Chapter-2 Material Cost

CH.
STUDY CONCEPTUALLY
Rs. FROM ANSHUL SIR ON UNACADEMY
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CHAPTER-2
MATERIAL COST
TABLE OF CONTENTS:
1. Introduction
2. Material Procurement Procedure
3. Storage, Issue and Consumption
4. Valuation and Accounting of Material
5. Management and Control
6. Practical Problems
7. Past Exam Theory Questions
“REVISION ANALYSIS”
DATE QUESTIONS HOURS
FIRST TIME STUDY
1ST REVISION
2ND REVISION
3RD REVISION
4TH REVISION
1. INTRODUCTION
“MANUFACTURING / PRODUCTION” is a process where multiple raw material(s) is/are used, some
processing is carried thereon, as a result of which a new product comes into existence, which has separate name,
separate usage, separate identity and separate pricing, known as Finished Goods.
Having understood the need and importance of cost ascertainment (In Chapter # 1), it can be concluded that
‘Material Cost’ is one of the most significant and vital cost element, and hence it needs proper material
management, right from –
i) PLANNING Quantity of RM to be purchased…? ------Annual Consumption of RM
Quantity to be ordered in each order ---i.e. Order Size and No. of Orders
ii) PRESERVATION Storage & Handling required -------------Carrying Cost
iii) RISKS Material wastage & spoilage, Price Fluctuation, Discount & Rebate, Taxation
May result to Loss of Quantity (Normal Loss / Abnormal Loss)
iv) PROCEDURE Systematic procurement procedure is to be implemented involving various
documents at each stage------Material Procurement Procedure
v) and many more…
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CH.
STUDY CONCEPTUALLY FROM ANSHUL SIR ON UNACADEMY
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TYPES OF MATERIALS
DIRECT MATERIAL INDIRECT MATERIAL
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This grouping under direct and indirect is quite often on the basis of materiality. Sometimes, direct cost may be
of such a small value that the cost of maintaining and collecting this data will be more than the cost of material
itself. In such a case, the material may be conveniently classified as indirect material.
2. MATERIAL PROCUREMENT PROCEDURE
MATERIAL PROCUREMENT
CENTRALISED DECENTRALISED
MATERIAL PROCUREMENT
FORECAST / BUDGET DRIVEN JUST IN TIME

PURCHASE SYSTEM (JIT) PURCHASE SYSTEM
“A MANUFACTURING PLANT MAP”

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A. PURCHASE PROCEDURE:
I. PURCHASE REQUISITION - It is a document initiated by the production, service, or stores
department requesting purchase department to purchase the materials of required quantity, quality
and description mentioned in it. It also mentions the time when the material is needed.
II. IDENTIFICATION OF THE SUPPLIERS - The Purchase Department locates the sources of supply
with the help of past experience, advertisements, tenders, industrial directories, etc. and will choose
2 to 3 suppliers after an analytical study of all of them. Many corporates looking into the
infrastructure and other capabilities, prepare a list of approved vendors. The quotations are then
invited only from approved vendors.
III. PLACING A PURCHASE ORDER - Once the selection of a supplier is done then an order for purchase
of raw material is placed. It includes the description of material required, code nos. if any, quantity
and quality of material required, expected time of delivery, rates, discounts, payment terms etc.
IV. FOLLOW-UP OF PURCHASE ORDER - Many times the follow-up of a purchase order becomes
essential to ensure the timely delivery of material, quality of material, etc. Any disputes regarding
the rates and discounts are also needed to be sorted out.
B. RECEIPT OF MATERIAL:
I. RECEIVING AND INSPECTING THE MATERIAL - Generally the material is received and inspected
by the Inspection department. It prepares a ‘Goods Receipts Note’ (GRN) which contains the date,
and time of delivery quantity and, quality of materials, Supplier’s name, vehicle number delivering
the material, freight paid, etc. Usually five copies are made of GRN. One copy is sent to the Supplier
as an acknowledgment of the receipt of material, another copy to accounts department, one to the
department which initiated the purchase requisition one copy to the stores department and one is
retained by the inspection department
II. FOLLOW - UP for any disputes regarding quantity, quality or price of material is required after the
receipt of material.
C. CENTRALISED VS DECENTRALISED PURCHASING:

CENTRALISED DECENTRALISED
1. Avoids duplication of purchase procedure 1. Purchase procedure duplicated at each
separate purchase centre.
2. Economies of scale available 2. Piecemeal purchases hence higher costs.
3. Standard procedures and norms adhered to. 3. Lack of uniformity in procedures and norms.
4. Purchase procedure is lengthy and costly. 4. Fast purchase actions at lower costs.
5. Lesser flexibility and motivation. 5. Greater flexibility and motivation.
D. STORES LAYOUT:
The stores location and layout should be planned very carefully to keep material handling cost and wastage
due to multiple handling to a minimum. For this the following factors may be considered:
1. Heavy stores and bulky stores should be stocked near to the user department and preferably on the
ground floor.
2. Stores should be easily accessible to all departments.
3. Arrangements to be made of the bins and racks with proper numbering.
4. Material with shelf life (expiry on a particular date) must be kept on the outer side of the bin or rack.
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3. STORAGE, ISSUE AND CONSUMPTION
A. CLASSIFICATION AND CODING OF MATERIALS

For the purpose of easy location, identification and for convenience in storage and issues, each item of
stores is given a distinct name and code number. This process is known as Classification and Codification
of Materials. With the help of Computers, search facility with name is also made available.
Similar items are classified under subgroups and a number of such subgroups are classified under main or
major groups. For example, different types of Nuts and Bolts may be classified under sub-head “Nuts and
Bolts” and under the main head “Spares“. Classification of stores should be accompanied with a suitable
system of codification. Codification is the procedure of assigning symbols, (numeric or alphabetic) for each
item in accordance with a proper arrangement. Thus besides its name, an item of stores is also known by
the symbol (i.e. code no.) allotted to it.
Advantages of Codification:
1. Easy identification of stores.
2. Reduction in clerical work.
3. Essential for mechanised accounting.
4. Secrecy.
Different methods of Codification:
1. Numeric - Using numbers 0 to 9
2. Alphabetic - Using alphabets A to Z
3. Alpha-Numeric - Combination of the numbers and alphabets.
For example: The Pin - code numbers given to different post offices is an example of numeric code system.
The Deccan Gymkhana post office is having a pin - code “411 004”, of which first digit represents the state,
whereas second and third digit represent the District, fourth digit represents the Taluka place and fifth
and sixth digit represent the area/village where the post office is located.
Another example can be given of colour shades. These shades are very difficult to explain in words and
hence are allotted code numbers for the purpose of clarity. For example, “G - 12” may represent the 12th
shade in green colour. It is an alphanumeric code.
B. VARIOUS DOCUMENTS INVOLVED: ------- (VERY IMP… can be asked as a Short Note)
MRN – MATERIAL REQUISITION NOTE
As a fundamental rule, no material is issued from the store without a proper written authority. Requests
for issue of materials should be made to the storekeeper in the prescribed form signed by the authorised
person. The document which authorises and records the issues of materials is known as Material
Requisition. It is also called as Stores Requisition Note, Materials Demand Note or Material
Authorisation Note etc. Material requisition generally includes the following information -
Number and date of requisition, Department demanding the material, Particulars of materials Quantity
demanded, Unit Cost, Total Cost, Signature of the requesting authority, etc. A specimen form of material
requisition is given below:-
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LAKSHYA LTD.
MATERIAL REQUISITION NOTE
Production Order No. : No. :
Standing Order No. : Date :
Bill of Material No. : Department :
Cost
Particulars Code No. Quantity Rate Amount
Rs. Rs.
Issued and Bin Card Stores ledger

Received by Priced by
Authorised by posted by posted by
BOM – BILL OF MATERIAL

It is an itemised list of all materials required for a job, process or service. It gives the details of materials
necessary and the quantity of each item. Substitute materials that may be used when the original materials
are not available, are also indicated in the bill of materials. It is also called as ‘Specification of Materials’.
It is prepared by the Production Planning Department, as soon as an order is received, with reference to
the standardised specifications. It serves as an advance intimation to the Purchase department to make
the purchases from time to time, so that the material can be kept ready at the time of manufacture or
execution of a service order.
MTN – MATERIAL TRANSFER NOTE

Sometimes excess material remaining on one job is transferred to another job directly without returning
the material to the stores. When such material is transferred, a Material Transfer Note is prepared
indicating the job number to which the materials are transferred. This transaction does not affect the
stores department and no entry is made in the stores ledgers.
MATERIAL RETURN NOTE

Where any surplus material is returned to stores a Material Return Note is prepared.
BIN CARD
A Bin Card is a quantitative record of receipts, issues and closing balances of the items of stores. Separate
bin cards are maintained for each item of stores. They are placed in shelves or bins or are suitably hung up
as convenient, alongside the materials in godowns. It provides a ready figure of stock of material in hand.
It also facilitates physical verification of materials. A specimen form of a bin card is given below -
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LAKSHYA LTD.
BIN CARD
Description : Maximum Level :
Stores Code No. : Minimum Level :
Location : Reordering Level :
Unit of Measurement : Danger Level :
Date Particulars Receipts Issues Balance
Date Physical Stock Verification Record: Verified by

Storekeeper
STORES LEDGER
It is a record of all receipts, issues and balances of materials along with the quantity, rates and their values.
Separate ledger sheets are maintained in stores ledger for each item of material. The ledger sheets are
generally in loose leaf form in binders to allow flexibility. It serves as a quantitative and value wise record
of materials in stores. The specimen form of stores Ledger is given below:
LAKSHYA LTD.
STORES LEDGER
Description : Folio No. :
Stores Code No. : Minimum Level :
Location : Maximum Level :
Unit of Measurement : Danger Level :
Normal Source of Supply: Re - order Level :
Receipts Issues Balances

Date Particulars Rate Amt. Rate Amt. Rate Amt.
Qty. Qty. Qty.
Rs. Rs. Rs. Rs. Rs. Rs.
Date: Verified with Bin Card: Verified by

Storekeeper
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Advantages:
Maintenance of bin cards along with the stores ledger is sometimes considered to be a duplication of work.
It is however advantageous to retain both the sets of records, for the following reasons:-
a. Bin Cards are not accounting records. It is essential that these be located with the stores in the
various godowns.
b. Stores ledger is maintained centrally in the Cost office from where consolidated information may be
made available.
c. Stores ledger constitutes a second check on the quantity recorded in bin cards.
d. Frequent overall review of stores balances on Bin Card may be conveniently made with the help of
the stores ledger.
Bin Card Stores Ledger
1. It is maintained by the storekeeper in the 1. It is maintained in the costing department.
stores. 2. It records both quantity and value.
2. It records quantities only. 3. Entries are made sometime after the transaction
3. Entry is made as soon as the transaction takes place.
takes place. 4. Transactions may be summarised and posted.
4. Each transaction is individually posted. 5. Balance is checked with Bin Card.
5. Balance is checked with physical quantity.
PRODUCTION BUDGET
BUDGET means estimation / prediction. It is one of the most important tool for planning your business
operations. (TO BE SEEN IN CHAPTER BUDGETS & BUDGETARY CONTROLS)
Following diagram explains well, the basic flow of the budget –
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POINT OF PRDUCTION STORES LEDGER / PURCHASE
CH.
B.O.M. M.R.N. G.R.N.

DIFFERENCE BUDGET BIN CARD REQUISITION
PREPARED BY
PREPARED FOR
OBJECTIVE OF
PREPARING
THIS
DOCUMENT
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4. VALUATION AND ACCOUNTING OF MATERIAL
A. DIFFERENT METHODS OF PRICING MATERIAL ISSUES:

The materials issued to production/service department must be charged to the respective department or
to the respective production or service order. The price at which this material is charged varies from
organisation to organisation depending upon the method of pricing which they choose. The following are
the different methods of pricing material issues -
ISSUE PRICE METHODS
Cost Price Notional Price Market Price
Standard Price Replacement Price Realisable Value
Specific Price FIFO LIFO HIFO NIFO Average Price

S.I.M.
Simple Average Weighted Average
After Every Receipt PERIODICAL MOVING

i.e. PERPETUAL
Note: Out of the above methods of pricing material issues, the cost price methods i.e. FIFO, LIFO and
Weighted Average Methods are popular and have a practical utility in the industry.
As per the Accounting Standard No. 2 on "Valuation of Inventories", issued by ICAI, it is
recommended that the Historical Cost of inventories should normally be determined by using FIFO
or Weighted Average Cost formulae-
i) Specific Price Method: Under this method, the specific price of materials issued to a particular job
is charged to the job. This method is used where materials are purchased specifically for a
job.
ii) First In First Out (FIFO): Under this method, materials purchased first are to be issued first.
Materials from the second lot will be issued only when the first lot material is completely exhausted.
iii) Last In First Out (LIFO): Under this method, materials that are purchased last are issued to the
production first.
iv) Highest In First Out (HIFO): Under this method, the highest priced materials are issued first, then
the next highest and so on.
v) Next In First Out (NIFO): Under this method, issues are valued at the price expected for the next
purchase i.e. price of the material which has been ordered but not yet received.
vi) Average Cost: Under this method, the average cost of purchase is used. Different ways may be used
for calculating the average i.e. simple.
vii) Standard Price: Under this method, standard price in respect of each type of material is fixed and
all the issues are valued at standard price.
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ix) Realisable Price: Under this method, material issues are priced at a value which the material would
realise if sold in the market.
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Pricing of Returns of Material:
Material returned back to the stores from any department is entered in the stores records if they are
returned in the original condition.
The materials returned can be valued at any of the following two methods-
1. At the same price at which it was previously issued and
2. At the current/latest price of issue available.
But, in the case of second method, excess or less credit may be given to the production order against which
the material was previously issued. Therefore, this method is not much popular.
Re-Issue of Returned Material:

The material returned back to the stores may be re-issued to any other department or production order.
There are two methods of pricing this issue of returned material -
1. At the price at which it was returned back and
2. Assuming it as a fresh purchase, issue the same as per the method of pricing material issues normally
followed by us.
In the above case also, as far as possible, the first method should be adopted.
B. MATERIAL COST PRICE, SHORTAGES ETC.:

INCLUDED IN
SR.
EXPENSE HEAD DESCRIPTION MATERIAL
NO.
COST
1. Basic Cost It is the amount paid/payable to the vendor for
purchase of material.
2. Trade / Quantity It is the discount offered by the vendor for bulk
Discount purchases.
3. Cash Discount It is the discount offered for making prompt
payment.
4. Entry Taxes & Taxes and other charges to be paid while bringing the
Other Charges goods to its usable location. It includes Import
Duties, Dock Charges, Octroi, Cess charges, Transit
Insurance, Commission & Brokerage, etc.
5. Freight / Carriage Transportation Charges paid on bringing the goods
Inward to usable location.
6. Integrated GST IGST is paid on Inter-State supply of goods and
(IGST) provision of services. If nothing is given, it is assumed
as REFUNDABLE.
7. State GST (SGST) SGST is paid on Intra-State supply of goods and
provision of services. If nothing is given, it is assumed
as REFUNDABLE.
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8. Central GST (CGST) CGST is paid on manufacture and supply of goods and
provision of services. If nothing is given, it is assumed
as REFUNDABLE.
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9. Demurrage It is the penalty imposed by the transporter for delay
in uploading or offloading material.
10. Detention Charges, Detention Charges, Fines and Penalties are imposed
Fines & Penalties for any type of non-compliance / breach of law.
11. Cost of Containers (a) If the supplier does not charge separately for the
containers, costs are not affected. But if such
containers are sold the sale proceeds are usually
credited to factory overheads.
(b) Where the buyer has to pay for the containers
and containers are not returnable, cost price of such
containers should be added to the cost of materials.
On disposal of these containers, the amount realised
will be credited to factory overheads. Where the
buyer has to pay for the containers but they are
returnable at a price less then the price charged, the
difference is to be added to the cost of materials.
However, if they are returned at original price then
material cost is not to be increased.
C. SURPLUSES AND DEFICIENCIES OF STOCK: Physical stock may differ form stock as per Bin Card or Stock
Ledger for several reasons, as follows:
Avoidable Reasons--Abnormal Unavoidable Reasons--Normal
1. Posting errors. 1. Evaporation, shrinkage etc.
2. Excess / under issue 2. Absorption of moisture
3. Theft and pilferage. 3. Breaking of bulk.
4. Breakage 4. Purchase in one measure (e.g. Kgs.) and issue in another
type measure (e.g. Grams).
The method of accounting adopted for adjustment depends on the Rs. of the surplus or deficiency. The
abnormal surplus or deficiency are charged to the Costing Profit and Loss A/c. In case of normal loss
treatment is to inflate the price per unit so as to cover normal loss.
Example: If 1000 Kgs of a chemical are purchased at Rs. 4 per Kg and the normal loss is expected to be 2%
Rs. 4,000
then the inflated price per Kg. would be i.e. 4.08 per Kg.
(1000 - 20)
D. TREATMENT OF WASTE, SCRAP, SPOILAGE AND DEFECTIVE:

1. Waste: It is that portion of basic raw material lost in processing having no recoverable value. Waste
may be visible or invisible. Normal waste is absorbed in the cost of net output i.e. the unit price of
material used is inflated in such a way that total cost is recovered form smaller quantity.
Example: 1,000 kgs of coal is used costing Rs. 9 per kg. If the normal waste is 10%, the cost per kg
9  1,000
of coal charged to production will be i.e. Rs. 10 per kg.
(1,000 − 100)
Abnormal waste is transferred to the Costing Profit And Loss A/c.
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2. Scrap: It is the incidental residue from certain type of manufactures, usually of small amounts and
low value, recoverable without further processing. Scrap may be treated in cost accounts as follows:
i) When value of scrap is negligible no entry is passed i.e. the cost of scrap is borne by the good
units. The sale of scrap is treated as other income in Profit and Loss A/c.
ii) Where the value of scrap is significant and cannot be identified with a particular job then sale
of scrap is credited to factory overhead A/c i.e. factory overheads are reduced.
iii) Where the value of scrap is significant and the scrap is identified with a particular job or
process, the scrap A/c is charged with full cost and the profit or loss on realisation of scrap
will be transferred to Costing Profit And Loss A/c.
3. Spoilage: It refers to materials which are so badly damaged in manufacturing operation that they
cannot be rectified economically and hence are removed from the process and disposed off. Normal
spoilage cost are production costs and charged to the specific production order or changed to
production overhead so that it is spread over all products. Any sale proceeds from spoilage are
credited to the production order or production overhead A/c. Abnormal spoilage costs are charged
to costing Profit And Losses A/c.
4. Defectives: Those units of output which do not meet quality requirements and / or have minor
defects, but which can be rectified and turned out as good units by the application of additional
material, labour or other service. Defectives may arise due to substandard materials, bad
supervision, bad planning, poor workmanship, improper inspection etc. Defectives may be sold as
inferior products (seconds) at lower prices. In case the defectives are rectified then the cost of
rectification is added to the total production cost and observed by all units. If the defectives are not
rectified and sold as seconds, the cost of good units will be:
𝑻𝒐𝒕𝒂𝒍 𝑴𝒂𝒏𝒖𝒇𝒂𝒄𝒕𝒖𝒓𝒊𝒏𝒈 𝑪𝒐𝒔𝒕 − 𝑺𝒂𝒍𝒆 𝑽𝒂𝒍𝒖𝒆 𝒐𝒇 𝑫𝒆𝒇𝒆𝒄𝒕𝒊𝒗𝒆𝒔
𝑮𝒐𝒐𝒅 𝑼𝒏𝒊𝒕𝒔
Losses due to Obsolescence: Obsolescence mean the loss in the value of an asset due to its
suppression. In case of obsolescence, material held in stock is a total loss and should be immediately
disposed off. Since this loss is of an abnormal Rs. it is transferred directly to Costing Profit And Loss
A/c.
5. MANAGEMENT AND CONTROL OF MATERIAL
Material Control:
It has been defined by I.C.M.A. as “the function of ensuring that sufficient goods are retained in stock to
meet all requirements without carrying unnecessarily large stocks”.
Inventory Control refers to the techniques of maintaining stocks at desired level with the aim of minimising
cost.
(A) Ordering Quantity:

One of the main decisions to be taken by every organisation is how much of each item to buy at a time.
Buying in large quantities implies higher inventory levels and therefore higher carrying cost. On the other
hand small orders would reduce the carrying costs of inventory but the ordering cost would increase.
Economic Order Quantity may be defined as that level of inventory order that minimises the total
cost of inventory management.
EOQ is that level, where Total Ordering Cost and Total Carrying Cost is equal. It is based on an assumption
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that PURCHASE / BASIC COST remains same.
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The formula for calculating Economic Order Quantity is as below:

𝟐×𝐴𝑛𝑛𝑢𝑎𝑙 𝑪𝒐𝒏𝒔𝒖𝒎𝒑𝒕𝒊𝒐𝒏 𝒐𝒇 𝑹𝑴 × 𝑶𝒓𝒅𝒆𝒓𝒊𝒏𝒈 𝑪𝒐𝒔𝒕 𝑷𝒆𝒓 𝑶𝒓𝒅𝒆𝒓
EOQ = √ 𝑪𝒐𝒔𝒕 𝒐𝒇 𝒄𝒂𝒓𝒓𝒚𝒊𝒏𝒈 𝑰𝒏𝒗𝒆𝒏𝒕𝒐𝒓𝒚 𝒑𝒆𝒓 𝒖𝒏𝒊𝒕 𝒑.𝒂.
𝟐×𝑨×𝑶
EOQ = √
𝑪
Example -
Calculate EOQ and the number of purchase orders to be placed in a year of material ‘A’ from the following
data -
Total annual consumption = 120,000 units
Purchase price of material ‘A’ = Re. 10 / unit
Ordering Cost = Rs. 75.00 per order
Cost of carrying Inventory = 20% per annum
Solution -
2  1,20,000  Rs.75
EOQ =
Re . 10  20%
= 3,000 units
Therefore, Number of Purchase orders to be placed during the year is four.
Let’s cross verify this answer with the help of the following table:
Table showing Cost of Inventory Management:
Order No. of Ordering Average Cost of Total
Sr.
Size Orders Cost p.a. Inventory carrying Cost
No.
(Units) p.a. @ Rs. 75 (Units) @ 20% (Rs.) (Rs.)
1 2 3 4 5 6 7=4+6
1. 12,000 10 750 6,000 12,000 12,750
2. 9,000 13.33 1,000 4,500 9,000 10,000
3. 6,000 20 1,500 3,000 6,000 7,500
4. 3,000 40 3,000 1,500 3,000 6,000
5. 1,000 120 9,000 500 1,000 10,000
6. 500 240 18,000 250 500 18,500
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From the above table, it can be noticed that the total cost of inventory management is minimum when the
order size is 3,000 units. At this point the ordering cost and carrying cost is equal at Rs. 3000 each.
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It may further be noticed that, as the order size decreases, the ordering cost is increasing but carrying cost
is decreasing. On the other hand, when the order size is increasing, the ordering cost is decreasing, but
carrying cost is increasing. The optimum point is one at which the ordering cost and carrying costs are
equal and the total cost is minimum. It can be graphically presented.
(B) Levels of Inventory:

For the purpose of inventory management and control, the Management fixes various levels of inventory
namely, Maximum Level, Minimum Level, Ordering or Reordering level, Danger level, etc. These levels are
affected by the following three factors:
1. Usage Rate: It is the rate/speed of consumption of material by the production/service department.
2. Lead Time: It is the time gap required between placing an order and actual receipt of the material.
3. Reorder Quantity: It is the quantity of material to be ordered at each point of time. Generally it is
the Economic Order Quantity.
Levels:
1. Re - order Level: It is the level of stock at which point an action for purchase of material is taken.
This level is fixed somewhere between maximum and minimum levels. Sufficient to meet the
requirement of production till such time as the order materializes and supplies are delivered. This
level is calculated using the following formula -
Reorder level = (Maximum Usage Rate x Maximum Lead Time)
Reorder level = Safety Stock + (Maximum Usage Rate x Maximum Reorder period)
(With Safety Stock)
2. Minimum Level: It is the quantity of material that must be maintained in hand at all times so that
there is no stoppage of production due to non-availability of material. It is calculated as follows -
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Minimum Level = Reorder level - (Average usage rate x Average lead time)
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3. Maximum Level: This 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. It is calculated with the help of the following formula -
Maximum Level = Reorder level - (Minimum usage rate x minimum lead time)
+ Reorder Quantity --------EOQ
4. Average Level: It is the quantity of stock which is held by the stores department on an average. It is
calculated as follows -
Average level = 1/2 (Minimum level + maximum level)
OR
= (Minimum level + 1/2 EOQ)
5. Danger Level: This is a level fixed usually below the minimum level. When the stock goes down to
this level, an urgent action for purchase is taken. This level is fixed by the management on adhoc
basis.
Danger Level = Average Consumption x Emergency Delivery Time
(C) ABC Analysis:

This method of stores control is based on the concept of “Management by exception” or “Selective
Inventory Management”. It is an analytical method of material control that aims at concentrating efforts
in those sectors where attention is needed most. It is also called as “Always Best Control” Method.
Under this method, the total number of items of materials are classified into three categories namely A, B,
and C according to their value, availability, importance, etc.
It is generally observed that a very less percentage of the total items (say 5 to 10%) account for a high
percentage of the total value of materials consumed (say 60 to 70%). These items are classified under
category ‘A’.
Similarly, the items which account for 15 to 20% of the total number of items may have 15 to 20% of the
total value of materials, which are classified under category ‘B’.
The another set of items which are around 60 to 70% in terms of quantity may hardly account for 5 to 10%
of the total value of materials consumed during the year, these are classified under category ‘ C ’.
Once the total number of items are grouped under these three categories, the management can now focus
their attention more on category ‘A’ items and relatively low on category ‘B’ and ‘C’ items.
An example of ABC Analysis can be given as follows:
Category Number of % of Total Total Annual % of the
Items No. of items Usage Value Total Value
(Units) (Rs.) (Rs.)
A 300 6% 5,60,000 70%
B 1,500 30% 1,60,000 20%
C 3,200 64% 80,000 10%
Total 5,000 100% 8,00,000 100%
(D) Perpetual Inventory and Continuous Stock Taking:

2.15
The system of material control while it is in storage on a continuous basis is known as “Perpetual
Inventory System”. In this case, the balance of materials in hand can be noted at any point of time. The
two main functions of the perpetual inventory system are:
CH.
2
(a) Recording store receipts and issue so as to determine at any time the stock in hand, in quantity or
value or both, without the need for physical count of stock.
(b) Continuous verification of the physical stock with reference to the balance recorded in the stores
records, at any frequency, as convenient for the management.
Perpetual Inventory System is therefore comprised of:
(i) Bin Cards
(ii) Stores Ledger and
(iii) Continuous Stocktaking.
Periodic Stock Verification:

This is another system of stock verification in which the entire stock is verified all at a time at periodic
intervals, usually once a year. It is advantageous to have the stock verification at the close of the annual
accounting period so as to facilitate valuation of stores for preparation of the final accounts. An alternative
practice is to arrange the verification in such a manner that it coincides with a slack period of business
activity. Periodic stock taking usually necessitates the shut down of the factory and it should therefore be
completed as quickly as possible. Stock may also be verified at intervals of less than a year if so desired by
the management, but it will prove to be too expensive. Periodic Stock Verification is however necessary
for stores that do not find place in the perpetual inventory records. Such as work-in-progress, consumable
stores and components drawn from stores but not fully utilized, finished goods, Capital assets, loose tools
and spares lying in the shops, measuring devices and tools in the custody of inspection staff, etc. Sometimes
management prefer to have annual stocktaking for selected items in addition to continuous stock
verification to have a double check.
Advantages of Continuous Stock Taking over Periodic Stock Verification:

(a) Physical stocks can be counted and book balances be adjusted whenever desired without waiting for
the entire stocktaking.
(b) Prompt availability of stock figures enables quick compilation of Profit and Loss Account for interim
periods.
(c) Discrepancies are easily located and thus corrective action can be promptly taken to avoid their
recurrence. Periodical checking of stores also fixes responsibilities and has a moral check on the
staff. This lessens the risk of loss, pilferage, theft, etc.
(d) Fixation of the various levels and check of actual balances in hand with those levels assist the
storekeeper in maintaining the stocks within limits and helps in initiating purchase requisitions for
correct quantity at the proper time.
(e) Correct stock figures are readily available for insurance purpose and for seeking financial limits
against stocks from banks.
(f) A systematic review of perpetual inventory reveals the existence of surplus, dormant, obsolete and
slow-moving materials so that remedial measures may be taken on time.
Inspite of its various advantages, the perpetual inventory system has some limitations as well. Unless the
bin cards and the stores ledger are kept up-to-date, effective control cannot be exercised and the work of
continuous stocktaking is hampered. The necessity for an agreement between the bin cards and stores
ledger balances further aggravates (increases) the problem.
(E) Two Bin System:
Under this system each bin is divided into two parts:-
2. 16
One, the smaller one to stock the quantity equal to the minimum stock or even the re - ordering level and
the other to keep the remaining quantity. Issues are made out of the larger portion but as soon as it
becomes necessary to use quantity out of the smaller portion fresh order is placed.
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STUDY CONCEPTUALLY
2
(F) Control Ratios:
i. Input Output Ratio: It is the ratio a quantity of input of material to production and the standard
material output. This ratio enables comparison of actual consumption and standard consumption.
ii. Inventory Turnover Ratio
Cost of material consumed during the period
=
Average stock held during the year
Opening stock + Clo sin g Stock
Average Stock =
2
This ratio is useful for finding fast moving and slow moving items.
6. PRACTICAL PROBLEMS
IN-CLASSROOM PROBLEMS PRACTISE PROBLEMS SELF-ASSESSMENT PROBLEMS

Essentials Growth Maturity
Q1. Stores Ledger Basic Question (FIFO, LIFO, SAM, WAM) REG. PAGE NO.
From the following transactions extracted from the books of accounts of a manufacturing concern,
calculate –
(i) Value of Consumption of Raw Materials and
(ii) Value of Closing Stock as on 31st August
under the following methods of pricing issues (both Periodical and Perpetual Valuation) -
(a) First-In-First-Out (FIFO) (b) Last-In-First-Out (LIFO)
(c) Simple Average Method (d) Weighted Average Method
The data is as follows -
August Quantity Rate per unit
in units Rs.
01. Opening Stock 300 9.70
02. Purchases 250 9.80
11. Issue 400
15. Purchase 300 10.05
20. Issue 210
25. Purchase 150 10.30
29. Issue 100
Q2. Stores Ledger Advanced Question (ICAI SM Q8) REG. PAGE NO.
AT Ltd., furnished the following store transactions for September 2021 -
01.9.21 Opening balance 25 units value Rs. 162.50
04.9.21 Issued Req. No. 85 8 units
06.9.21 Receipt from B and Co, GRN No. 26 50 units @ Rs. 5.75/unit
07.9.21 Issue Req. No. 97 12 units
10.9.21 Returns to B and Co. 10 units
12.9. 21 Issues Req. No. 108 15 units
13.9.21 Issue Req. No. 110 20 units
15.9.21 Receipts from M and Co, GRN No. 33 25 units @ Rs. 6.10/unit
17.9.21 Issues Req. No. 121 10 units
19.9.21 Received replacement from B and Co, GRN No. 38 10 units
20.9.21 Returned from Production dept. material of B & Co. MRR No. 4 5 units
22.9.21 Transfer from Job 182 to Job 18 in department MTR No. 4 5 units
26.9.21 Issues Req. No. 146 10 units
2.17
29.9.21 Transfer from Dept.-A to Dept.-B MTR No. 10 5 units

30.9.21 Shortage in stock taking 2 units
Write up the priced stores ledger on FIFO method & discuss how would you treat the shortage in stock
taking.
CH.
2
Q3. Stores Ledger (FIFO, LIFO, WAM) (ICAI SM Q9) REG. PAGE NO.
The following information is extracted from the Stores Ledger:-
Material X
Opening Stock Nil
Purchases:
Jan. 01 100 @ Rs. 1 per unit
Jan. 20 100 @ Rs. 2 per unit
Issues:
Jan. 22 60 for Job W16
Jan. 23 60 for Job W17
Compute the receipts and issues valuation by adopting the First - In - First - Out, Last - In - First - Out and
the Weighted Average Method. Tabulate the values allocated to Job W16, Job W17 and closing stock under
the methods aforesaid and discuss from different points of view which method you would prefer.
Q4. Calculation of Landed Cost, Unloading Charges REG. PAGE NO.

The following details are available in respect of a consignment of 1,250 kgs. of material ‘X’:
(a) List Price - Rs. 20 per kg;
(b) Trade Discount - 10% on List price;
(c) Excise Duty - 25% on Invoice price;
(d) GST - 8% on Invoice price including Excise Duty;
(e) Insurance - 1% of Aggregate net price;
(f) Delivery charges - Rs. 250;
(g) Cost of Containers @ Rs. 60 per container for 50 kgs. of material.
Rebate is allowed @ Rs. 40 per container if returned within six weeks, which is a normal feature;
(h) One container load of material was rejected on inspection and not accepted;
(i) Cost of unloading and handling @ 0.25% of the cost of materials ultimately accepted;
On the basis of above you are required to find out the landed cost per kg. of material ‘X’. Assume that Input
Credit is not available.
Q5. Calculation of Landed Cost (ICAI SM Illu.2) REG. PAGE NO.

An invoice in respect of a consignment of chemicals A and B provides the following information:
Chemical-A: 10,000 Kgs. @ Rs. 10/Kg. = Rs. 1,00,000
Chemical-B: 8,000 Kgs. @ Rs. 13/Kg. = Rs. 1,04,000
Basic Custom Duty @ 10% (Credit is not allowed) = Rs. 20,400
Railway Freight Rs. 3,840
A shortage of 500 kgs. in chemical A and 320 kgs. in chemical B is noticed due to normal breakages. You
are required to determine the rate per kg. of each chemical, assuming a provision of 2% for further
deterioration
Q6. Calculation of Landed Cost (ICAI SM Illu.3) REG. PAGE NO.

At what price per unit would Part Number A 32 be entered in the Stores Ledger, if the following invoice
was received from a supplier:
Invoice Rs.
200 units Part Number A 32 @ Rs. 5 1,000.00
Less: 20 % discount (200.00)
800.00
Add: SGST @ 12% 96.00
896.00
Add: Packing charges (5 non - returnable boxes) 50.00
946.00
Notes:
(i) 2 percent discount will be given for payment in 30 days.
(ii) Documents sustaining payment of SGST is enclosed for claiming input credit.
2. 18
CH.
STUDY CONCEPTUALLY
2
Q7. EOQ Basic Question REG. PAGE NO.
Annual usage of raw material 48,000
Purchase price per unit Rs. 25
Ordering cost per order Rs. 180
Carrying cost per unit per annum 12% of purchase price.
From the above information calculate -
i) EOQ.
ii) Nos. of orders placed in a year at EOQ.
iii) How frequently order should be placed at EOQ.
iv) Total ordering cost at EOQ.
v) Total carrying cost at EOQ.
vi) Total cost excluding purchase cost at EOQ.
Q8. EOQ Basic Question (ICAI SM Illu.4) REG. PAGE NO.

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
Q9. EOQ Basic Question (ICAI SM Illu.5) REG. PAGE NO.

(i) COMPUTE E.O.Q. and the total cost for the following:
Annual Demand = 5,000 units
Unit price = Rs.20.00
Order cost = Rs.16.00
Storage rate = 2% per annum
Interest rate = 12% per annum
Obsolescence rate = 6% per annum
(iii) DETERMINE the total cost that would result for the items if a new price of Rs. 12.80 is used.
Q10. EOQ – Evaluation of an Offer (ICAI SM Q2) REG. PAGE NO.

A Company manufactures a special product which requires a component ‘Alpha’. The following particulars
are collected for the year 2008:
(i) Annual requirement of Alpha : 8,000 units
(ii) Cost of placing an order : Rs. 200 per order
(iii) Cost per unit of Alpha : Rs. 400
(iv) Carrying cost % p.a. : 20%
The company has been offered a quantity discount of 4% on the purchase of ‘Alpha’, provided the order
size is 4,000 components at a time.
Required:
(i) Compute the economic order quantity.
(ii) Advise whether the quantity discount offer can be accepted.
Q11. EOQ – Counter Offer (ICAI PYQ M22) REG. PAGE NO.
A company manufactures a product from a raw material, which is purchased at Rs. 60 per kg. The company
incurs a handling cost of Rs. 360 plus freight of Rs. 390 per order. The incremental carrying cost of
inventory of raw material is Re. 0.50 per kg. per month. In addition, the cost of working capital finance on
the investment in inventory of raw material is Rs. 9 per kg. per annum. The annual production of the
product is 1,00,000 units and 2.5 units are, obtained from one kg of raw material.
Required:
i) Calculate the economic order quantity of raw materials.
ii) Advise, how frequently should orders for procurement be placed.
2.19
iii) If the company proposes to rationalise placement of orders on quarterly basis, what percentage of
discount in the price of raw materials should be negotiated?
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2
Q12. EOQ REG. PAGE NO.
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?
Q13. EOQ REG. PAGE NO.

The annual carrying cost of material ‘X’ is Rs. 3.6 per unit and its total carrying cost is Rs. 9,000 per annum.
What would be the Economic order quantity for material ‘X’, if there is no safety stock of material X?
Q14. Inventory Levels (ICAI SM Illu.6) REG. PAGE NO.

Two components, A and B are used as follows:
Normal usage 50 per week each
Maximum usage 75 per week each
Minimum usage 25 per week each
Re-order quantity A: 300; B: 500
Re-order period A: 4 to 6 weeks
B: 2 to 4 weeks
CALCULATE for each component (a) Re-ordering level, (b) Minimum level, (c) Maximum level, (d) Average
stock level
Q15. Inventory Levels (ICAI SM Illu.7) REG. PAGE NO.

From the details given below, CALCULATE:
(i) Re-ordering level
(ii) Maximum level
(iii) Minimum level
(iv) Danger level.
Re-ordering quantity is to be calculated on the basis of following information:
Cost of placing a purchase order is Rs. 20.
Number of units to be purchased during the year is 5,000.
Purchase price per unit inclusive of transportation cost is Rs. 50.
Annual cost of storage per units is Rs. 5.
Details of lead time: Average- 10 days, Maximum- 15 days, Minimum- 5 days.
For emergency purchases- 4 days.
Rate of consumption: Average: 15 units per day,
Maximum: 20 units per day.
Q16. Inventory Levels (ICAI RTP N18) REG. PAGE NO.

M/s Tubes Ltd. are manufacturers for T.V. The following are the details of their operation during the year:
Average monthly market demand 2000 T.V.s
Ordering Cost Rs. 100 per order
Inventory carrying cost 20% per annum
Cost of tubes Rs. 500 per tube
Normal Usage 100 tubes per week
Minimum Usage 50 tubes per week
Maximum Usage 200 tubes per week
Lead time to supply 6 - 8 weeks
Compute from the above:
1. EOQ. If the supplier is willing to supply quarterly 1,500 tubes at a discount of 5%, is it worth
accepting?
2. Maximum level of stock
3. Minimum level of stock
4. Reorder level
2. 20
CH.
STUDY CONCEPTUALLY
2
Q17. Inventory Turnover Ratios (ICAI SM Illu.11) (Similar RTP N21) REG. PAGE NO.
The following data are available in respect of material X for the year ended 31st March 2021.
Rs.
Opening stock 90,000
Purchases during the year 2,70,000
Closing stock 1,10,000
Calculate –
(i) Inventory turnover ratio; and
(ii) the number of days for which the average inventory is held
Q18. Inventory Turnover Ratios (ICAI SM Illu.12) REG. PAGE NO.

From the following data for the year ended 31st March 2021, calculate the inventory turnover ratio of the
two items and put forward your comments on them,
Material A Material B
Rs. Rs.
Opening stock on 1st April 2020 10,000 9,000
Purchase during the Year 52,000 27,000
Closing stock on 31st March 2021 6,000 11,000
Q19. Inventory Turnover Ratios (ICAI PYQ N21) REG. PAGE NO.
XYZ Ltd. uses two types of raw materials – ‘Material A’ and ‘Material B’ in the production process and has
provided the following data for the year ended on 31st March, 2021:
Material A Material B
Rs. Rs.
Opening stock on 1st April 2020 30,000 32,000
Purchase during the Year 90,000 51,000
Closing stock on 31st March 2021 20,000 14,000
(i) You are required to calculate:
(a) The inventory turnover ratio of ‘Material A’ and ‘Material B’.
(b) The number of days for which the average inventory is held for both materials ‘A’ and ‘B’.
(ii) Based on above calculations, give your comments. (Assume 360 days in a year.)
Q20. Ascertainment of Order Size at Differential Pricing REG. PAGE NO.

X Ltd. is reviewing its stock policy, and has the following alternatives available for the evaluation of stock:
(i) Purchase stock twice in a month, 400 units.
(ii) Purchase monthly, 800 units
(iii) Purchase every three months, 2,400 units
(iv) Purchase six monthly, 4,800 units
(v) Purchase annually, 9,600 units
It is ascertained that the purchase price per unit is Rs. 40 for deliveries upto 2,000 units. A 5% discount is
offered by the supplier on the whole order where deliveries are 2,001 to 4,000 units and 10% reduction
on the total order for deliveries in excess of 4,000 units. Each purchase order incurs administration costs
of Rs. 250. Interest on capital and other storage costs are Rs. 12.50 per unit of average stock quantity held.
Calculate the optimum order size.
Q21. Ascertainment of Order Size at Differential Pricing (ICAI SM Q5) REG. PAGE NO.
EXE Limited has received an offer of quantity discounts on its orders of materials as under:
Price per Tone Tonnes number
1,200 Less than 500
1,180 500 and less than 1,000
1,160 1,000 and less than 2,000
1,140 2,000 and less than 3,000
1,120 3,000 and above
The annual requirement for the material is 5,000 tonnes. The delivery cost per order is
2.21
Rs. 1,200 and the stock holding cost is estimated at 20% of material cost per annum.
You are required to advise the Purchase Department the most economical purchase level.
What will be your Answer if there is no discount and price per tonne is Rs. 1,500.
CH.
2
Q22. Determination of Safety Stock REG. PAGE NO.
M/s Tyrotubes trades in four wheeler tyres and tubes. It stocks sufficient quantity of tyres of almost every
vehicle. In year end 2001-02, the report of sales manager revealed that M/s Tyrotubes experienced stock-
out of tyres. The stock-out data is as follows:
STOCK OUT OF TYRES NO. OF TIMES
100 2
80 5
50 10
20 20
10 30
0 33
M/s Tyrotubes loses Rs. 150 per unit due to stock-out and spends Rs. 50 per unit on carrying of inventory.
Determine optimum safest stock level
Q23. Determination of Safety Stock (ICAI SM Illu.8) REG. PAGE NO.

IPL Limited uses a small casting in one of its finished products. The castings are purchased from a foundry.
IPL Limited purchases 54,000 castings per year at a cost of Rs. 800 per casting.
The castings are used evenly throughout the year in the production process on a 360-day-per-year basis.
The company estimates that it costs Rs. 9,000 to place a single purchase order and about Rs. 300 to carry
one casting in inventory for a year. The high carrying costs result from the need to keep the castings in
carefully controlled temperature and humidity conditions, and from the high cost of insurance.
Delivery from the foundry generally takes 6 days, but it can take as much as 10 days. The days of delivery
time and percentage of their occurrence are shown in the following tabulation:
Delivery time (days) : 06 07 08 09 10
Percentage of occurrence : 75 10 05 05 05
The reorder Level is calculated considering Lead time as 6 days.
Required:
i) Compute the economic order quantity (EOQ)
ii) If a the company is willing to assume a 15% risk of being out of stock. What would be the safety stock
and re-order point?
iii) If a company is willing to assume a 5% risk of being out of stock. What would be the safety stock and
reorder point?
iv) Assume 5% stock-out risk. What would be the total cost of ordering and carrying inventory for one
year?
v) Refer to the original data. Assume that using process re-engineering the company reduces its cost of
placing a purchase order to only Rs. 600. In addition, company estimates that when the waste and
inefficiency caused by inventories are considered, the true cost of carrying a unit in stock is Rs. 720
per year.
a) Compute the new EOQ.
b) How frequently would the company be placing an order, as compared to the old purchasing
policy?
Q24. Determination of Safety Stock REG. PAGE NO.

ABC Ltd.. distributes wide range of Water purifier systems. One of its best selling items is a standard water
purifier. The management of ABC Ltd. uses the EOQ decision model to determine optimal number of
standard water purifiers to order. Management now wants to determine how much safety stock to hold.
ABC Ltd. estimates annual demand (360 working days) to be 36,000 standard water purifiers. Using the
EOQ decision model, the company orders 1,800 standard water purifiers at a time. The lead-time for an
order is 6 days. The annual carrying cost of one standard purifier is Rs. 450. Management has also
estimated the additional stock out costs would be Rs. 900 for shortage of each standard water purifier.
ABC Ltd. has analysed the demand during 200 past re-order periods. The records indicate the following
patterns.
2. 22
Demand during lead time Number of times Quantity was demanded

540 6
560 12
CH.
STUDY CONCEPTUALLY
2
580 16
600 126
620 20
640 10
660 10
200
i) Determine the level of safety stock for standard water purifier that the ABC Ltd. should maintain in
order to minimize expected stock out costs and carrying 'costs'. When computing carrying costs,
assume that the safety stock is on hand at all times and that there is no overstocking caused by
decrease in expected demand (consider safety stock levels of 0, 20, 40 and 60 units)
ii) What would be the ABC Ltd.'s new re-order point?
iii) What factors ABC Ltd. should have considered in estimating stock out costs?
Q25. ABC Analysis (ICAI SM Illu.9) REG. PAGE NO.

From the following details, draw a plan of ABC selective control:
ITEMS UNITS UNIT COST
1 7,000 4.450
2 4,000 19.140
3 1,500 8.900
4 29,000 0.180
5 10,000 8.190
6 40,000 0.450
7 60,000 0.180
8 13,000 0.980
9 10,000 0.205
10 29,000 0.360
11 11,500 6.320
12 4,100 5.220
Q26. ABC Analysis (ICAI SM Illu.10) REG. PAGE NO.

A factory uses 4,000 varieties of inventory. In terms of inventory holding and inventory usage, the
following information is compiled:
No. of Varieties % Value of Inventory % of Inventory usage
%
of Inventory Holding (average) (in end-product)
3,875 96.875 20 5
110 2.750 30 10
15 0.375 50 85
4,000 100.00 100 100
Q27. Deciding Product Mix REG. PAGE NO.

Raw materials ‘AXE’ costing Rs. 150 per kg. and ‘BXE’ costing Rs. 90 per kg. are mixed in equal proportions
for making product ‘A’. The loss of material in processing works out to 25% of the product. The production
expenses are allocated at 40% of direct material cost. The end product is priced with a margin of 20% over
the total cost.
Material ‘BXE’ is not easily available and substitute raw material ‘CXE’ has been found for ‘BXE’ costing Rs.
75 per kg. It is required to keep the proportion of this substitute material in the mixture as low as possible
and at the same time maintain the selling price of the end product at existing level and ensure the same
quantum of profit as at present.
You are required to compute the ratio of the mix of the raw materials ‘AXE’ and ‘CXE.
2.23
CH.
2

Q1. Stores Ledger Basic Question (ICAI SM Illu.13) REG. PAGE NO.
The following transactions in respect of material Y occurred during the six months ended 30th September,
2021:
PURCHASE PRICE/UNIT ISSUED
MONTH
(Units) (Rs.) (Units)
April 200 25 Nil
May 300 25 250
June 425 26 300
July 475 23 550
August 500 25 800
September 600 20 400
Required:
(a) The Chief Accountant argues that the value of closing stock remains the same no matter which method
of pricing of material issues is used. Do you agree? Why or why not? EXPLAIN. Detailed stores ledgers are
not required.
(b) STATE when and why would you recommend the LIFO method of pricing material issues?
Q2. Stores Ledger Basic Question (ICAI PYQ M19) REG. PAGE NO.
The following are the details of receipts and issues of material ‘CXE’ in a manufacturing company during
the month of April 2019:
DATE PARTICULARS QTY. RATE/UNIT
April 4 Purchase 3000 16
April 8 Issue 1000
April 20 Issue 1200
Return to supplier out of purchase made
April 25 300
on April 15
April 26 Issue 1000
Opening Stock as on 01-04-2019 is 1000 Kg. @ Rs.15 per Kg.
On 30th April 2019 it was found that 50 Kg. of Chemical ‘CXE’ was fraudulently misappropriated by the
store assistant and never recovered by the company.
Required:
(i) Prepare a sores ledger account under WAM & LIFO method of pricing the issue;
(ii) What would be the value of material consumed and value of closing stock as on 30-04-19 as per two
methods?
Q3. Calculation of Landed Cost (ICAI SM Illu.1) (Similar RTP M22) REG. PAGE NO.
SKD Company Ltd., not registered under GST, purchased material P from a company which is registered
under GST. The following information is available for the one lot of 1,000 units of material purchased:
Listed price of one lot Rs. 50,000
Trade discount 10% on Listed price
CGST and SGST (Credit Not available) 12% (6% CGST + 6% SGST)
Cash discount 10%
(Will be given only if payment is made within 30 days.)
Freight and Insurance Rs. 3,400
Toll Tax paid Rs. 1,000
Demurrage Rs. 1,000
Commission and brokerage on purchases Rs. 2,000
2. 24
Amount deposited for returnable containers Rs. 6,000

Amount of refund on returning the container Rs. 4,000
Other Expenses 2% of total cost
CH.
STUDY CONCEPTUALLY
2
20% of material shortage is due to normal reasons.
The payment to the supplier was made within 20 days of the purchases.
You are required to calculate cost per unit of material purchased to SKD Company Ltd.
Q4. EOQ Basic Question (ICAI SM Q1) REG. PAGE NO.

Anil & Company buys its annual requirement of 36,000 units in 6 instalments. Each unit costs Rs. 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. CALCULATE, how much money can be saved by Economic Order
Quantity?
Q5. EOQ (ICAI SM Q7) REG. PAGE NO.

PQR Limited produces a product which has a annual demand of 52,000 units. The product requires a
component X which is purchased at Rs. 15 per unit. For every finished product, 2 units of Component X are
required. The Ordering cost is Rs. 350 per order and the Carrying cost is 12% p.a.
Required:
(i) Calculate the economic order quantity for Component X.
(ii) If the minimum lot size to be supplied is 52,000 units, what is the extra cost, the company has to
incur?
(iii) What is the minimum carrying cost, the Company has to incur?
Q6. EOQ (ICAI PYQ M18) REG. PAGE NO.

M/s. X Private Limited is manufacturing a special product which requires a component "SKY BLUE". The
following particulars are available for the year ended 31st March, 2018:
Annual demand of "SKY BLUE" 12000 Units
Cost of placing an order Rs. 1,800
Cost per unit of "SKY BLUE Rs. 640
Carrying cost per annum 18.75%
The company has been offered a quantity discount of 5 on the purchases of "SKY BLUE" provided the order
size is 3000 components at a time.
You are required to:
(i) Compute the Economic Order Quantity.
(ii) Advise whether the quantity discount offer can be accepted.
Q7. EOQ (ICAI PYQ N19) REG. PAGE NO.

Surekha Limited produces 4,000 Litres of paints on a quarterly basis. Each Litre requires 2 kg of raw
material. The cost of placing one order for raw material is Rs. 40 and the purchasing price of raw material
is Rs. 50 per kg. The storage cost and interest cost is 2% and 6% per annum respectively. The lead time for
procurement of raw material is 15 days. Calculate Economic Order Quantity and Total Annual Inventory
Cost in respect of the above raw material.
Q8. ABC Analysis (ICAI PYQ M21 Q1(a) 5M) REG. PAGE NO.
MM Ltd. has provided the following information about the items in its inventory:
ITEMS UNITS UNIT COST
101 25 50
102 300 01
103 50 80
104 75 08
105 225 02
106 75 12
MM Ltd. has adopted the policy of classifying the items constituting 15% or above of Total Inventory Cost
as 'A' category, items constituting 6% or less of Total Inventory Cost as 'C' category and the remaining
items as 'B' category.
You are required to:
2.25
(i) Rank the items on the basis of % of Total Inventory Cost.

(ii) Classify the items into A, B and C categories as per ABC Analysis of Inventory Control adopted by MM
Ltd.
CH.
2

Q1. Stores Ledger Basic Question (ICAI RTP M20) REG. PAGE NO.
Arnav Electronics manufactures electronic home appliances. It follows weighted average Cost method for
inventory valuation. Following are the data of component X:
Date Particulars Units Rate/unit (Rs.)
15-12-19 Purchase Order- 008 10,000 9,930
30-12-19 Purchase Order- 009 10,000 9,780
01-01-20 Opening stock 3,500 9,810
05-01-20 GRN*-008 (against the Purchase Order- 008) 10,000 -
05-01-20 MRN**-003 (against the Purchase Order- 008) 500 -
06-01-20 Material Requisition-011 3,000 -
07-01-20 Purchase Order- 010 10,000 9,750
12-01-20 GRN-009 (against the Purchase Order- 009) 10,000 -
12-01-20 MRN-004 (against the Purchase Order- 009) 400 -
25-01-20 GRN-010 (against the Purchase Order- 010) 10,000 -
Q2. EOQ (ICAI PYQ N20 10M) REG. PAGE NO.

An automobile company purchases 27,000 spare parts for its annual requirements. The cost per order is
Rs. 240 and the annual carrying cost of average inventory is 12.5%. Each spare part costs Rs. 50. At present,
the order size is 3,000 spare parts. (Assume that number of days in a year = 360 days)
Find out:
(i) How much the company's cost would be saved by opting EOQ model?
(ii) The Re-order point under EOQ model if lead time is 12 days.
(iii) How frequently should orders for procurement be placed under EOQ model?
Q3. Inventory Levels (Similar ICAI SM Q4, RTP N20) REG. PAGE NO.
A company uses three raw materials A, B and C for a particular product for which the following data apply
Usage per unit Reorder Price Delivery Period (in weeks)
Raw of product Quantity per
Material (Kgs) (Kgs) Kg Minimum Average Maximum
A 10 10,000 10 1 2 3
B 4 5,000 30 3 4 5
C 6 10,000 15 2 3 4
Weekly production varies from 175 to 225 units, averaging 200 units of the said product.
Calculate all the Inventory Levels for Raw Material A, B and C.
2. 26
CH.
STUDY CONCEPTUALLY
2
7. PAST EXAM THEORY QUESTIONS
Q1. Distinguish between ‘Bill of Material’ and ‘Material Requisition Note’.

Ans.
BILLS OF MATERIAL MATERIAL REQUISITION NOTE
It is document by the drawing office It is prepared by the foreman of the consuming
department.
It is a complete schedule of component parts and It is a document authorizing Store-Keeper to issue
raw materials required for a particular job or Material to the consuming department.
work order.
It often serves the purpose of a Store Requisition It cannot replace a bill of material.
as it shown the complete schedule of materials
required for a particular job i.e. it can replace
stores requisition.
It can be used for the purpose of quotation It is useful in arriving historical cost only.
It helps in keeping a quantitative control on It shows the material actually drawn from stores.
materials draw through stores Requisition.
Q2. “Perpetual inventory system comprises Bin Card and Stores Ledger, but the efficacy of the system
depends on continuous stock taking.” Comment.
Ans. Perpetual Inventory system represents a system of records maintained by the stores department. Records
comprise of (i) Bin Cards and (ii) Stores Ledger. Bin Card maintains a quantitative record of receipts, issues
and closing balances of each item of stores. Like a bin card, the Stores Ledger is maintained to record all
receipt and issue transactions in respect of materials. It is filled up with the help of goods received note
and material requisitions. But a perpetual inventory system’s efficacy depends on the system of continuous
stock taking. Continuous stock taking means the physical checking of the records i.e. Bin cards and store
ledger with actual physical stock. Perpetual inventory is essentially necessary for material control. It
incidentally helps continuous stock taking.
The main advantages of continuous stock taking are as follows:
(1) Physical stocks can be counted and book balances adjusted as and when desired without waiting for
the entire stock-taking to be done.
(2) Quick compilation of Profit and Loss Accounts (for interim period) due to prompt availability of
stock figures.
(3) Discrepancies are easily located and thus corrective action can be promptly taken to avoid their
recurrence.
(4) A systematic review of the perpetual inventory reveals the existence of surplus, dormant, obsolete
and slow-moving materials, so that remedial measures may be taken in time.
(5) Fixation of the various levels and check of actual balances in hand with these levels assist the
Storekeeper in maintaining stocks within limits and in initiating purchase requisitions for correct
quantity at the proper time.
Q3. Write treatment of items associated with purchase of material:

(i) Cash discount
(ii) Subsidy / Grant / Incentives
(iii) VAT or State Sales Tax
(iv) Commission brokerage paid
Ans. Treatment of items associated with purchase of material
Items Treatment
Cash discount Cash discount is not deducted from the purchase price.
Subsidy/Grant/Incentives Any subsidy/ grant/ incentive received from the Government or from
2.27
other sources deducted from the cost of purchase.

VAT or State Sales Tax State Sales Tax/VAT is paid on intra-state sale and collected from the
buyers. It is excluded from the cost of purchase if credit for the same is
CH.
2
available. Unless mentioned specifically it should not form part of cost
of purchase.
Commission or brokerage Commission or brokerage paid is added with the cost of purchase.
paid
Q4. Explain Just-In-Time (JIT) Inventory Management.

Ans. JIT is a system of inventory management with an approach to have zero inventories in stores. According
to this approach material should only be purchased when it is actually required for production. JIT is based
on two principles –
(i) Produce goods only when it is required.
(ii) The products should be delivered to the customers at the time only when they want.
It is also known as ‘Demand Pull’ or ‘Pull Through’ system of production. In this system, production
process actually starts after the order for the product is received. Based on the demand, production
process starts and requirements for raw material is sent to purchase department for purchasing raw
material.
Q5. Explain the terms FIFO and LIFO.
Ans. First-In-First-Out (FIFO) Method: It is a method of pricing the issues of materials, in the order in which
they are purchased. In other words, the materials are issued in the order in which they arrive in the store
or the items longest in stock are issued first. Thus, each issue of material only recovers the purchase price
which does not reflect the current market price. This method is considered suitable in times of falling
price because the material cost charged to production will be high while the replacement cost of materials
will be low.
Last-In-First-Out (LIFO) Method: It is a method of pricing the issues of material. This method is based
on the assumption that the items of the last batch (lot) purchased are the first to be issued. Therefore,
under this method the prices of the last batch (lot) are used for pricing the issues, until it is exhausted, and
so on. If however, the quantity of issue is more than the quantity of the latest lot than earlier (lot) and its
price will also be taken into consideration. During inflationary period or period of rising prices, the use of
LIFO would help to ensure that the cost of production determined on the above basis is approximately the
current one.
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2. 28
“Courage to fulfil vision comes from Passion and not just Position”
-ANSHUL A. AGRAWAL

Chapter-2 Material Cost

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CH.

DIRECT MATERIAL INDIRECT MATERIAL

2. MATERIAL PROCUREMENT PROCEDURE

FORECAST / BUDGET DRIVEN JUST IN TIME

“A MANUFACTURING PLANT MAP”

C. CENTRALISED VS DECENTRALISED PURCHASING:

3. STORAGE, ISSUE AND CONSUMPTION

A. CLASSIFICATION AND CODING OF MATERIALS

MRN – MATERIAL REQUISITION NOTE

Issued and Bin Card Stores ledger

BOM – BILL OF MATERIAL

MTN – MATERIAL TRANSFER NOTE

MATERIAL RETURN NOTE

Date Physical Stock Verification Record: Verified by

Receipts Issues Balances

Date: Verified with Bin Card: Verified by

Following diagram explains well, the basic flow of the budget –

B.O.M. M.R.N. G.R.N.

CA – INTERMEDIATE: COST & MANAGEMENT ACCOUNTING BY CA. CS. ANSHUL A. AGRAWAL

Connect CA. Anshul on

4. VALUATION AND ACCOUNTING OF MATERIAL

A. DIFFERENT METHODS OF PRICING MATERIAL ISSUES:

Cost Price Notional Price Market Price

Standard Price Replacement Price Realisable Value

Specific Price FIFO LIFO HIFO NIFO Average Price

After Every Receipt PERIODICAL MOVING

Re-Issue of Returned Material:

B. MATERIAL COST PRICE, SHORTAGES ETC.:

D. TREATMENT OF WASTE, SCRAP, SPOILAGE AND DEFECTIVE:

5. MANAGEMENT AND CONTROL OF MATERIAL

(A) Ordering Quantity:

that PURCHASE / BASIC COST remains same.

The formula for calculating Economic Order Quantity is as below:

(B) Levels of Inventory:

(C) ABC Analysis:

(D) Perpetual Inventory and Continuous Stock Taking:

Periodic Stock Verification:

Advantages of Continuous Stock Taking over Periodic Stock Verification:

IN-CLASSROOM PROBLEMS PRACTISE PROBLEMS SELF-ASSESSMENT PROBLEMS

29.9.21 Transfer from Dept.-A to Dept.-B MTR No. 10 5 units

Q4. Calculation of Landed Cost, Unloading Charges REG. PAGE NO.

Q5. Calculation of Landed Cost (ICAI SM Illu.2) REG. PAGE NO.

Q6. Calculation of Landed Cost (ICAI SM Illu.3) REG. PAGE NO.

Q8. EOQ Basic Question (ICAI SM Illu.4) REG. PAGE NO.

Q9. EOQ Basic Question (ICAI SM Illu.5) REG. PAGE NO.

Q10. EOQ – Evaluation of an Offer (ICAI SM Q2) REG. PAGE NO.

Q13. EOQ REG. PAGE NO.

Q14. Inventory Levels (ICAI SM Illu.6) REG. PAGE NO.

Q15. Inventory Levels (ICAI SM Illu.7) REG. PAGE NO.

Q16. Inventory Levels (ICAI RTP N18) REG. PAGE NO.

Q18. Inventory Turnover Ratios (ICAI SM Illu.12) REG. PAGE NO.

Q20. Ascertainment of Order Size at Differential Pricing REG. PAGE NO.

Q23. Determination of Safety Stock (ICAI SM Illu.8) REG. PAGE NO.

Q24. Determination of Safety Stock REG. PAGE NO.

Demand during lead time Number of times Quantity was demanded

Q25. ABC Analysis (ICAI SM Illu.9) REG. PAGE NO.

Q26. ABC Analysis (ICAI SM Illu.10) REG. PAGE NO.

Q27. Deciding Product Mix REG. PAGE NO.

IN-CLASSROOM PROBLEMS PRACTISE PROBLEMS SELF-ASSESSMENT PROBLEMS

Amount deposited for returnable containers Rs. 6,000

Q4. EOQ Basic Question (ICAI SM Q1) REG. PAGE NO.

Q5. EOQ (ICAI SM Q7) REG. PAGE NO.

Q6. EOQ (ICAI PYQ M18) REG. PAGE NO.

Q7. EOQ (ICAI PYQ N19) REG. PAGE NO.