COSTING FOR MATERIALS AND CONTROL

One of the objective of cost accounting is to determine the actual cost of product or rendering a
service. In specific term these cost element include material, labour and overheads. Each of this item
of cost are expected to be identified, analysed, computed and presented to management for the
purpose of decisison making. Investment in material is a very important one for most businesses.
Other names given to materials include: Stocks, stores, merchandise, inventory etc. stock has been
defined as: “all the tangible material assets of an organization other than its fixed assets.” Stock
therefore comprises of the following:
- raw materials
- work-in-progress
- finished goods
- merchandise ready for sale
- any parts or materials to be incorporated into a finished product (component parts)
- consumables such as - stationary
Stocks form a significant amount of the assets of organizations. For example on average, two thirds of
a manufacturing business‟ working capital will usually be in stock. Retailers and wholesalers will
often have close to nine-tenth or 90% of their working capital in stock. The value of the assets of a
business and the quality of service offered to customers by the business is heavily and severely
affected by the effective management of stocks. The importance of quality of service to customers
needs no emphasis. The manner in which stores are managed can either define success or failure for
the business. There is no organization which can exist without the use of some items of stores or
material. This includes non profit making organizations as well.

Three aspects of materials to be considered include:

 Material: Purchase, Reception and Storage (Documentation)

 Material: Pricing and Valuation
 Material: Inventory control

MATERIAL DOCUMENTATION: PURCHASE, RECEPTION AND STORAGE

The level of stock held will depend upon a number of variables which will each have cost implications.
Management must make decisions about the control of stock levels with a view to minimizing the cost to
the business whilst achieving maximum efficiency in the availability of materials to fulfill planned usage
requirements. The following stock levels need to be considered:
1. Minimum stock level

This is the lowest level at which stock may be allowed to fall. It is not prudent to allow stock to fall below
the minimum stock level. The following factors determine the minimum stock level:
a) The rate of consumption
b) The delivery period normally allowed
c) The re-order level of materials.

Mathematically, the minimum stock level may be calculated as:

Minimum stock level = Re-order level – (average consumption x average delivery period)

2. Maximum stock level

This is the largest possible quantity of stock that may be in store at any given time. It is not prudent to
maintain a quantity of stock above this level. The following factors determine the maximum stock level.
a. The storage space available
b. The nature of stock such as its perishability and seasonality. In other words, the risk of deterioration.
c. The cost of storing above normal stocks
d. The rate of consumption
e. The re-order quantity
f. The delivery period
g. The re-order level

Mathematically, it is computed as:

Maximum stock level =
Re-order level + Re-order quantity – (minimum consumption x minimum delivery period)

3. Re-order stock level

This is the level at which an order will be placed for additional supplies of material so that delivery will be
made before the business runs out of stock. The factors that influence the re-order stock level are:
a. rate of consumption
b. delivery period - reliability of supplier

Mathematically, it is computed as
Re-order stock level = Maximum consumption x Maximum delivery period

4. Re-order stock quantity or Economic Order Quantity

This is the optimum quantity that should be ordered each time an order is being placed. It is often referred
to as the economic order quantity. It is set in such a way as to optimise material costs. The cost of material
stock is made up as follows:
(1). Costs of holding or Carrying stocks:
a. forgone interest on capital invested in stock.
b. storage charges e.g. rent, lighting and heating, refrigeration, air conditioning etc.
c. stores administration cost
- staff salaries
- equipment maintenance and handling charges
d. Handling costs e.g. cost of packing and unpacking stocks.
e. Stock taking costs or perpetual inventory costs
f. Insurance, security etc.
g. Deterioration and obsolescence
h. Pilferage, damages etc.
(2). Ordering costs or Cost of obtaining stocks
a. Administrative costs associated with purchasing, accounting and receiving goods.
b. Transport costs e.g. carriage inwards
c. Set-up and tooling costs of production runs for internally manufactured goods
d. The purchase price of the stocks
(3). Stock out costs
a. Lost contribution due to lost sales arising from stock out.
b. Loss of future sales because customers will go elsewhere
c. Loss of customer goodwill
d. Cost of production stoppages e.g. idle time pay, not using plant optimally.
e. Labour frustrations over stoppages
f. Extra costs of urgent replenishment purchases
5. Average stock level
This is the midway between the minimum stock level and the maximum stock level. Mathematically, it is
computed as:

Average stock Level = Minimum stock level + Maximum stock level

2
Stock Control Records The following are examples of stock control records.
1. The Bin Card: This is a document which assists the store keeper in the recording of receipts and issues
of materials and the control of stock. The specific format of the bin card will depend on the record system
which is in use.

2. The stock Tally Card: This is another form stocks record form. It is often used for stock items involving
small values. Below is a sample of a Tally Card.

3. The Stock Ledger Card: The stores ledger card shows similar information as that contained in a bin card
or a tally card and additionally records the unit price and total value of all stock received and issued.

OTHER INVENTORY CONTROL TERMINOLOGIES

Perpetual Inventory System This is a system of stock control where records such as the bin card,
tally card, stores ledger account etc. are kept as a perpetual record of receipts and issues of materials.
Thus the system keeps a perpetual record of all stock transactions updated on a continuous basis. The
main objective of such a system is to know the stock level at any particular time, facilitate regular
checking of stock level and to prevent the need for stores closure for stock taking. The records from
the perpetual inventory system should be reconciled with the result of stock count.

Stock Taking This is the physical counting of materials in the store. Stocks of raw materials, work-
in-progress and finished goods are usually subject to a stock take. There are two basic types of stock
taking methods:

1. Annual / Periodic Stock taking

2. Continuous Stock taking

1. Periodic Stock Taking: This is a method of counting stock where the items are counted at the end
of a given period usually, annually or semi-annually.

2. Continuous Stock Taking: This is a method of stock taking where stock items are counted at
frequent intervals on a random rotational basis and the results of the counts reconciled with the
perpetual inventory records.
MATERIAL: PRICING AND VALUATION

When materials are needed from stores, the prospective user prepares a materials requisition to
request for the materials. When the materials are issued out they should be priced. The problem
usually is the price to use. This is because materials in stock may have been purchased at varying
prices from time to time. There are several methods that could be used to price issues. The objectives
of material pricing are:
a. To charge to production on a consistent and realistic basis the cost of materials used and

b. To provide a satisfactory basis of valuing stock at the end of the period

Methods of Pricing Issues and Valuing Stocks There are several methods. Examples are
1. First in First out (FIFO)
2. Last In First Out (LIFO)
3. Simple Average method
4. Weight Average method/Moving Average
5. Standard Price
6. Replacement price
7. Specific Identification
8. Retail method
Review Questions
Question One
A company extracts the following figures from its material analysis sheet for a particular job:
Date Transaction Quantity Unit price Value
N N
January Balance b/f 100 5.00 500
March Issue 80
June Receipt 50 6.00 300
July Issue 40
July Receipt 50 7.00 350
September Issue 70
(a) You are required to cost the materials issued to the job as well as the materials on hand using:
(i) First –in- First- Out (FIFO)
(ii) Last-in First-Out (LIFO)
(iii) Simple Average Price method
(iv) Weighted Average Price method
(b) Calculate the gross profit under FIFO and LIFO assuming the unit price for issues is N5, N8,
and N10 respectively.
(c) Using the two methods, work out the price to be charged for the job based on the following
additional information: Direct labour for the job is N150, Overhead is absorbed at 110% of
materials. It is company policy to make a profit margin of 10% on all jobs.
Question Two

For six months ended 30th June 2002, Haruna Ltd that buys a particular product from Kano and sells
to customers in Zaria has the following transactions in its record. There was an opening balance of
1,000 units valued at N140 each.

Date Quantity bought Cost Per Unit

(Units) (N)
January 1,000 148
March 900 154
May 1,500 158

Date Quantity Sold Price per Unit

February 1,400 200
April 1000 220
June 1,600 230

Required:
(a) Record the above transactions on a store ledger card using (i) LIFO (ii) FIFO (iii) Weighted
Average
(b) Calculate the gross profit during the period under each of the three methods.

MATERIAL: INVENTORY CONTROL

Question One

Explain the following inventory control terminologies

(i) perpetual inventory
(ii) periodic review system
(iii) maximum stock level
(iv) reorder level
Question Two
Using the information provided below, calculate the maximum, minimum, re-order and average stock
levels for Boateng Ltd. Boateng Ltd. manufactures a special product for the domestic market. Records
available at the stores department indicated the following:
Maximum usage - 1200 units per week
Minimum usage - 500 units per week
Re-order quantity - 1500 units per week
Delivery period - between 2 to 4 weeks
Question Three
Edwuma Pa Ye Manufacturing Company Ltd further sought the materials consultant’s advice on
inventory management for production and the commitment of funds for such a purpose. The
consultant recommended two policy strategies:
i. That the company should ensure that sufficient amount of materials are available to reduce
any subsequent shortage risk and subsequent interruptions in production
ii. That working capital should as much as possible not be locked up in excess materials.
The company has decided to implement the above recommendations and had provided the following
data on materials B based on its order schedule and production capacity for the year.
i) 400 Kg of materials B will be used every week for 50 weeks
ii) It will cost 30,000 to make an order
iii) While each cost of the material will cost 1200, it will cost the company an additional 33 1/3%
of that cost every year to carry a kilo of the material 1
iv) While the consumption of material will not exceed 600 kilos in a week, it will not fall below
400 kilos. Usually, it takes between 1 to 3 weeks for suppliers to deliver order that are made.
Required: The Company has requested you to compute:
i) The economic quantity that ought to be ordered
ii) The level at which the company should put in a new order
iii) The maximum level that material B should carry
iv) The minimum level that material B should carry

Question Four
The following data relates to Good Works Company Ltd with respect to material AY4
1. 12,000 units of the material will be used every day for a 360 days year.
2. It will cost N50, 000 to place each order
3. The cost of one unit of AY4 is N12, 000 and it will cost 10% of this amount to hold each unit of
AY4 in store
4. Daily usage of material AY4 will not exceed 12,500 units and will not be less than 11,500 units.
5. The most reliable supplier takes a maximum period of 4 days to deliver but the shortest delivery
period could be 2 days. Determine the (i) ROL (ii) Min and Max Levels (iii) EOQ (iv) Average Stock

Question Five
Ideato Motors, a car assembly plant, buys batteries from an overseas supplier at N20 per battery. The
annual requirement are 25, 000 batteries at a rate of one hundred batteries per working day. The
following cost data are available

Desired annual return on stock investment

N
10% of N20 2.00
Sundry carrying costs per unit per annum 0.50
Total carrying costs per unit 2.50

Cost per purchase order:

Clerical costs, stationery, telephone etc. N50

Required:

i. Prepare in tabular form the total annual relevant costs for each of the following order
quantities; 250, 500, 1000, 2000, 4000, 8000, 16000, 20,000 and 25,000
ii. What is the EOQ for batteries at Ideato Motors? Why?
iii. Given that the lead-time is three weeks, at what level should a new order be placed?