Accounting for Material
Commodities which are used in the production of finished product are called materials. All those items, which are used in the process of producing goods or rendering services, are called materials. It includes all raw materials and supplies like lubricants, fuel and loose tools. Sometimes materials are also denoted by the term inventory of stores.
Types of Materials
- Direct materials:Direct materials cost means the cost of materials that can be identified with and allocated to cost center or cost units. Cost of paper used to print textbook is direct cost since it is main input of the textbook. Thus, main raw materials and necessary components are a few examples of direct materials.
- Indirect materials: Indirect materials cost refers to the material costs, which cannot be allocated but can be apportioned to or absorbed by cost centers or cost units. Cost of materials incurred for repair or a machine used for printing of text is defined as indirect materials cost. Fuel, lubricating oil, materials used for repair, coal, maintenance work, etc. are few examples of indirect materials.
Material Control is a system, which helps to provide the right quality of materials in the right quantity at the right time and right place with the right amount of investment. It involves the planning, operating, organizing and controlling the purchasing, storing and using of materials so as to achieve the objectives of minimizing possible cost of materials and uninterrupted production.
Need for materials control
Materials control is necessary for making an efficient purchase, storing and consumption of materials. Every manufacturing company requires to maintain a materials control system that facilitates efficient purchase, storage and use of the materials. Needs of materials control are given as follow;
- To ensure the availability of materials
- To ensure optimum investment in materials
- To ensure minimum wastage
- To provide information about the availability of materials
- To ensure reasonable price of material
Objective of materials control
Materials control basically aims at efficient purchase, storage and consumption of materials. The following are the objectives of material control;
- To purchase materials at a reasonable price.
- To maintain the cost of materials at the minimum level.
- To protect materials against loss by fire, theft, and leakage.
- To minimize the handling cost and time in storing and using the materials.
- To provide information to management about raw materials, their cost and availability.
- To avoid obsolescence of materials by adopting an appropriate method of material issue.
- To ensure better quality of materials at right quantity and at right time for efficient
Essentials of Materials Control
The main essentials of materials control are as follows;
- There should be to date record of materials
- There should be centralized purchasing
- There should be proper co-ordination between sales, production, purchase, receiving, inspection and storage departments.
- All items in stores should be codified, classified and standardized.
- Issue of materials should be on the basis of requisition.
Material Scheduling or routine
The process set by a manufacturing company to control materials is called store routing. It consists of all the processes involved in proper purchasing, storing and issuing of materials to the concerned departments. The store routing can be summarized as follows:
1. Purchasing and receiving of materials
- Request for purchase of materials
- Inquiry and tender quotation forms issued to potential suppliers
- Selecting a suitable supplier
- Placing the order
2. Storing of materials
- Classification and codification of materials
- Keeping records of the materials in Bin Cards, Store ledger and so on.
3. Issuing of materials
- Requisition form
- Pricing of materials issued
Purchasing involves acquiring materials of right quality, at right quantity, at right time from right source, and at a reasonable price. A separate purchase department should be established to perform purchasing activities. The department which performs purchasing activities in the manufacturing concern in the managed way is termed as purchasing department. The purchasing department plays a very important role in an organization because purchasing has its effect on every vital factor concerning the manufacture, quality, cost efficiency and prompt delivery of goods to customers.
A manufacturing company is required to invest a huge amount of money in purchasing materials. It is, therefore, essential to exercise proper materials and purchase control. Purchase control refers to the purchase of materials of right quality in right quantity at a reasonable price and at a right time. It requires a good amount of attention to the purchasing procedures of materials relating to cost, quality, volume, time and delivery of materials.
Centralized purchasing:Centralized purchasing refers to the purchase of materials by a single purchase department. This department is headed and managed by a purchasing manager. Under centralized purchasing, all purchases are made by the purchasing department to avoid duplication, overlapping and non-uniform procurements. Under this system, the purchasing department purchases the required materials for all the departments and branches of the company.
- It uses specialized knowledge and skill by appointing specialized and expert purchasing staff. • It brings about the economics of bulk purchase.
- It facilitates the standardization of materials.
- It facilitates effective control over purchases, by maintaining an efficient system of ordering, receiving inspection, accounting, etc.
- It ensures consistent policy regarding purchase such as terms of payment, cost of delivery etc. • It brings about economics of centralized accounting of purchase.
- It is expensive due to increase in administration cost of a separate purchase department.
- It is not suitable when plants of departments are located far away from one another or are using different materials.
Decentralized purchasing:Decentralized purchasing refers to purchasing materials by all departments and branches independently to fulfill their needs. Such purchasing occurs when departments and branches purchase separately and individually. Under decentralized purchasing, there is no one purchasing manager who has the right to purchase materials for all departments and divisions. The defects of centralized purchasing can be overcome by the decentralized purchasing system. It helps to purchase the materials immediately in case of an urgent situation.
- It avoids the unnecessary cost of setting up a purchasing department.
- It avoids delay in purchasing because the required material can be easily purchased as and when required.
- Department can get the benefit of localized purchasing.
- Due to the provision of purchase of material by the concerned department the material may be purchased in right quantity and quality.
- There is chance of overstocking and blocks the capital of the company.
- The benefits of a bulk purchase cannot be obtained.
- Fewer chances of effective control of materials.
- Lack of proper cooperation and coordination among various departments.
- There may be lack of special knowledge about purchasing with purchasing staff.
Material Purchasing and Receiving Procedures:
Purchasing of materials involves a number of steps that may be different from one company to another. Generally, the following steps are involved in purchasing and receiving materials:
- Purchasing requisition:Purchasing requisition is a form used to make a formal request to the purchasing department to purchase the materials specified therein. Purchase requisition is received from the storekeeper for all items in regular & irregular use including material required for special maintenance and for any materials required for their department. The purpose of purchase requisition to authorized the purchasing the materials specified there in and provides written record of details of material required.
- Request for quotations or tenders:After receiving a purchase requisition, the next step of purchase procedure is to find convenient and economical sources of supply. The purchase department must maintain a list of suppliers. Selection of a particular supplier is usually made after inviting tenders or quotations from possible sources of supply. It contains detailed information about the availability of goods, price of materials, and terms and conditions of purchasing.
- Purchase order:After completion of the above procedure, the purchase department prepares a purchase order for the supply of materials. The purchase order is a contractual agreement with the suppliers for the supply of materials. It is prepared in five copies, the original copy is sent to the supplier, the second copy for receiving department, third for account department, the fourth for imitating department and the fifth one is retained in the purchasing department for reference.
- Receiving and inspecting materials:The receiving department should perform the action of unloading and receive of material dispatched by the suppliers. The receiving department verifies the materials with the help if a delivery note and a copy of the purchase order after receiving the delivery of goods. It has to verify and check the quantity and physical condition of materials by making a comparison of the purchase order.
- Checking and passing of bills for payment:When the invoices are received from the supplier, they are sent to the stores and accounting departments for the verification of the quantity and price of materials mentioned in the invoices. After checking the required documents, the store department requests the accounting department for making the payment of the invoice to the suppliers.
Store keeping refers to the act of storing materials for their safe custody till these are issued to the production and other departments. It involves receiving, storing and issuing materials. The place where materials are kept is known as ‘store’. The term ‘stores’ has wide meaning and includes raw materials used in production, consumable stores such as oil, grease, etc. tools, patterns, maintenance materials, etc. stock of work in progress and stock of finished goods.
Objectives of storekeeping
- All of proper place for every item of store
- Keep every item of store in fixed place
- Maintain proper and up to date records
- Issuing materials quickly to department
- Classify and codify the materials for easy identification
Types of stores
1. Centralized stores:A centralized store is that store that receives materials for and issues them to all department’s divisions and production floors of the company. Such a store is only one in the company which receives materials for and issues them to all who need them. The materials required for all the departments and branches are stored and issued by only one store.
- Economy in cost
- Better supervision of store
- Better layout and control of stores
- Minimum investment in store
- Less space is occupied
- Better safety and security of stock
- Delay in sending materials to the department and branch.
- Increase in the material handling cost.
- Greater risk of loss by fire.
- Not suitable for a large company.
2. Decentralized Stores:Decentralized stores is that type of store that receives materials for and issues them to only one department and not to the whole company. The decentralized store may be many in the company, as each department has its own such store. Purchasing and handling of materials are undertaken by each and every department separately. Each and every branch has its own store for operation of production activities.
- Saving in material handling cost
- Prompt issue of material is possible
- Storing and control will be easy and effective
- Smooth production will be possible
- Risk of loss by fire can be minimized
- Higher cost of supervision.
- More space is required for individual departments.
- Higher amount of investment is required.
- More time or tock taking and checking.
- Higher cost for staff and stationery.
- Improved technique is less possible for controlling of materials.
3. Centralized stores with sub-stores:This is a mixed store system, a mix of centralized and decentralized stores, under this store system, sub-stores are established in different departments according to the requirement of the company. Sub-store is maintained at each department when the central store is at a distance from the production department. Such sub-stores are managed and controlled by the central store itself. At the beginning of a period, the central store issues a fixed quantity of materials to the sub-stores. At the end of the period, sub-stores send a filled requisition from to the central store to maintain the stock to a pre-determined level.
- Overcoming the demerits of centralized store
- Offering an easier location for storing of materials.
- Avoiding delay in issuing materials.
- Providing services to meet the special needs of individual departments.
- Reducing the internal transportation cost.
- High cost for stationery and staffing.
- High material handling cost.
- More time in stock talking.
- Extra set-up stock taking.
- Complicated store control.
Location of Stores
It refers to the place where stores are situated. The location of stores should be near to the receiving department so that the materials handling charges are at a minimum. There should be an easy excess to all other departments so that the minimum of expenses is incurred in unloading. The stores should be located considering the nature of materials; the bulky materials should be stored nearer to the user’s department to minimize the labour and transport, the planned location charges. In conclusion, the planned location of the store will avoid delay in the movement of materials to the department in which these needed.
A manufacturing company appoints a person for careful storing and safeguarding materials in a store who is called storekeeper. A storekeeper is a person who is the chief of the stores and who is given the responsibility of store management. He is responsible for safeguarding the materials and supplies in proper place until they are required for production activities. A storekeeper should be well-experienced, well-trained, honest and familiar with the tricks of storekeeping.
The main functions (duties & responsibilities) of storekeeper are as follows;
- To maintain a proper record of materials relating to the receipt and issue of materials.
- Checking the physical quantity of materials and verify with a bin card.
- To prevent unauthorized entrance into the storeroom.
- To maintain the stock registers, entering therein all receipts, issues and balance of materials. • To check and control losses due to evaporation, leakage, theft, and so on.
- To arrange for physical verification of store items periodically.
- To keep the stores always neat clean and tidy.
- To supply information of materials, stock position, and so on whenever needed.
Classification and Codification of Materials:
The process of grouping materials on the basis of their nature or usage is known as classification. The process of giving district names and symbols for each item is called codification. A good system of storekeeping requires an appropriate classification codification. Materials are classified either on the basis of their nature or on the basis of their consumption. It can be classified through codified alphabetically or numerically each item of store by giving it a separate stores code number.
- Quick and easy identification of materials.
- Helps ensure proper material control.
- Secrecy of materials.
- Saving time in materials handling.
- Essential for mechanized accounting system.
Recording of Materials Received:
The following are the important store recording methods that are used for keeping records of the various items to store:
- Bin Card: A document used in the stores’ department to show receipt, issue and balance of each item of materials is called bin card. In the bin card, the stock level like minimum stock level, maximum stock level, reorders level of each item are mentioned. All the receipts and issues entries made in bin cards can be supported by relevant documents such as good received notes, materials return notes, stores requisition notes etc.
- Two-bin system:In some manufacturing companies, a bin is divided into two parts: a smaller and a larger one. The smaller bin stores the quantity equal to the minimum quantity and the larger part stores the remaining quantity. The quantity in the smaller part is not issued so long as the quantity is available in the large part. New supply is ordered as soon as the larger bin is empty.
- Store Ledger:A store ledger is a record of stock, both in quantity and value and is maintained by the store accounting section. It consists of the same columns of a bin card, but in addition, there is an amount column in which the value is entered. Thus, this ledger provides information for the pricing of materials issued and the value of materials at any time of each item of stores.
Perpetual Inventory System:
It is also known as Automatic inventory system. Perpetual inventory system is a technique of controlling stock items by maintaining store records in a manner such that stock balances at any point in time are readily available. The terms “Perpetual Inventory” refer to the system of record-keeping and a continued physical verification of the stocks, with reference to store records.
According to Wheldon, perpetual inventory system is a method of recording stores balance after every receipt and issue to facilitate regular checking and to obviate closing down for stock-taking.
The two main functions are:
- Recording store receipts and issues to determine the stock in hand at any time, in quantity or value or both without the need for physical counting of the stock.
- Continuous verification of the physical stock with reference to the balance recorded in the store record is convenient for the management.
- It helps in rapid stock taking which, in turn, helps in the preparation of interim accounts. • A moral check on the store staff to maintain proper stock records.
- The investment in materials and supplies may be kept at the lowest point.
- It is not necessary to stop production so as to carry out a complete physical stocktaking. • Deterioration, obsolescence etc, can be avoided.
- Discrepancies and error can be quickly discovered and remedial action can be taken.
Issue of Materials
Material requisition form
The storekeeper receives materials and other items, stores them carefully and finally issues them for the purpose of production. But the storekeeper must not issue materials unless a properly authorized materials requisition is presented to him. The document, which authorizes and records the issues of materials, is known as material requisition.
Method of pricing material issued
There are various methods, in use, of pricing issues of materials from store. The selection of a suitable method is significant from the viewpoint of cost absorbed and consequently on profit. Materials are purchased specifically for a job. The material issued is charged to the job at its landed cost. Landed cost includes the invoice price, freight, cartage, insurance and control charges on materials.
Some important methods of pricing are as follows:
First-In-First-Out (FIFO) Method
The method in which materials are issued from the store on a first come first serve basis is called FIFO. Under this method, the materials received first in stores are issues first. Materials are issued strictly in chronological order. The first issue is made out of the unit of opening stock, next issue from the first purchase and the closing stock is remained in stock always from the latest purchase.
- This method is easy to understand and operate.
- It is used where transactions are not voluminous and prices of the materials are falling. • This method is suitable for bulky materials with high unit prices.
- Deterioration and obsolescence can be avoided.
- Value of closing stock of materials will reflect the current market price.
- It is improper if many lots are purchased during the period at different prices.
- The objectives of matching current costs with current revenue cannot be achieved under this method. • If the prices of materials are rising rapidly, the current production costs may be understood. • This method overstates profit, especially in inflation.
Last-In-First-Out (LIFO) Method
This method follows the principle that the last items of materials purchased are issued at first. The valuation of the materials issued is made according to the latest purchase price of materials. The closing stocks of the materials are valued always at the earliest prices of the materials. In case of a rising price, this method is suitable because material is issued at current market prices.
- This method is appropriate for matching cost and revenue.
- This method is simple to operate and easy to understand.
- It facilitates complete recovery of material cost.
- It is most suitable when prices are rising.
- Inventory valuation does not reflect the current prices and therefore is useless in the context of current conditions.
- Due to variation of prices, comparison of cost of similar job is not possible.
- Calculations become complicated and cumbersome when rates of receipts are highly fluctuating. • It involves considerable clerical work.
Materials returned to the store
Defective and unused materials are returned to the store. When the materials are returned, they should be treated as receipts and are recorded in the store ledger like purchase of materials. After receiving the returned materials, the storekeeper prepares a Material Return Note, which records the return of unused materials.
Materials returned in the original condition may be based under one of the following methods:
- At the same price at which they were issued
- At the current price of issue
According to the first method, the returned materials are set apart and at the time of next issue, they are priced at the original price rate. This method treats the return as a new purchase but values it at the original price.
Under the second method, the return is priced at the rate at which any material requisition placed on the date would have been priced.