LSCM (INVENTORY MANAGEMENT 3121)

CHAPTER THREE
Inventory control system
3.1. Introduction
The inventory of a typical firm is diverse. Therefore, initial planning and subsequent control of
such an inventory is accomplished on the basis of knowledge about each of the individual items
and the finished products. The starting point for sound inventory management is the development
of a complete recording system, followed by different analysis.

Accuracy of records is a critical ingredient in production and inventory system. Record accuracy
allows organizations to focus on those items that are needed, rather than settling for being sure
that "some of everything" is in inventory. Only when an organization can determine accurately
what it has on hand can it make precise decisions about ordering, scheduling, and shipping.
To ensure accuracy, incoming and outgoing record keeping must be good as must be stockroom
security. A well-organized stockroom will have limited access, good housekeeping, and storage
areas that hold fixed amounts of inventory; Bins, sheet space, and parts will be labeled
accurately.

3.2. Inventory classification

3.2.1 ABC classification system or the value volume Analysis

Maintaining inventory through counting, placing orders, receiving stock, and so on takes
personnel time and cost money. When there are limits on these resources, logical move is to try
to use the available resources to control inventory in the best way. In other words, focus on the
most important items in inventory. This means that all inventories cannot be controlled with
equal attention. Some inventories are simply too small or too unimportant to warrant intensive
monitoring and control activity.

The ABC method is one such approach, focusing control efforts on that small percentage of
items that account for the majority of the firm's sales. ABC analysis divided on hand inventory
into three classifications on the basis of annual Birr volume. ABC analysis is an inventory
application of what is known as the Pareto principle. The Pareto principle states that there is a

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"critical few and trivial many". In the nineteenth century Pareto, in a study of the distribution of
wealth in Milan, found that15 to 20 percent of the people controlled 75—80*% of the total
annual inventory value/wealth.
The letters “A,” “B,” and “C” refers to different classes of items
A. high value items: 15 to 20 percent of the items that account for 75 to 80 percent of the total
annual inventory value i.e., it accounts for a high birr usage volume.
B. Medium value items: 30 to 40 percent of the item that account for approximately 15 to 25
percent of the total annual inventory or those items that are moderately important and account for
a moderate birr usage volume.
C. low value items: The 60 to 70 percent of the items that account for 10 to 15 percent of the
Annual inventory or those items that is least important and account for a low birr usage volume.

Class A item are those on which the annual birr volume is high although such items may
represent only about 15% or less of the total inventory items, they roughly represent 70%-80% or
more of the total Birr usage. Class B items are those inventory items of medium annual birr
volume. These items may roughly represent about 30% of inventory items and 15% to 25% of
the total value. Those with low birr volume are class C, which may roughly represent only 5% of
the annual birr volume but about 55% or more of the total inventory items.
ABC analysis procedure
1. Compute the annual usage value of each and every item of all the products using the
formula: Annual usage (Annual consumption) X (unit price)
2. Arrange the items in the descending order of the usage value computed in step1
3. Observe how your classification fits into A, B & C.

Example 1: A business firm has organized its 10 inventory items on an annual birr-volume basis,
shown below are the items (identified by stock number), their annual demand, unit price, annual
birr volume, and the percentage of the total represented by each item. In the table below, we use
to show these items grouped into ABC classifications.

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Table 3.1
Percent of annual
Item Percent of Annual unit Annual
Dollar volume
stock number of Volume X cost = Dollar Class
number items stocked (units) volume

#10286 20 1000 $90,000 90,000 38.8% A

72%
# 11526 500 $154,00 77,000 33.2% A

#12760 1,550 17 26,350 11.3% B

#10867 30% 350 42.86 15,001 6.4% 23% B
#10500 1000 12.50 12,500 5.4% B

# 12572 50% 600 1417 8,502 3.7% C

#14075 2000 .60 1,200 .5% C
#01036 100 8.50 850 .4% 5%
C
#01307 1,200 .42 504 .2%
C
#10572 250 .60 150 .1%
8,550 $232,057 100.0%
Policies that may be based on ABC analysis include the following
1. Purchasing resources expended on suppliers’ development should be much higher for
individual A items than for C items.
2. A item as opposed to B& C items, should have tighter physical inventory control:
perhaps they belong in a more secure area, and perhaps the accuracy of inventory record
for A items should be verified more frequently.
3. For casting A items may warrant more care than forecasting other items.

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The following table summarizes the use of the ABC control system.
A items
Features B items C items

Level control Monitor closely & Maintain moderate control Maintain lose control
maintain tight control
Reorder Based on forecasted Based on EOQ calculations & When level of inventory
requirements past experience
Record keeping Keep detailed records of Use periodic inspections and No records required
receipts and control procedures
disbursements
Safety stock Low level of safety Moderate levels of safety High level of safety
stock stock stock
Inspection Frequent monitoring Periodic checks on changes in Few checks on
frequency schedule changes requirements requirements
Purchasing Centralized as many as Combination two/more Decentralized two
supply source possible reliable sources reliable sources

3.2.2. Other method of Analysis

VED (Vital, Essential, Desirable) Analysis

When the inventory is classified according to its criticality, i.e., according to the cost of incurring
a stock-out, the technique is called VED analysis. The ‘V’ class items are vital without which the
production in an industry will immediately stop. Non-availability would affect the performance
(efficiency), but without which the system would not fail. The 'D' class items are desirable
without which the production is unaffected, but it is good if they are available, for the state of
efficiency and less fatigue. VED analysis can be used in the case of special raw materials that are
difficult to obtain.

SDE analysis

This type of analysis is useful in the study of those items, which are scarce in availability. The 'S'
class items are scarce items, e.g., imported items, which are generally in short supply. The 'D'

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class stand for difficult items, which are available in the market but not always traceable or
immediately supplied, and 'E' class items are easily available in the market.

HML analysis

This type of analysis is similar to ABC analysis except that cost per item (per unit) is taken.
Maximum or highest (H) cost are given top priority, then M (medium cost items) and finally L
(the low-cost items).

FNSD Analysis

Items are classified in the descending order of their usage (movement) value, namely 'F' class
standing for fast moving items, 'N' class for normal moving items, 'S' class for slow moving
items and 'O' class for dead items, which are transferred to disposal cell.

This method is used to combat obsolescence in all types of inventories. The analysis also helps in
arranging stocks in the stores a deciding the distribution of inventory items. The cut off point for
F, S and D items are usually in terms of the number of issues over the past year(s).

XYZ Analysis

The XYZ classification has the closing inventory as the basis of classification. Items with high
closing inventory are classified as 'X' items those with moderate closing inventory as 'Y' items
and those with low closing inventory as 'Z' items. The classification is done usually once a year,
during the annual stocktaking. The XYZ analysis helps in identifying the items that are being
stocked extensively. One can combine ABC analysis with XYZ analysis, which helps in timely
prevention of over stocking of items. We can also combine XYZ analysis with FNSD analysis.

Classification
Basis of classification Main use
technique

ABC Consumption value Controlling raw material & work in

progress inventories

VED Criticality Controlling the inventory level of spare

parts

SDE Scarcity Controlling the inventory of scarce

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items

HML Cost Controlling the over consumption at

departmental level

FNSD Consumption or Controlling obsolescence

movement rate

XYZ Closing inventory value Controlling over stocking and under

stocking of items

Generally speaking, three basic systems can be employed in controlling inventories:

1. The cyclical ordering system

2. The order point, or fixed order quantity system and
3. The material requirements planning
3.2.1 Cyclical ordering system

This is also known as periodic review system or fixed order interval system which is a time-
based system which involves scheduled periodic reviews of the stock levels of all inventory
items, When the stock level of a given item is not sufficient to sustain the production operation
until the next scheduled review, and order is placed to replenish the supply. The frequency of
reviews varies from firm to firm. It also varies among materials within the same firm, depending
upon the importance of the material, specific production schedules, market conditions, and so on.
Order quantities likewise vary for different materials. For administrative convenience, however
each material's order quantity is usually chosen from a small number of predetermined coverage
periods. (For example, all order quantities may represent operating coverage for two weeks, four
weeks, eight weeks or twelve weeks).

Stock level can be monitored by physical inspection, by a visual review of perpetual inventory
cards, or by automatic computer surveillance. In operations where a small number of materials
are involved, the simplest and most accurate method is a periodic physical count of the stock.
Where this is not practical, a perpetual inventory record for each material can be maintained by
posting receipts from invoices and disbursements from stores material requisitions. If this

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procedure is closely controlled, the inventory record for each material should at all times be in
reasonably close agreement with the actual stock balance.

The system can, of course, be used for all materials in an inventory; used in this manner,
however, it possesses three distinct disadvantages;

1. It compels a periodic review of all items; this in itself makes the system somewhat
inefficient. Because of difference in usage rates, many items may not have to be ordered until
the succeeding review. Conversely, the usage of some items during the period may have
increased to the point where they should have been ordered before the current review date.
Consequently, this system must be augmented with a minimum balance figure which signals
the need for an early reorder in the case of a sharp usage increase.

2. The system demands the establishment of rather inflexible order quantities in the interest of
administrative efficiency. Theoretically, there exists an optimum economic order quantity of
each item, depending upon its price structure, its rate of usage, and attendant internal costs.
However, because all items must be fit reasonably well into a limited number of ordering
cycles under this system, actual order quantities may deviate substantially for the optimum.
For a given material, the net effect frequently is an increase in the total inventory costs
associated with that item.

3. The cyclical ordering system tends to peak the purchasing work load around the review
dates. This disadvantage can however, be avoided to some extent by regulating the frequency
of reviews.

3.3.2. Flow control system

The flow control system method of managing inventories represents a special variation of the
cyclical system. This special method is applicable in continuous manufacturing operations,
which produce the same basic product in large quantities day after day. Most materials used in
such an operation are purchased on term contracts and scheduled for daily or weekly delivery
throughout the term. The production cycle is often a day or less in duration, and, in effect,
material flows through the plant in continuous streams.

Order point system: Fixed order quantity system (Q- System)

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A second basic type of inventory control system- the order point system - is based on the order
point and order quantity factors, rather than on the time factor. This system is also called the
fixed order quantity system or maximum- minimum systems. The design of this system
recognizes that each item possesses its own unique optimum order quantity, and in practice, the
system permits more effective utilization of this fact.

The operation of an order point system requires for each inventory item:

1. The predetermination of an order point, so that when the stock level on hand drops to the
order point, the item is automatically flagged for recording purposes. The reorder point is
computed so that estimated usage of the item during the reorder lead time period will
cause the actual stock level to fall to a planned minimum stock level by the time the new
order is received. Receipt of the new order then increases the stock level to a planned
maximum figure.

2. The predetermination of a fixed quantity to be ordered each time the supply of the item is
replenished. This determination typically is based on a consideration of price, usage rate,
and other pertinent production and administrative factors.

The automatic feature of the system is achieved most commonly by maintaining a perpetual
inventory record for each item carried in stock. An inventory clerk, or a computer, continues to
post all material issues until the balance of an item falls to its order point. At this time, the clerk
or the computer notifies the purchasing department. If the system operates correctly, purchasing
replenishes the stock so that inventory levels for all items automatically remain between the
planned minimum and maximum levels. The person responsible for inventories takes no action
until the reorder point is reached.

The major advantages claimed for the system are;

1) Each material can be procured in the most economical quantity.

2) Purchasing and inventory control personnel automatically devote attention to the items
that need it only when required, and

3) Positive control can easily be exerted to maintain total inventory investment at the
desired level simply by manipulating the planned maximum and minimum values.

3.3.3. Two-Bin system

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A variation of the basic order point system is found in the operation of the simple two-bin
system. The distinguishing feature of this system is the absence of perpetual inventory record. In
practice, the stock is physically separated into two bins or containers. The lower bin contains a
quantity of stock equal to the order point figure. This, typically, is just enough stock (or lightly
more) to last from the date a new order is prepared until the incoming material is received in
inventory. The upper bin contains a quantity of stock equal to the difference between the
maximum and the order point figures. At the outset, stock is used from the upper bin; when this
supply is depleted, it signals the clerk that the reorder point has been reached. At this point an
order is placed, and material is used from the lower bin until the new stock is received. Upon
receipt of the new order, the proper quantities of material are again placed in the two bins. This
method demonstrates very simply the fundamental concept, which underlies the basic order point
system.

The two-bin system is widely used in handling low value hard ware and supplies whose usage is
not recorded on a perpetual record. The major advantage of the method is the obvious reduction
of clerical work. Issues do not have to be posted to determine the proper reorder time. Receipts,
however, are usually posted to reveal significant changes. In some cases, additional requirements
of storage facilities and perhaps some practical difficulty in keeping the two stocks properly
separate is required.

3.4. STORAGE PRACTICE

Once materials are acquired, they do not directly enter in to production nor are provided to user
departments immediately. They should be stored until time of requirement, for storage
guarantees continuity to supply or uninterrupted service to user departments. The main objective
behind the stores functions is to render service to user departments. The very nature of the
storage system is thus to act as a buffer between acquisition and other various consuming
departments.

The store function is responsible for receipt, physical upkeep and maintenance, and distribution
of larger sums of moneys in the form of stocks. The management of inputs and outputs flow will
require a good deal of consideration of physical factors for the proper storage of materials
depending up on their characteristics and volume of transaction. The accounting, reporting and

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verifying system should be devised. The stores’ function must be managed and operated in a
highly efficient way.
The stores should be considered as a temporary location for materials need for operational
purposes and should be planned, organized and operated in such a way that the life time of each
stock item is as short as possible consistent with economic operation. The only good reason for
carrying operating stocks is that the material needed is obsolete, redundant, or surplus material is
simply money sitting on a shelf requiring more money to be spent on its custody. In general,
depending on the nature of the materials if demand is steady or highly predictable, then we
should store for very short periods, when demand is not highly predictable then storage for
longer periods may be required.

Storage is thus established with the following objectives:

1. Prevention of waste and /or misappropriation of materials
2. Reduced need for material handling equipment
3. Provision of better storage facilities
4. Ready accessibility of major materials permitting efficient service to users.
5. Awareness of limited shelf-life items with view to stock turnover in time to prevent
deterioration.
6. Efficient space utilization and flexibility of arrangement.
Any managerial function is exercised to achieve a specific objective for which it is set. Similarly
in achieving the above-mentioned objectives, storage performs the following functions:
1. Receive the materials, check quantities and quality against purchase orders, invoices and
specifications, certifies deliveries and reports shortages, deficiencies in quality and partial
deliveries, and prepare receiving reports.
2. Provide adequate and proper storage, and preservation.
3. Prepare and maintain bin cards, periodically checks inventory records against actual stock.
4. Minimize obsolescence, surplus, and scrap through proper codification, standardization and
preservation.
5. High light stock accumulation discrepancies and abnormal consumption and effect control
measures.

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6. Ensure good housekeeping so that material handling material preservation, and stock receipt
and issue can be done accurately.
7. Assist in verification and provide supporting information for effective purchase action
8. Keep and maintain store areas in a clean and orderly condition so as to facilitate handling and
preserve all safety regulations and security measures.

3.4.1. Storage Cost and Operational Efficiency

In the accounting sense, inventory represents stocks of materials either acquired or use in
production or produced for subsequent use in production or sale. They are obviously termed as
raw materials inventories, in process or work in progress inventories, or semi-finished and
finished goods inventories etc.

Besides, there are also some stocks of materials which are not directly related to the production
process, but have always to be kept in stock, for example fuels and lubricants and other
consumables. Besides, there are some others, which are stocked for the purpose of packing
conveniently, grouped under packing materials. Where there is an urgent need for giving after
sale service to customers, some spares and parts inventories are also always kept in stock.

3.5. Stocking taking

Stocktaking or physical inventory is the process of counting, weighting or otherwise measuring
all items in stock and recording the results.

Stock represents cash and, invariably, cash is looked after very carefully. A cashier is appointed
to control it: it is locked up in safes when not in use. The cash office is fitted with a counter and
grille to make sure that no one other than the cashier's staff has access to the money. Every time
cash is received on it is counted, and the balance on hand is checked at frequent intervals.
Cashbooks are kept in detail to record all transactions and, if any of the checks made discloses a
discrepancy, the most searching inquiries are pursued to find explanation. Cash is regarded as so
important that, in the event of any substantial deficiency arising, it is normal to call in the police.

Stock taking, involves many valuable and expensive man hours to arrange and carryout, plus a
great deal of management time needed to investigate the almost inevitable list of discrepancies.
However, the cost and effort are more than justified by the following benefits:

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a) Verification and accuracy of stock record needs: stock record and stock control systems
will be tested. Verification by physical counts will act as a form of performance check on
these systems and adjustments needed can be made.

b) Computerized recording systems (if any) can be verified. Computers are only as the data
supplied to them, so, data being supplied from stock records and stock control must be
accurate and relevant.

c) Supports the value of stock shown in the balance sheet by physical verification: financial
reports (including the balance sheet) produced by the organization's auditors will demand
some form of physical stock verification to back up the value of stock shown within the
balance sheet. Stock valuations which are not backed up by a physical count have little
relevance to the critical auditors and the organization's accountants.

d) Discloses the possibility of fraud, theft or loss: the security aspect of stores management
demands that regular and physical checks be made to ensure that any possible theft or
fraud is quickly detected and investigations carried out.

e) Reveals any weaknesses in the system for the custody and control of stock: stocktaking is
an indicator of overall stores efficiency and management control. The number and size of
stock taking discrepancies is a good indication of efficiency. A high incidence of stock
discrepancies usually warrants a close look at the personnel and systems involved.

f) Accurate stock levels shown within the stock records system backed up by a regular
physical count will ensure that all requirements of the user departments are covered by
existing stock levels and will be issued promptly and efficiently. This avoids the common
situation of stock shown in the records system not being physically present.

Methods of stocktaking

Stock taking is the works of finding out by stores staff the physical balance or ground balance of the
various items by means of counting weighing, measuring or estimating.

Stock taking enables to know whether there are any discrepancies in the postings; whether any pilferage
is taking place; and whether the materials are in good condition. It also helps the preparation of the
final inventory for balance sheet purpose. Stock taking methods are mainly:

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 Spot checking
 Periodic stock taking
 Annual stock taking
 Continuous stock taking
a) Spot-checking: this is used in connection with the security and anti-theft aspect of stores
management. Spot checks are designed to verify the stock held, without a prior warning, which
could provide time for stock to be replaced illegally. The system also acts as a deterrent against
those who contemplate theft, knowing that sudden check could heralds an investigation.

To get the maximum benefit from the labor involved, spot-checked should be mainly, but not
entirely, confined to stock items of high value, and it may be worthwhile to check the major
items several times in the course of the year.

Blind stock taking: This is the name given to the system whereby the person taking stock is
given no prior information about the vocabulary numbers, descriptions, stock record balances or
locations of the items he/she is to check, and is not allowed access to stock record cards or bin
card. The theory is that the check will be more reliable as the stock taker has no knowledge of
what is supposed to be in stock.

He/she has to locate and identify stores for himself, he is obliged to count every item, and he/she
is not open to any temptation to skimp his work by accepting identifications or quantities as
appearing on the stoke record cards.

This system is laborious and slow, it requires more staff and, unless the personnel concerned are
experienced and have a good knowledge of the physical characteristics of the stock held, errors
are likely to arise because of faulty identification.

A modification of blind stock taking procedure is to provide the stock taker with locations and
identifications, but to withhold from him the quantity balance on the stock records. This is a
reasonable compromise and speeds up the work substantially. It must be said, however if a major
stock taking operation is to be done in a short space of time, the quickest method is to give the
stock taker all available information including quantity balances on stock records. This assumes,
of course, that he is a conscientious and trust worthy employee.

This would have three main advantages:

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 Where a stock taker finds a major discrepancy on his first physical count, he/she can
recheck straight away.
 Where he finds trifling discrepancy, he can ignore it an avoid unnecessary adjustments
and,
 It simplifies clerical work where the stock agrees with the card balance.

b) Periodical Stock Taking: Periodical stock taking is quarterly or half-yearly checking of the
entire stock in one or two days. This is applied in places where the stock comprises a few but
expensive items. The method followed is similar to the annual stock taking, i.e., physical stock
of various items is recorded on inventory sheets or inventory card and then compared with the
bin card balance. While inexpensive items may be checked once a year, expensive and attractive
items should be checked three or four times a year. The physical balance obtained at the end of
the financial year will form the inventory for final accounts.

c) Annual stock taking: by this method, the whole of stock is covered at the same time at the
end of given period, usually the end of the financial year. Theoretically stock should be taken at
the close of business on the balance sheet date, but in a large concern it may be quite impossible
to do all the work in one day, and the operation has to be extended over several days. The
stocking need not be done only once a year; it may be carried out as often as seems desirable.

The arrangements made should deal with all aspects of the job and, in particular, the following
points:

1. Appoint one person to control the whole operation.

2. While stocktaking is in progress, do not open the stores houses for normal business.

3. After the end of the working day before the operation begins, no more issues should be
made and no receipts recorded until the stock taking is complete. The numbers of the last receipt
and issue vouchers should be noted and all documents up to and including these number posted
to the records. At this point all the records can be ruled off and no further postings are made until
the results of the stock taking have been entered.

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4. Take all normal stock including packages, scrap, residues, items on loan and goods under
inspection.

5. Have stock taking sheets under the control of one individual, consecutively numbered
and issued to the staff on duty as required. No duplicates should be allowed and, at the end of the
job, all stock taking sheets must be accounted for.

6. Record separately damaged, deteriorated or used items

7. Make each person taking stock responsible for a particular section or clearly defined area
of the store house of stock yard, and record everything that is to be found in that area. Stock
takers should proceed in an orderly manner, and mark each bin or as it is dealt with to avoid the
chance of checking any item twice, and to ensure that nothing is missed.

8. Any items held which are not the properties of the business ought to be marked or labeled
in advance.

9. List separately any goods, which have been received by not yet taken on charge (eg. still
under inspection).

10. Special arrangements must be made to include in the total list of stock all items belonging
to the business, which are not on the premises at the time of checking. Their concerns free-issue
stocks in the hands of suppliers, goods sent out for repair or processing, or stocks at outlying
operational sites. It is usual to write to the holders of such stock to obtain written confirmation
that these items are in their possession.

11. Return to store all items issued on loan either internally or externally before the
stocktaking begins.

12. Show the method of check i.e. count, weight, measurement or estimation on the stock
sheet for each item.

13. Record quantities in terms of the normal unit of issue for the stock concerned. This can
be ensured by inserting the appropriate unit of issue on the stock sheets before distribution.

14. The method of pricing should be known and if possible, it is desirable to enter all prices
in terms of units of issue on the stock sheets in advance.

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15. Where several widely dispersed stockholding points exist, stores in transit at the date of
stocktaking must be taken into account.

Stock sheets

The following is typical of the information which should appear on the sheets or cards used for
stock taking:

1 Serial number of stock sheet

2 Date of stock taking
3 Location
4 Vocabulary number
5 Description
6 Unit of issue
7 Quantity of stock found
8 Price per unit of issue
9 Value of stock found
10 Stock taker's signature
11 Remarks column for comments about conditions of stock or any other special notes.

When the physical aspect of the work has been completed, all stock sheets should be collected
and arranged in classification order, the value of each entry extended and a total shown. By
adding up these totals the value of stock in each classification can be obtained. The sum of these
classification totals will give the grand total value of stock on hand as verified by physical
examination.

Precautions must be taken to make sure that all stock sheets are returned and that the arithmetic
is checked. Where stock records are kept, the next step is to compare the individual entries on the
stock sheets with the appropriate record cards and they enter the actual quantity found at the
stock taking date on the records. where this quantity does not agree with the balance shown on
the record card, two points would be noted:

a) The physical stock-taking figure is the factual one and, therefore, takes priority and the
balance on the card must be amended.

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b) Major discrepancies require investigation to discover, if possible, why they have arisen.
All established surplus and deficiencies should be valued and written on or written off
respectively to ensure that the balance on the control accounts are adjusted to agree with
the total value of stock verified by the physical stock taking.

The periodic stock taking has advantages such as, the sock-taking is usually carried over on a
non-working day (as the store must be closed during a count) and therefore the stock checkers
have item to count carefully and check discrepancies. A complete stock enables discrepancies
which are brought to light to be investigated and, accurate stock evaluation figures can be
provided for the annual balance sheet and accounts.

However, the system has certain limitations such as, the stores must be completely closed to
ensure and accurate count. Besides, it is very costly and involves a great number of staff from
both inside and outside the stores. Over time for weekends and working days can be very
expensive.

d) Continuous stock taking

This is the method where by stock is taken continuously throughout the year in accordance with
a predetermined program so that each item is physically verified at least once in the course for
the year or more frequently if required. This can only be done if complete stock records are kept
showing receipts, issues and balances on hand (i.e., if there is a perpetual inventory). The
program should be so designed that a certain number of stock items are taken on every working
day. It may be thought necessary to certain valuable or fast-moving stocks examined more
frequently than other items. It is also wise to arrange that the operation is scheduled to a month
or so before the end of the financial year so that, if work is delayed owing to unforeseen
circumstances, there is time in hand to complete it before the year end.

The method of physical check is the same as those employed for periodic stock taking, buy there
are significant differences in other respects as follows:

i. There is no need to close down the stores or the works which stocktaking is in
progress.

ii. The normal positing for receipts and issues on stock records can continue without
interruption.

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iii. The work can be done by a few specially appointed, experienced and trained stock
takers completely independent of store keeping staff.

iv. Stock taking results may be entered on the stock records from day to day as they
arise, and any discrepancies disclosed can be thoroughly investigated in detail. This is an
important advantage, because one of the main weaknesses of the periodic stock taking method is
that all the discrepancies are declared at once, and time to deal with them properly is necessarily
limited.

v. Assuming that the continuous program of stock taking has been satisfactorily
completed according to plan, the balances on the stock control accounts can be accepted for
balance sheet purpose without any special year end physical check, and there need be no delay in
the preparation of the final accounts, as far as stock is concerned.

Team work: It is common practice for stock taking to be done by teams of two people for the
following reasons:

 Where quantities are not large, the counting or weighing can be done by one person
and the clerical work by the other.

 Where large items have to be measured or weighed, two persons can usually operate
more satisfactorily than one.

 Where two persons are concerned, they will to some extent check each other's work,
thus minimizing errors.

In team work two stock takers working independently of each other but counting the same stock .
This method is most accurate, as it provides an instant double check for the stock takers who can
compare each section counted to verify each other's count.

3.6 Stock Discrepancies

When the amount of stock found by physical examination fails to agree with the balance on the
stock records, a discrepancy exists. If the stock found exceeds the recorded figure there is a
surplus and, conversely, if the physical stock is less than the book figure, there is a deficiency.
There are three main classifications for stock discrepancies. Each classification denotes the

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amount of time and management energy spent in isolating the cause of the discrepancies and the
steps needed to be taken to prevent a second incident. The classification are:

a) Minor discrepancies: this is where the variation between calculated and physical stock is
very small compared with the overall quantities involved. In this case management would not
waste time and resources on any attempt to investigate such a minor discrepancy.

b) Major discrepancies: this occurs when very large and valuable variation between calculated
and physical stock is detected. In such cases, because of the stores accountability and
responsibility for all stock held, a complete investigation into the causes of the discrepancies
must be carried out.

c) Operation discrepancies: this is where, although the amount of variation involved is very
small, the importance of the items involved in terms of the continued operation of the
organization is so vital that a major investigation may have to be carried out to determine the
fault and ensure that stocks of the vital material are secured and accurate.

Stock takers should not declare a discrepancy on any item without first giving the store keeper
concerned the opportunity of investigation because:

 There may be duplicated locations of which the checkers are not aware, but the store
keeper should know of the item.

 It can be expected that the store keeper has a better practical knowledge of his stock than
anyone else, and he may be able to correct errors on the part of the stock taker,
particularly errors on the part of the stock takers, particularly errors of identification.

 It gives the store keeper an opportunity to explain or correct the difference if he/she can,
and ensures that he/she is aware of discrepancies which may reflect upon the
performance of his/her duties.

 When the storekeeper has been called in and fails to explain a difference, he should sign
the stock sheet to indicate his/her agreement that the discrepancy is genuine.

Causes of stock discrepancies

Stock discrepancies are accounted for by one or of the causes listed below:

a) Original incorrect stocktaking

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b) Mathematical errors within the stock record card may produce an incorrect calculated stock
for comparison.

c) Units of issue in a large stocktaking can become confused or changed without notification to
the stock takers, and therefore a miscount will occur.

d) Misplacement of stock into the wrong shelf, cupboard, bin, etc, can result in stock being
counted by recorded against the wrong stock count sheet.

e) The basic stores documents (issue notes, delivery notes, and transfer notes) that carry the
data needed to adjust stock records and stock control systems may become lost or
incorrectly entered.

f) Stocktaking adjustments from previous tock takes can influence the accuracy of the current
stock, if the stock discrepancies were incorrectly written off as lost, only to become a
surplus in the current stock taking.

g) Stock taken form stores without proper documentation for notification to the stores will
result in stock deficiencies.

h) Unreported damage or deterioration of stock.

i) Theft or fraud.

Investigation of stock discrepancies

Once the stock taker and the storekeeper have agreed that a discrepancy exists, the procedure of
investigation depends upon the nature and value of the discrepancy. Large amount are more
worthwhile investigating than small sums; more concern is felt about deficiencies than about
surpluses and, where discrepancies may have arisen through bulk (making a large number of
small issues over a period from a bulk stock, especially by weight). They are not perhaps thought
worthy of any detailed inquiry. The degree of investigation is, therefore, a matter of judgment in
the circumstances of each case. Generally, the following list of steps should be considered in the
investigation process bearing the above-discussed points in mind.

1. Examine the record card since the date of the last check to make sure that there are no
arithmetical errors or obvious omissions or duplications in posting.

2. See that there has been no confusion over units of issue.

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3. Examine stores kept in neighboring locations to see if a balancing discrepancy exists on

another item.

4. Check the basic documents (receipt, issue, transfer, return to store notes, etc) for any
exceptionally large or apparently unusual transactions.

5. Have the physical stock taking verified by an independent senior official.

6. Interrogate the storekeeper to find out if he/she has any explanation or suspicions as to how
the discrepancy has arisen.

7. Examine the results of the last stocktaking to see whether there was a discrepancy on that
occasion or not. In odd causes it may be found that a deficiency one stocktaking is followed by a
surplus on the next, and this may be because the first check was inaccurate.

8. Make inquires of user departments in case there may have been issues from or returns to
store without documentation outside normal working hours.

9. In serious cases, where theft or fraud is suspected, call in the police.

10. Where necessary, review and tighten up physical security measures and documentary
procedures. After investigation, both stock records and accounts require adjustments in respect of
declared discrepancies. This may be done direct from stock sheets or by a special discrepancy
report form, listing all the items concerned, showing vocabulary number, description, unit of
issue, quantity as per stock record, quantity found on physical check, discrepancy showing
surpluses and deficiencies separately, unit price and value.

The adjustment of stock cannot be made without the authorization of the stores manager or a
senior member of the management team. Obviously, only the most high-ranking members of
staff should be able to write off valuable stock, in order to avoid possible fraud.

Stock Obsolescence and redundancy

Stock, which is described as obsolete, is that which no longer has any use or value to the
organization that holds the stock.

There are mainly four stages in this respect:

a) Obsolescent

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b) Obsolete

c) Redundant

d) Scrap

Obsolescent: The term obsolescent is used to describe the stock that will soon be of no use or
value to the organization that has it in stock. This usually happens because of change in the
method of production or technological change that means, for a period of time, the organization
will have to use two lines of stock, the new line being gradually phased in as the old is phased
out.

Obsolete: this is the next stage of the process, when the stock completely becomes worthless to
the organization. This is not to say that another organization which has not adopted the changes
which made the stock obsolete may not be interested in purchasing the stock for its own use.
However, in most cases, such changes reflect a major alternation in methods or materials by an
industry, and companies engaged in that industry change very quickly over the new material and
therefore the market for the old stock is greatly reduced.

Redundant: this is when the stock in question is completely useless to both its owner and other
organizations.

Scrap: at this stage, the stock is sold off for the value of the materials it is produced form rather
than any value in its own right.

Causes of obsolete stock

Several factors can cause stock to become obsolete and most of these are outside the control of
the organization itself. It is inevitable that, in a highly advanced technological society,
obsolescence will occur; this is added to the problems of changing consumer demands and tastes
that can lead to stocks becoming obsolete in a relatively short period of time. More specifically
the factors are:

 Technological changes

 Changes in customer demand: there are several factors that can cause a change in
customer demand such as actions of major competitors (price, quality, and

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advertisement), changes in fashions and trends, and changes in the customers' own
production system and methods.

 Alternations on the part of suppliers; in some case a supplier may decide to halt the
production of an item, which the organization has incorporated into its original
design. If this halt of production is very sudden, then any part-finished work or work
in progress held in stock could be in danger, unless a suitable alternative supply can
be located.

It is vital that stores management takes steps to minimize the effect of stock becoming obsolete
and redundant. Stock represents the organization's money and therefore must not be wasted as
result of excess redundant stock.

The store manager can reduce the amount of stock wasted in various ways such as:

a. Ensuring that working stocks are kept at a level low enough to reduce the risk of
obsolescence, if some changes come about.

b. Constantly reviewing stock movement frequencies (via the stock record system). A
falling rate of usage in certain items could indicate that they have been superseded by
another item held in stock.

c. Being aware of changes in techniques and demands within the industry. This helps the
stores manger to forecast the useful life cycle of stock held, and will forewarn him/her or
major changes and other implications.

d. Maintaining communications between stores and the other major departments involved.
The relevant departments must know all changes in sales, designs, method and operations
and, stores must ensure that they are kept informed of all developments that could affect
the life cycle of the stocks held.

e) Making arrangements to dispose of obsolete stock immediately the decision is made to declare
the stock obsolete. This will enable the stock to be sold off at a reduced price, but with some
return. Delay will reduce the salability of the stock dramatically and therefore the price and
return will automatically fall.
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Wastage of stock occurs not only because of obsolescence but also due to deterioration.
Deterioration means that, items are physically damaged or spoiled because of the following
reasons:

I. The inherent nature of the material is such that it deteriorates in the course of time i.e. the shelf
life of the item may be limited.
II.Inadequate storage conditions.
iii. Faulty or careless handling of materials.
iv. Failure to follow suppliers' storage instructions as provided on the packaging
Or delivery documents.
V.Failure to follow stock rotation code and therefore allowing old stock to be

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