Chapter 2 - MATERIAL

INTRODUCTION

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 Learning objectives
To know what is material control
cycle
2 types of procurement
Stock investment and control
Economic Order Quantity
Storekeeping
Stock take
Issuance of stock and methods of
stock valuation.
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 INTRODUCTION.
Materials can be classified into 2 :-
Direct material are material that
are used in the product. Example,
raw material bought in parts and
are assemble into finished goods.

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 Indirect material which are
needed in the production process
but do not form part of the finished
product and cannot be charged
directly to the finish product.
Example, lubricating oil, stationery,
consumable material, spare parts of
machine and etc.

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 MATERIAL CONTROL
SYSTEM
1. Is a system to ensure that:
the required quantity of material,
of the required quality is provided
at the required time with the
minimum capital investment (cost).

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 MATERIAL CONTROL
SYSTEM
Covers the following areas:
a) Purchasing of materials

b) Receipt of materials

c) Stock-keeping of materials

d) Issue (consumption) of materials

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Efficient purchasing

Control of material quality

Savings in material

Effective store control

Determining appropriate
issue price Reduction in cost

Timely report

Keeping records and Increase in profit

systematic accounting
Reducing loss of material

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 Procurement is business concerned
with acquiring materials from outside
supplier. It is also known as
purchasing function.

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 What are the factors that would
affect ordering or purchasing of raw
materials?
It is basically related to controlling
cost involved so that the company is
able to minimize cost but at the
same time able to meet the
requirements of the production and
sales.
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 Meaning, company should determine its
optimum level of stock and to do this, 2
conflicting requirements must be met:
1. Stocks are sufficient to meet
requirements of production and sales,
2. Avoid holding/keeping surplus stocks
which are unnecessary and which
increase the risk of obsolescence.
(The optimum stock level lies somewhere
within these 2 extremes i.e 1 and 2)

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 Major objectives of store controls is
to ensure that stock outs or out of
stock DO NOT occur and that surplus
stock are not kept.
Stock outs happens when there is
not enough stock to meet production
demands.
Surplus stock happens when you
have too much stock than required.
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 To avoid stock outs or surplus
stock, companies use a system of
stock levels to determine:
1) Re-order Level
2) Maximum Level
3) Minimum Level
4) Average Level

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Maximum Level
Refers to level above which stocks SHOULD
NOT be normally ALLOWED TO RISE.
Minimum Level
Refers to the level below which stocks
SHOULD NOT be normally ALLOWED TO
FALL.
If stocks go below this level, there is a
danger of out of stock resulting in
production stoppages.
It is also called buffer stock.
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 RE-ORDER LEVEL
Stock is allowed to fall before an order
for further supplies is placed.
To minimize the risk of stock-out
arising.
AVERAGE STOCK LEVEL
the number of stock units that the stores
department should maintain at any point
of time in a specific period of operation

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 FORMULAS
ROL = maximum usage x maximum
reorder period
Minimum SL = ROL (normal usage x
normal re-order period)
Max. SL = ROL+ EOQ (minimum usage
x minimum re-order period)
Average SL = max. SL + min. SL
2
@
= min. SL + ROQ (usually
EOQ)
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 Exercise Calculate all the stock
levels:
Normal usage = 400 units per week
Minimum usage = 200 units per week
Maximum usage = 500 units per week
Re- order = 2,000 units per
quantity week
Re-order period = 4-6 weeks

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 Solution

ROL = 500 X 6 = 3,000 units

Min. SL = 3,000 (400 X 5) = 1,000 units
Max. SL = 3,000 (200 X 4) + 2,000 =
4,200 units
Avg. SL = 1,000 + 4,200 = 2,600 units
2
@
= 1,000 + X 2,000 = 2,000
units
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 ECONOMIC ORDER QUANTITY
(EOQ)
Economic order quantity (EOQ) is the
optimum order size of the order
quantity that will result in the total
amount of ordering cost and holding
cost being minimized.

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 ECONOMIC ORDER QUANTITY
(EOQ)
It can be determined by:
Tabulation method (tabulating the
total cost for various order
quantities)
Graphical method

Formula method

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Relevant costs that should be
considered when determining
optimal stock levels consist of:
Holding costs/carrying costs

Ordering costs

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 Holding costs usually consist of the
following:
Opportunity cost of investments in stocks
Incremental insurance costs
Incremental warehouse and storage costs;
Incremental material handling costs
Cost of obsolescence and deterioration of
stocks
Breakage costs

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 Ordering costs usually consist of the
clerical cost of preparing a purchase
order, receiving deliveries and
paying invoices.

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 Formula method
The EOQ can be arrived at by using the
formula:
EOQ = 2DO
C
D= total demand for material during a
given period or the annual quantity used
O= costs of placing and receiving an order
C= the annual cost of carrying one unit of
material
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 You are given the following
information:
Budgeted average demand for material
Lovely Lace is 500kg per week and
production is maintained for 52 weeks per
year.
The order cost is RM200 per order
The standard material cost of Lovely Lace is
RM10 per kg and the holding cost per year is
25% of the standard material cost.
The maximum usage in any one week is
600kg and the minimum is 400kg.
On the average, the orders take anything from
1-3 weeks to be delivered after they have
been placed.

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 You are required to calculate:

1. the EOQ that should be placed

2. the re-order level
3. the minimum level of stock that
should be held
4. the maximum level of stock that
should be held

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 Tabulation method

1)No of order
2)Order size
3)Average stock
4)Ordering cost
5)Holding cost
6)Total cost

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 1. No of order this refers to the number of times the
order is made.
2. Order sizes- Refers to the quantity of material/product
every time an order is placed.
3. Average stock- order size divided by 2
4. Ordering cost cost per order x no of orders
5. Holding cost-holding cost per unit x average stock
6. Total cost Ordering cost + holding cost
Note: To be able to know no of order and order
sizes, the total demand has to be known

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 Worked example.
Carribean Pirates Enterprise involves in making special
designed ships called Orlando. Among the raw material
needed are expensive woods from Thailand. To build each
ship, 1,000 pieces of wood is required. The company
receives 10 orders of Orlando for the year 2006.
The company incurs RM100 for each order of the woods
and RM50 for storage per piece.
Required:
1. Determine the demand per annum for the woods to cater
for the orders received to make Orlando in 2006.
2. Determine the Economic Order Quantity by tabulating the
relevant annual cost for order sizes 200, 400 and 500
pieces of woods.

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Demand per annum :
10 ships x 1,000 pieces of
wood/ship= 10,000 pieces of wood

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 EOQ
1. No
1 of order 50 25 20

2 Order size 200 400 500

(pieces)
3 Average stock 100 200 250

4 Ordering cost 5,000 2,500 2,000

@ 100
5 Holding cost @ 5,000 10,000 12,500
50
6 Total cost 10,000 12,500 14,500
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 EOQ in order to minimize its cost is
200 pieces of woods per order at a
cost RM10,000.

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