Chapter-2 Material Cost

CA – INTERMEDIATE: COST & MANAGEMENT ACCOUNTING BY CA. CS. ANSHUL A.
AGRAWAL
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
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…
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
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MATERIAL PROCUREMENT
FORECAST / BUDGET DRIVEN JUST IN TIME

PURCHASE SYSTEM (JIT) PURCHASE SYSTEM
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“A MANUFACTURING PLANT MAP”
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CA – INTERMEDIATE: COST & MANAGEMENT ACCOUNTING BY CA. CS. ANSHUL A. AGRAWAL
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.

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:-

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 -

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

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
2. 8
B.O.M. M.R.N. G.R.N.
DIFFERENCE BUDGET BIN CARD REQUISITION
PREPARED BY
PREPARED FOR
OBJECTIVE OF
PREPARING
THIS
DOCUMENT
BASIC
CONTENTS

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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.
ix) Realisable Price: Under this method, material issues are priced at a value which the material
would realise if sold in the market.
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.:

SR. INCLUDED IN
EXPENSE HEAD DESCRIPTION
NO. MATERIAL 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
Other Charges the 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
8. Central GST (CGST) CGST is paid on manufacture and supply of goods
and provision of services. If nothing is given, it is
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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 nature 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
Rs. 4,000
2% 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:
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 nature 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 that PURCHASE / BASIC COST remains same.
The formula for calculating Economic Order Quantity is as below:
EOQ =
EOQ =
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
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.
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 -
Minimum Level = Reorder level - (Average usage rate x Average lead time)
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:
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:
(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:-
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.
(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.
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6. PRACTICAL PROBLEMS
TYPE-1 “MATERIAL MANAGEMENT”
Q1. Stores Ledger (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 (FIFO), Stock Shortage, Return & Transfer REG. PAGE NO.
AT Ltd., furnished the following store transactions for September, -
01.9. Opening balance 25 units value Rs. 162.50
04.9. Issued Req. No. 85 8 units
06.9. Receipt from B and Co, GRN No. 26 50 units @ Rs. 5.75 per unit
07.9. Issue Req. No. 97 12 units
10.9. Returns to B and Co. 10 units @ Rs. 5.75
12.9. Issues Req. No. 108 15 units
13.9. Issue Req. No. 110 20 units
15.9. Receipts from M and Co, GRN No. 33 25 units @ Rs. 6.10 per unit
19.9. Received replacement from B and Co, GRN No. 38 10 units
20.9. Returned from Production department material of
B and Co. MRR No. 4 (Req. 121) 5 units
22.9. Transfer from Job 182 to Job 18 in department
MTR No. 4 5 units
29.9. Transfer from Dept. A to Dept. MTR No. 10 5 units
30.9. Shortage in stock taking 2 units
Write up the priced stores ledger on FIFO method and discuss how would you treat the shortage in stock
taking.
Q3. Stores Ledger, Change of Method from LIFO to FIFO, Stock Shortage REG. PAGE NO.
Prepare a Store Ledger Account from the following transactions of XY Company Ltd. April, 2019 -
1 Opening balance 200 units @ Rs. 10 per unit.
5 Receipt 250 units costing Rs. 2,000
8 Receipt 150 units costing Rs. 1,275
10 Issue 100 units
15 Receipt 50 units costing Rs. 500
20 Shortage 10 units
21 Receipt 60 units costing Rs. 540
22 Issue 400 units
The issues upto 10.4.2019 will be priced at LIFO and from 11.4.2019 issues will be priced at FIFO.
Shortage will be charged as overhead.
Q4. Stores Ledger (FIFO, LIFO, WAM) 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.
TYPE-2 “MATERIAL VALUATION”
Q5. Calculation of Landed Cost 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 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.
Q7. 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) Sales Tax - 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.
Q8. Calculation of Landed Cost (Normal & Abnormal Loss) REG. PAGE NO.
A manufacturer of Surat purchased three Chemicals A, B, and C from Bombay. The invoice gave the
following information:-
Rs.
Chemical A: 3,000 Kg. @ Rs. 4.20 per kg 12,600
Chemical B: 5,000 Kg. @ Rs. 3.80 Per kg 19,000
Chemical C: 2,000 Kg. @ Rs. 4.75 per kg. 9,500
Sales Tax 2,055
Railway Freight 1,000
Total Cost 44,155
A shortage of 200 kg. in Chemical A, of 280 kg. in chemical B and of 100 kg. in Chemical C was noticed due
to breakages during transit. At Surat, the manufacturer paid Octroi Duty @ Rs. 1.10 per kg. received. He
also paid cartage Rs. 22 for Chemical A, Rs. 63.12 for Chemical B, and 31.80 for Chemical C. Calculate the
stock rate that you would suggest for pricing issue of chemicals assuming a provision of 5% towards
further deterioration. Give solution under two situations.
Situation I: Loss in Transit is Abnormal Loss.
Situation II: Loss in Transit is Normal Loss.
Q9. Valuation of Imported Material (Normal Loss) REG. PAGE NO.
A manufacturing organisation has imported four types of materials. The invoice reveals the following
data:-
Material Quantity Rate
Kgs U. S. $ per Kg.
A 1,000 1.50
B 2,000 1.25
C 1,500 2.00
D 3,000 1.00
Import duty - 23% of invoice value
Insurance - 2% of invoice value
Freight and clearing - Rs. 30,000
Exchange rate U. S. $ 1 = Rs. 40.00
While determining the value of closing stock 5% allowance is provided to cover up storage loss.
Determine the Stock rate of each type of materials.
TYPE-3 “ASCERTAINMENT OF ORDER SIZE USING E.O.Q”

Q10. EOQ 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.
(i) Compute EOQ and the total variable cost for the following:
Annual Demand = 5,000 units
Unit Price = Rs. 20
Order Cost = Rs. 16
Storage Rate = 2% Per Annum
Interest Rate = 12% Per Annum
Obsolescence Rate = 6% Per Annum
(ii) Determine the total cost that would result for the items if an incorrect price of Rs. 12.80 is used.
The following information relating to a type of Raw material is available:
Annual demand 2000 units
Unit price Rs. 20.00
Ordering cost per order Rs. 20.00
Storage cost 2% p.a.
Interest rate 8% p.a.
Lead time Half-month
Calculate economic order quantity and total annual inventory cost of the raw material.

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?

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.

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.
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?
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?

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?
TYPE-4 “ASCERTAINMENT OF INVENTORY LEVELS”
Q18. Inventory Levels – All REG. PAGE NO.

P Ltd. uses three types of materials A, B, and C for production of ‘X’, the final product. The relevant
monthly data for the components are as given below:-
A B C
Normal usage (in units) 200 150 180
Minimum usage (in Units) 100 100 90
Maximum usage (in Units) 300 250 270
Reorder Quantity (in Units) 750 900 720
Reorder period (in month) 2 to 3 3 to 4 2 to 3
Calculate for each component:
(a) Reorder level; (b) Maximum level; (c) Minimum level; (d) Average Stock level.
Q19. Inventory Levels – All 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.
Q20. EOQ & ROL REG. PAGE NO.

SK Enterprise manufactures a special product “ZE”. The following particulars were collected for the year
2004:
Annual consumption 12,000 units (360 days)
Cost per unit Re. 1
Ordering cost Rs. 12 per order
Inventory carrying cost 24%
Normal lead time 15 days
Safety stock 30 days consumption
Required:
(i) Re-order quantity
(ii) Re-order level
(iii) What should be the inventory level (ideally) immediately before the material order is received?
Q21. EOQ & ROL REG. PAGE NO.

The Ganges Company uses about 75,000 valves per year and the usage is fairly constant at 6,250 per
month. The valves cost Rs. 1.50 per unit when bought in quantities and the carrying cost is estimated to
be 20% of average inventory investment on the annual basis. The cost to place an order and process the
delivery is Rs. 18. It takes 45 days to receive from the date of an order and a safety stock of 3,250 valves
is required.
You are required to determine:-
(i) The economic order quantity and frequency of orders,
(ii) The order point and
(iii) The economic order quantity if the valves cost Rs. 4.50 each instead of Rs. 1.50 each.
Q22. Inventory Levels REG. PAGE NO.

Supreme Limited is a manufacturer of energy saving bulbs. To manufacture the finished product one unit
of component 'LED' is required, Annual requirement of component 'LED' is 72,000 units, the cost being
Rs. 300 per unit. Other relevant details for the year 2015-2016 are:
Cost of placing an order : Rs. 2,250
Carrying cost of inventory : 12% per annum
Lead time -
Maximum : 20 days
Minimum : 8 days
Average : 14 days
Emergency purchase : 5 days
Consumption -
Maximum : 400 units per day
Minimum : 200 units per day
Average : 300 units per day
You are required to calculate:
(i) Re-order quantity
(ii) Re-ordering level
(iii) Minimum stock level
(iv) Maximum stock level
(v) Danger level
Q23. EOQ and Inventory Levels REG. PAGE NO.

ML Manufacturing Ltd. is required 1,000 units of material ‘EX’ on an average for a week which is
purchased at a price of Rs. 30 per unit. The ordering cost is Rs. 150 per purchase order and inventory
carrying cost per unit amounted to Rs. 0.06 per week. The re-order period is 1 to 3 weeks and the weekly
usage of material ‘EX’ varies from 750 to 1,250 units.
You are required to compute:
(i) The Economic order Quantity
(ii) Re-order Stock Level, Minimum Stock Level and Maximum Stock Level.
Q24. ROL REG. PAGE NO.

Re-order quantity of material 'X' is 5,000 kg.; Maximum level 8,000 kg.; Minimum usage 50 kg. per hour;
minimum re-order period 4 days; daily working hours in the factory is 8 hours. You are required to
calculate the re-order level of material 'X'.
Q25. Calculation of Consumption REG. PAGE NO.

Following details are related to a manufacturing concern:
Re–order Level 1,60,000 units
Economic Order Quantity 90,000 units
Minimum Stock Level 1,00,000 units
Maximum Stock Level 1,90,000 units
Average Lead Time 6 days
Difference between Minimum Lead Time and Maximum Lead Time 4 days
Calculate – (a) Maximum Consumption per day, (b) Minimum Consumption per day.
Q26. EOQ and Inventory Levels 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
TYPE-5 “INVENTORY TURNOVER RATIO”
Q27. Inventory Turnover Ratios REG. PAGE NO.

From the following data for the year ended 31st December, 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 January 10,000 9,000
Purchase during the Year 52,000 27,000
Closing stock on 31st December 6,000 11,000
Q28. Inventory Turnover Ratios REG. PAGE NO.

The following data are available in respect of material X for the year ended 31st March 1997.
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
TYPE-6 “ASCERTAINMENT OF ORDER SIZE AT DIFFERENTIAL PRICING”
Q29. 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.

The Purchase Department of your organisation 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
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.

The Purchase Department of your organisation has received an offer of quantity discounts on its order of
materials as under:
Price per tonne (Rs.) Tonnes
1,400 Less than 500
1,380 500 and less than 1,000
1,360 1,000 and less than 2,000
1,340 2,000 and less than 3,000
1,320 3,000 and above
The annual requirement of the material is 5,000 tonnes. The delivery cost per order is
Rs. 1,200 and the annual stock holding cost is estimated at 20 per cent of the average inventory.
The Purchase Department wants you to consider the following purchase options and advise which
among them will be the most economical ordering quantity, presenting the relevant information in a
tabular form.
The purchase quantity options to be considered are 400 tonnes, 500 tonnes, 1,000 tonnes, 2,000 tonnes
and 3,000 tonnes.

The quarterly production of a company's product which has a steady market is 20,000 units. Each unit of
a product requires 0.5 kg of raw material. The cost of placing one order for raw material is Rs. 100 and
the inventory carrying cost is Rs. 2 per annum. The lead time for procurement of raw material is 36 days
and a safety stock of 1,000 kg of raw materials is maintained by the company. The company has been able
to negotiate the following discount structure with the raw material supplier:
Order Quantity Discount
Kgs. Rs.
Upto 6,000 Nil
6,000 - 7,999 400
8,000 - 15,999 2,000
16,000 - 29,999 3,200
30,000 - 45,000 4,000
You are required to:
i) Calculate the re-order point taking 30 days in a month.
ii) Prepare a statement showing the total cost of procurement and storage of raw materials after
considering the discount if the company elects to place one, two, four or six orders in the year.
iii) State the number of orders which the company should place to minimise the costs after taking EOQ
also into consideration.
TYPE-7 “ASCERTAINMENT OF SAFETY STOCK”
Q33. 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

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?

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.
Demand during lead time Number of times Quantity was demanded
540 6
560 12
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?
TYPE-8 “MISCELLANEOUS PROBLEMS”
Q36. 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.
Q37. ABC Analysis REG. PAGE NO.

From the following details, draw a plan of ABC selective control:
ITEMS UNITS UNIT COST
1 7,000 5.00
2 24,000 3.00
3 1,500 10.00
4 600 22.00
5 38,000 1.50
6 40,000 0.50
7 60,000 0.20
8 3,000 3.50
9 300 8.00
10 29,000 0.40
11 11,500 7.10
12 4,100 6.20
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
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
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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“Courage to fulfil vision comes from Passion and not just Position”
ANSHUL A. AGRAWAL
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Chapter-2 Material Cost

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

DIRECT MATERIAL INDIRECT MATERIAL

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2. MATERIAL PROCUREMENT PROCEDURE

FORECAST / BUDGET DRIVEN JUST IN TIME

“A MANUFACTURING PLANT MAP”

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C. CENTRALISED VS DECENTRALISED PURCHASING:

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A. CLASSIFICATION AND CODING OF MATERIALS

MRN – MATERIAL REQUISITION NOTE

2. 4 Follow CA CS Anshul Agrawal on Unacademy’s YouTube Channels and Unacademy App

Issued and Bin Card Stores ledger

BOM – BILL OF MATERIAL

MTN – MATERIAL TRANSFER NOTE

MATERIAL RETURN NOTE

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Date Physical Stock Verification Record: Verified by

Receipts Issues Balances

Date: Verified with Bin Card: Verified by

2. 6 Follow CA CS Anshul Agrawal on Unacademy’s YouTube Channels and Unacademy App

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

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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.:

9. Demurrage It is the penalty imposed by the transporter for delay

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

5. MANAGEMENT AND CONTROL OF MATERIAL

(A) Ordering Quantity:

The formula for calculating Economic Order Quantity is as below:

(B) Levels of Inventory:

(C) ABC Analysis:

Periodic Stock Verification:

Advantages of Continuous Stock Taking over Periodic Stock Verification:

(F) Control Ratios:

The data is as follows -

Q4. Stores Ledger (FIFO, LIFO, WAM) REG. PAGE NO.

TYPE-2 “MATERIAL VALUATION”

Q5. Calculation of Landed Cost REG. PAGE NO.

Q7. Calculation of Landed Cost, Unloading Charges REG. PAGE NO.

TYPE-3 “ASCERTAINMENT OF ORDER SIZE USING E.O.Q”

Q13. EOQ REG. PAGE NO.

Q14. EOQ REG. PAGE NO.

Q15. EOQ REG. PAGE NO.

Q17. EOQ REG. PAGE NO.

TYPE-4 “ASCERTAINMENT OF INVENTORY LEVELS”

Q18. Inventory Levels – All REG. PAGE NO.

Q19. Inventory Levels – All REG. PAGE NO.

Usage per unit Reorder Price Delivery Period (in weeks)

Q20. EOQ & ROL REG. PAGE NO.

Q21. EOQ & ROL REG. PAGE NO.

Q22. Inventory Levels REG. PAGE NO.