts gave birth to the concept of ABC analysis. The ABC approach is a means of
categorizing inventory items into three classes ‘A’, ‘B’ and ‘C’.

a. Class A items:
10% of items have 70% of the annual inventory consumption.

b. Class B items:

20% of the items have 20% of annual inventory consumption.

c. Class C items:
70% of the items have only 10% of the annual inventory consumption.

Method # 2. V.E.D. Analysis:

This classification is applicable only for spare parts and is based on criticality. In general,
criticality of a spare part can be determined from the production downtime loss, due to spare
being not available when required. The VED analysis is done to determine the criticality of
an item and its effect on production and other services.

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Prof: Ankita Rohatgi Management Accounting for Engineers

a. Vital (V):
A spare part will be termed vital, if on account of its non-availability there will be very high
loss due to production downtime and/or a very high cost will be involved if the part is
procured on emergency basis.

b. Essential (E):
A spare part will be considered essential if, due to its non availability, moderate loss is
incurred.

c. Desirable (D):
A spare part will be desirable if the production loss is not very significant due to its non-
availability. Most of the parts will fall under this category. The VED analysis helps in
focusing the attention of the management on vital items.

Method #  3. FSN Analysis:

FSN classification is based on frequency of issues/use. F, S and N stand for fast moving, slow
moving and non-moving items. This form of classification identifies the items frequently
issued; less frequently issued for use and the items which are not issued for longer period,
say, 2 years.

a. Fast Moving (F):

Items that are frequently issued say more than once a month.

b. Slow Moving (S):

Items that are issued less than once a month.

c. Non-Moving (N):
Items that are not issued\used for more than 2 years.

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