INVENTORY CONTROL TECHNIQUE - AN ANALYSIS

Inventory control aims at estimating and minimizing all kinds of wastes and losses while the material are being purchased, stored, handled, issued or consumed.

Meaning of Inventory:
Inventory comprises of a. Stock of raw materials; b. Stock of Work-in-progress; c. Stock of finished goods; and d. Stock of stores and spares.

Meaning of Inventory control:

Inventory control involves the planning, organizing and controlling the purchase and storage of inventory so as to ensure the availability of inventory a. Of the required quality; b. In the required quantity; c. At the required time; d. At the minimum cost.

Objectives of inventory control:

The main objectives of inventory control are as follows 1. To avoid the situation of under stocking. 2. To avoid the situation of over stocking. 3. To ensure the procurement of materials and stores of the required quality at minimum cost from a reliable source. 4. To minimize the cost.

5. To avoid wastage and losses due to defective or long storage or

from obsolescence. 6. To maintain proper and upto-date records of inventory. 7. To provide the required information to the management so as to help the management in taking inventory decisions.

Techniques of Inventory control:

A number of techniques are used at planning, procuring and holding stage of material cost control. Some of the techniques of inventory control are discussed below: 1. Level Setting. 2. Economic Order Quantity (EOQ).
3. Inventory Turnover Ratio.

4. ABC Analysis 5. VED Analysis. 6. Perpetual Inventory System. 7. Input Output Ratio.

1. Level Setting:
Setting of various stock levels is one of the techniques of inventory control. The main purpose of setting various stock levels is to avoid the situation of under stocking and over stocking. These levels are not permanent but need revision according to the changes in the factors which determine these levels.

Maximum stocks Level:

Maximum stock level is that level of stock above which the stock in hand should not normally be allowed to exceed. It is the largest quantity of a particular material which may be held in the store at any time.

The objectives of fixing the maximum stock level is to avoid the cost of over stocking such as cost of storage, cost of investment in stock, cost of insurance, risk of obsolescence etc. The formula by which maximum stock is computed is Maximum Level = Reorder level + reorder quantity (Minimum consumption minimum reorder period)

Minimum stock level

Minimum stock Level is that level of stock below which the stock in hand should not normally be allowed to fall. It is the lowest quantity of a particular material which must be held in the store at all times. The objectives of fixing the minimum stock level is to avoid the cost of under stocking such as cost of stoppage of production due to shortage of materials like cost of idle labour, cost of idle plant and machinery. The formula for computing that minimum stock level is Min. stock level = Re-order level (Normal consumption normal Re-order period).

Re-order level:
Re-order Level is the level of stock at which fresh order should be placed for replenishment of stock. It is fixed between maximum and minimum levels in such a way that fresh supplies are received just before the minimum level is reached. The objectives of fixing Re-order level is to determine when the fresh order should be placed for replenishment of stock. The formula for computing Re-order level is Re-order level = maximum consumption maximum Re-order period.

Average stock level:

Average stock level indicates the average stock held by organizations. The formula for computing average stock level is Average inventory level = Minimum level + Re-order quantity.

Danger level:

Danger level is the level at which normally issue is of the raw material inventory are stopped and emergency issues are only made on special requisition approved by the competent authority. The objectives of fixing danger level are to deter mine when an argent action is required for fresh supplies of materials. The formula for computing this is Danger level = Avg. consumption Minimum re-order period for emergency purchase.

2. Economic Order Quantity (EOQ):

Re-order quantity is the quantity for which order is placed when the stock reaches Reorder level. It is known as economic order quantity when it is the quantity which is most economical to order. The EOQ technique solves one of the major problems of the inventory management i.e. The order quantity problem by answering to the question: How much inventory should be ordered at a particular point of time? The EOQ may be determined by any of the three following methods: a. Graphical method b. Tabular method c. Formula method The formula method is the generally used method out of the three methods. EOQ may be calculated with the help of the following formula:

EOQ = 2AO/C
Where, A = Annual consumption of input (in units) O= ordering caused for order C= carrying costs per unit p.a.

3. Inventory turnover ratio:

Inventory turnover ratio is one of the techniques of inventory control. It expresses the relationship between the costs of materials consumed and the average stock held. The objective of the inventory turnover ratio is to find outa. Fast moving stock i.e. Stock in great demand. b. Slow moving stock i.e. Stock in low demand.

c. Dormant stock i.e. Stock having no demand at present. d. Obsolete stock i.e. stock no longer in demand. The inventory turnover ratio is computed with the help of the following formula: Inventory turnover ratio = cost of materials consumed during the period cost of average stock held during the period Where, Cost of materials consumed = Opening Stock + Purchases Closing Stock Average stock = (Opening Stock + Closing stock)

4. ABC Analysis:
ABC analysis is a system of inventory control which exercises discriminating control over different items of stores classified on the basis of investment involved. It is based on a principle of management by exception i.e. Concentrate more on critical areas than others. Usually all items of stores are classified into three categories according to give the importance as follows:

Category A

Composition It consists of those items which require large investments but constitutes a small percentage of the two items of stores It consists of those items which require relatively moderate investment but constitute a relatively moderate percentage of total items of stores It consists of those items which requires small investments but constitutes a large percentage of total items of stores

Control High degree of control is exercised by use of various techniques such as Fixing stock Levels like max. level, min. level.

Moderate degree of control is exercised. Orders are placed on a periodic review basis. Lower degree of control is exercised. Orders of large size are placed either after six months or once in a year to minimize ordering cost.

5. VED Analysis
VED analysis is used primarily for control of spare parts. The spare parts can be divided into three categories namely:
a. Vital

b. Essential

c. Desirable The spares, the stock out of which even for a short time with stop production for quite some time and manner cost of stock out is very high on known as vital spares. The spares, 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 a known as essential spares. The desirable spares on those spares which are needed but their absence for even a week or so with not lead to the stoppage of production. VED analysis analyses items based on their criticality in production. It can also be used for those items of materials which are difficult to procure.
6.

Perpetual inventory control:

Perpetual inventory system is defined as "a system of records maintained by the

controlling department which reflects the physical movement of stocks and their current balances." Bin card provides a continuous quantitative record of receipts, issues and balances of each item of stores. Separate bin cards are maintained for each time. It is filled up with the physical movements of goods. Stores ledger provides the continuous quantitative-cum-value records of receipts, issues and balances of each item of store. It is filled up with the physical movements of goods with the help of Goods Received Note, Material Issue Requisitions and Material Return note.

7. Input Output Ratio:

This ratio is used to judge the efficiency in the usage of materials. The ratio indicates the relation between the unit of material put in for production and the units of finished products. Input - output ratio = units of input units of output 100

Sources:1. The internet Books referred: 2. Cost Accounting by Dr. P.C. Tulsian S. Chand and Company Ltd publications. First edition, 2008. 3. Cost Accounting by S.P. Jain and K.P. Narang Kalyani Publishers Twentieth edition, 2008.