Techniques of Inventory

control

Ms. Shweta Goel

 INVENTORY CO N T RO L

Inventory control is the systematic control and regulation of

purchase, storage and usage of materials in such a way as to
maintain an even flow of production and at the same time
avoiding excessive investment in materials. Efficient
material control reduces loses and wastages of materials that
otherwise pass unnoticed.
 TECHNIQUES OF M AT E R I A L CO N T RO
L
Material control aims at minimizing or eliminating the all
kinds of wastes and losses so as to reduce material cost and
total cost
Material control will be exercised in each stage of material
handling
Different tools and techniques are used for effective material
control
I. Level Setting (stock levels)
II. Economic Order Quantity (EOQ)
III. Just-in-time Inventory System
IV. ABC Analysis
V. VED Analysis
VI. FSND Analysis
 No overstocking: Investment in materials must be kept as
low as possible.

Minimum wastage: proper storage facilities must be

provided for different type of materials in order to avoid
losses arises due to theft, deterioration.
Objectives
of Material Economy in purchasing: Materials should be purchased at
Control favourable price.

No under stocking: Investment in materials under stocking

will lead to delay or stoppage in production. It may result in
to loss of profit.

Information about materials: This system should give

complete and up to date accounting information about the
availability of materials.
STEPS IN INVENTORY
CONTROL

Purchasing of material

Receiving of material

Inspection of material

Storage of material

Issuing of material

Maintenance of inventory records

Stock audit
Purchase Procedure

Purchase department follows the procedure involving following steps :

• Receiving purchase
1
requisitions.
• Exploring the sources of materials supply and selecting suitable material
2
suppliers.
• Preparation and execution of purchase
3
orders.
• Receipt and inspection of
4
materials.
• C hecking and passing of bills for
5
payment.
Purchase Requisition (Stage I)

is a form used for making a formal request to the

purchasing department to purchase materials.
1.This form is usually filled up by the storekeeper for
regular materials and by the departmental head
.
2.The requisition form is duly signed by either works
manager or plant superintendent, in addition to the one
originating it.
Sources Of Material (Stages II)

Purchase department in each business house usually maintains a list of

suppliers

At least three quotations are invited from such suppliers.

For selecting material suppliers the factors which the purchase

department keeps in its mind are—
• price;
• quantity;
• quality offered;
• time of delivery;
• mode of transportation;
• terms of payment;
• reputation of supplier; etc.
Purchase Orders (Stage III)

It is a written request to the supplier to supply certain

specified materials at specified rates and within a specified
period.

Four copies of purchase order are generated and sent to:

• Supplier
• Stores department
• Receiving department
• Accounts department
Inspection of Material (Stage IV)

⯈ The receiving department is responsible for

taking charge of the incoming materials, checking
and verifying their quantities, inspecting them as
regards their grade, quality or other technical
specifications and if found acceptable, passing
them on to the stores (or other departments for
which these might have been purchased).
Acceptance Testing

If everything is in order and the supply is considered

suitable for acceptance, the Receiving department
prepares a Receiving Report or Material Inward Note
or Goods Received Note.
It is prepared in quadruplicate, the copies being
distributed as under :
- Purchase department
- Stores department
- Receiving department
- Cost/Accounting department
Checking & Passing of Bills for Payment
(Stage V)

The invoice received from the supplier is sent to the stores

accounting section to check authenticity and mathematical accuracy.

The quantity and price are also checked with reference to goods
received note and the purchase order respectively.

The stores accounting section after checking its accuracy finally

certifies and passes the invoice for payment. In this way the payment
is made to supplier.
Procedure …….
Material Issue
Material Requisition Note

It is the voucher of the authority as regards issue of

materials for use in the factory or in any of its
departments. Where a ‘Materials List’ has been prepared,
either the whole of the materials would be withdrawn on
its basis or separate materials requisitions would be
prepared by the person or department and the material
drawn up to the limit specified in the list. The Requisition
Notes are made out in triplicate. The copies are
distributed in the following manner:
⯈ Storekeeper
⯈ Cost Department
⯈ Other department requiring it
 Bill of Material (BOM)/ Material
Specification List/ Material List

It isa schedule of standard quantities of materials required for any job

or other unit of production. A comprehensive Materials List should
rigidly lay down the exact description and specifications of all
materials required for a job or other unit of production and also
required quantities so that if there is any deviation from the standard
list, it can easily be detected. The materials List is prepared by the
Engineering or Planning Department in a standard form. The number
of copies prepared vary according to the requirement of each business,
but four is the minimum number. A copy of it is usually sent to each of
the following department :
⯈ Stores department
⯈ Cost department
⯈ Production department
⯈ Planning department
 Transfer of Materials

 The surplus material arising on a job or other units of

production may sometime be unsuitable for transfer to
Stores because of its bulk, heavy weight, brittleness or
some such reason. It may, however, be possible to find
some alternative use for such materials by transferring it
to some other job instead of returning it to the Store
Room.
 Transfer of Materials - 2
It must be stressed that generally transfer of
material from one job to another is irregular, if

not improper, in so far it is not conducive to

correct allocation and control of material cost
of jobs or other units of production. It is only in
the circumstances envisaged above that such
direct transfer should be made, at the time of
material transfer a material transfer note
should be made in duplicate, the disposition of
the copies of this note being are as follows :
⯈ Cost department
⯈ Department making transfer
Some terms ……

• Bin Cards
Store • Stock Control
record
s Cards
• Stores Ledger
Bin Cards & Stock Control
Cards

These are essentially similar, being only quantitative

records of stores. The latter contains further information
as regards stock on order. Bin cards are kept attached to
the bins or receptacles or quite near thereto so that these
also assist in the identification of stock.
The Stock Control Cards, on the other hand, are kept in
cabinets or trays or loose binders.
 Stores Ledger

A Modern Stores Ledger is a collection

of cards or loose leaves specially ruled for
maintaining a record of both quantity and cost
of stores received, issued and those in stock. It
being a subsidiary ledger to the main cost
ledger, it is maintained by the Cost Accounts
Department. It is posted from Goods Received
Notes and Materials requisition.
The quantity of a commodity to be ordered at a time is known as
the EOQ. Answers how much to be ordered?
Determined after considering the carrying costs and ordering
costs
Fixed in such a manner as to minimize the costs associated with
ordering and carrying the stock
Total cost of a particular material consists of its cost of
acquisition, carrying costs and ordering costs
Total cost of material = Cost of acquisition + Ordering cost +
Carrying cost
Since the cost of acquisition remain the same at different levels
(except when discount varies), for determining the EOQ, only
carrying and ordering costs are considered
The cost of holding the material in the store. It includes :-
• Cost of storage space, which can be used for other
purposes
• Cost of bins and racks for keeping the material
• Cost of maintaining material to avoid wastage
• Interest payable on the money locked in material
• Cost of spoilage in stores and handling
• Transportation costs of materials
• Cost of obsolescence
•Insurance and other clerical costs
All these costs are taken together
The cost of placing orders for purchase of materials –
includes:-
• Cost of staff posted in the purchasing department,
inspection section and payment department etc.
related with materials
• Cost of stationery, postage, telephone charges etc.
related with purchase of materials
Thus, include cost of floating tenders, cost of comparative
evaluation of quotations, cost of paperwork, postage,
inspection of materials, cost of accounting and making
payments etc.
The ordering cost varies with the number of orders
 EOQ –the quantity of material that can
economically ordered at a time.
 Major purpose of determining EOQ is to minimize
the carrying and ordering costs and ensuring that
there is no heavy investment in stock

Where
C = Consumption of material in units during a year
O= Cost of placing an order or cost of getting an
item to the firm’s inventory
I= interest payment including variable costs of
storing per unit per year (holding cost)
 Total Cost of
Carrying Carrying
and
Ordering
cost
Costs

ordering cost

EOQ

Quantity
Assumptions of EOQ
• The firm can place any number of orders as it needs
• Prices of the items remain stable which keep carrying
cost constant
• The quantity of the item to be consumed during a
particular period is totally known or the quantity to be
consumed is certain
Difference between EOQ and Re-ordering quantity
Re-order quantity is the quantity for which purchase
order is actually given – may or may not be equal to
the EOQ
In the absence or information of EOQ, Re-order quantity
may be taken as the EOQ
Ques. Find out the EOQ from the following, and also show a
graph identifying EOQ
Annual usage :6000 units
Cost of material per unit: Rs. 20
Cost of placing and receiving an order : Rs. 60
Annual carrying cost of one unit : 10% of inventory value
Answer:

C = Annual Usage of material = 6000 units; O = Cost of

placing one order Rs. Rs. 60; I = annual carrying cost
20X(10/100) = Rs. 2.00
EOQ=
 1 2 3 4 5 6 7 8
Values Per Average Order
Units Per Order @ Inventory Carrying Placing Cost
Annual Order Per Order Per Unit 3 X Cost 60per Per Total Cost
Usage Year Value 6+7
1÷2 20 3x20x½ 10% of 5 Order
3x2 7

6000 1 6000 120000 60000 6000 60 6060

6000 2 3000 60000 30000 3000 120 3120
6000 3 2000 40000 20000 2000 180 2180
6000 4 1500 30000 15000 1500 240 1740
6000 5 1200 24000 12000 1200 300 1500
6000 6 1000 20000 10000 1000 360 1360
6000 7 857 17143 8571 857 420 1277
6000 8 750 15000 7500 750 480 1230
6000 9 667 13333 6667 667 540 1207
6000 10 600 12000 6000 600 600 1200
6000 11 545 10909 5455 545 660 1205
6000 12 500 10000 5000 500 720 1220
6000 13 462 9231 4615 462 780 1242
6000 14 429 8571 4286 429 840 1269
6000 15 400 8000 4000 400 900 1300
 7000

6000
Carrying and ordering costs

5000

Carrying Cost
4000

Ordering Cost
3000
Total Cost

2000
EOQ
1000

0
1 2 3 4 5 6 7 8 9 10 11 12 13 14 15

Number of orders per year

 ILLUSTRATION

1.Calculate EOQ from the following?

Consumption during the year = 600 units
Ordering cost Rs. 12 per order
Carrying cost 20%
Selling Price per unit Rs. 20

2.A manufacturer buys certain equipment form suppliers at Rs. 30 per unit. Total
annual needs are 800 units. The following further data are available:
Annual return on investments 10%
Rent, insurance, storing per unit per year Rs. 2
Cost of placing an order Rs. 100
Required: EOQ
SOLUTION
 Question

JP Limited, manufacturers of a special product, follows the policy of EOQ (Economic

Order Quantity) for one of its component’s details are as follows:
 Purchase Price per Component Rs.200
 Cost of an order Rs.100
 Annual cost of carrying one unit in Inventory- 10% of Purchase Price
 Total Cost of Carrying Inventory and ordering per annum- Rs. 4000
The company has been offered a discount of 2% on the price of the component
provided the lot size is 2,000 components at a time.
You are required to:
Compute the EOQ.
 Advise whether the quantity discount offer can be accepted. (Assume that the
inventory carrying cost does not vary according to discount policy).
 Would your advise differ if the company is offered 5% discount on a single order?
At EOQ
Holding Cost = Ordering Cost Thus,
2,000 Rs. Each
2000 = ½ of EOQ x C
2000 = ½ of EOQ x 20
EOQ = 200 units
Also Calculating, Annual demand

200=
√ 2∗ 𝐴∗ 100 = 4000 units
20
 EOQ Discount

Purchase Price 8,00,000 7,84,000

Carrying Cost 2000 20000

Ordering Cost 2000 200

8,04,000 8,04,200

Not Acceptable
 EOQ Discount

Purchase Price 8,00,000 7,60,000

Carrying Cost 2000 40000

Ordering Cost 2000 100

8,04,000 8,00,100

Acceptable
QUESTION

 ABC Motors purchases 9,000 units of spare

parts for its annual requirements, ordering
one month usage at a time. Each spare part
costs 20. The ordering cost per order is 15
and the carrying charges are 15% of unit
cost. You have been asked to suggest a
more economical purchasing policy for the
company. What advice would you offer, and
how much would it save the company per
year?
 The Purchase Manager of an organization has collected the following
data for one of the A class items.
 Interest on the lockedup 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

 Annual demand 1000 units
 Cost per item 10
 Discount for a minimum order quantity of 500 items is 10% .
 What should be the ordering policy of the Purchase manager?
SOLUTION 38


1. STOCK LEVELS
• Reorder Level
• Maximum Level
• Minimum Level
• Danger Level and
• Average Stock Level
(a). Re-order Level
The point (level or quantity) at which if the stock of a
particular material in the store approaches, the
storekeeper takes initiatives for getting fresh supply of
commodities.
Store keeper prepares purchase requisitions for fresh
supply of materials (takes initiative for getting fresh
supply)
Fixed :-
Between the maximum level and minimum level
After considering the production requirements during
the period to get fresh supply, the time required for
fresh supply etc.
Re-order Level =
Minimum consumption + Consumption
during the time period to get fresh
supply
or
Maximum consumption x Maximum re-
order period to get fresh supply
b). Minimum Level or Safety Level
The quantity of materials to be maintained in hand at all
time.
Ensures availability of materials at all times and production
activity is not interrupted due to lack or shortage of
materials
This level is determined by considering –
• The lead time – time lag between indenting and
receiving material or the time required to replenish the
supply
• Rate of consumption during the lead time and
• Nature of the material
Minimum Level = Reorder Level –
(NormalConsumption X Normal Re-order
Period)
C. Maximum Level
 The maximum quantity of an item of material
which can be held in stock at any time
 Stock should not exceed this level and helps in
avoiding overstocking of an item
 Reduces or eliminates problems of
Overstocking
 Maximum Level= Reordering Level + Reordering
Quantity - (Minimum Consumption X Minimum
Reordering Period)
Maximum level is determined after considering
• Amount of capital available for maintaining stock
• Availability o storage space
• Maximum quantity of the material for production purposes,
• Lead time and consumption during the lead time
• Nature of materials,
• Holding and carrying costs,
• Fluctuation in prices,
• Seasonal nature of supply,
• Legal restrictions (maximum qty that can be kept – fireworks,
explosives),
• Possibility of obsolescence
d. Danger Level
• The level at which normal issues of material are
stopped and issues are made only under specific
instructions.
• The purchasing department will make special
arrangements to get the materials so that
production may not be affected due to shortage of
materials
• Danger Level = Average Consumption X Maximum
Reorder Period For Emergency Purchases
e. Average Stock Level = Minimum Stock Level + ½
of the Reordering Quantity
Units
Level
s

Maximum level
1500

Reorder level
1000

Minimum level
500

Weeks
Question
 A.S. Ltd. produces a product 'RED' using two components X
and Y. Each unit of 'RED' requires 0.4 kg of X and 0.6 kg of Y.
Weekly production varies from 350 units to 450 units
averaging 400 units. Delivery period for both the components
is 1 to 3 weeks. The economic order quantity for X is 600 kgs
and for Y is 1,000 kgs. Calculate:
 (i) Re-order level of X;
 (ii) Maximum level of X;
 (iii) Minimum level of Y.
Question

 The particulars if material A and Material B are as follows:

Normal Usage 10 units per week

Minimum usage 6 units per week
Maximum usage 15 units per week
Re-order quantity Material A: 60 units
Material B: 100 units
Re-order period Material A: 3 to 5 weeks
Material B: 2 to 4 weeks
 Calculate for each material:
I. Reorder Level
II. Minimum level
III. Maximum level
IV. Average stock level
 Example

100 units
Average usage
per week
70 units
Minimum usage
per week
140 units
Maximum usage
per week
Lead time(the time between ordering and replenishment
of goods) 3-5 Weeks

Ordering cost per order Rs 180

Annual cost of carrying a unit in stock Rs 5.2

Required

Calculate:
• Economic Order Quantity
(EOQ)
• Reorder level
• Minimum level
• Maximum level
Reorder level

Re-order level
= (Maximum consumption X Maximum re-order period )
= 140 units X 5
= 700 units
Minimum level

Minimum level
= Re-order level – Average usage in average lead time
= 700 units – (100 units X 4)
= 300 units
Maximum level

Maximum level
= re-order level + EOQ –Minimum anticipated
usage in Minimum lead
= 700 units +600 units – (70 units X 3)
= 1090 units
C. JUST-IN-TIME INVENTORY SYSTEM
• High cost of stores carrying and handling costs
• JIT system become popular
• In this system materials or stores are purchased in such a
way that delivery of purchased items is assured before
their use or demand
• Requires better relationship between the supplier for
making timely supply of materials
• The supplier supplies material as and when required
without any delay so that there is no need for keeping
large quantities of materials at the same time will not
interrupt production process due to shortage of
materials
• Supplier need be a trusty person in all respects
JUST-IN-TIME INVENTORY
SYSTEM
 C. STOCK CONTROL THROUGH ABC
ANALYSIS
• Stores maintain and handle different quantities of
materials with different cost or values
• In ABC Analysis the stores are divided into three categories
(ABC) on the basis of their values and quantities handled by
the store
• Category A consists of materials of high value but constitute a
small percentage of total handling of materials. These are high
priced materials and important items. Eg:- constitute 70% of
value of stores but consists of 10% of total material handled.
• Category B consists of materials which constitutes more or less
the same percentage of value and handling of materials.
Relatively less important materials. Eg:- 20% of value of stores
and 20% of handling
• Category C -are materials of less value but constitute a major
part of the materials handled by the store Eg- 10% value but
70% of the total material handled
 ABC contd…
Such an analysis is known as ABC analysis, Stock Control according to
Value
Method, Always Better Control Method or Proportional Parts Value
Analysis Method
Under this technique of material control, materials are listed in “A”,
“B”, and “C” categories in descending order based on money value
of consumption
This technique measures the cost significance of each item
Gives importance to control of items of material belonging to Category
A, then Category B and then category C
Thus, this technique is also known as Control by Importance and
Exception (CIE).
All types of material control (purchase, issue and stores) are
strictly
applied to material belonging to Category A
Such elaborate controls are not exercised in the case of materials
belonging to Category C due to their small value
D. VE D ANALYS I S
• Primarily used for control of spare parts
• Spare parts are divided into three categories (Vital, Essential
and Desirable – VED)on the basis of their relative importance
or criticality in production process
• Vital parts are those, the stock-out of which even for a short
time will stop production for quite some time and where the
cost of the stock-out is very high
• Essential parts are those, the absence of which cannot be
tolerated for more than a few hours or a day and the cost of
lost production is high, and which are essential for the
production to continue
• Desirable parts are those, which are needed but the absence
for a week or so will not lead to stoppage of production
• Some spares, though negligible value may be vital and thus
proper control over them is essential
• This technique can also be applied for materials also whose
procurement is difficult
 FFNSD ANALYSIS
Materials are categorized in descending order of importance of their
usage rate
F - stands for fast moving items that are consumed in a short span of
time
N- stands for normal moving items which are exhausted over a
period of
one year or
S-stands for slow moving items which are not issued at frequent
intervals and expected to exhaust over a period of two years or more
D- stands for dead items and consumption of such items are almost nil –
can also be taken as obsolete items
Stock of fast moving items shall be taken care of continuously and orders
are to be placed very often to avoid stock out such items
Stock of normal items need to checked regularly and orders are to be
placed at regular intervals
Stock of slow moving items are to be reviewed carefully and orders
are
to be given carefully to avoid over stocking
While alternative uses are to be found for dead items