ASUMMER TRAINING PROJECT REPORT

ONINVENTORY MANAGEMENT

IN JUBILANT ORGANOSYS LTD. GAJRAULA, (U.P.)

PROJECT REPORT SUBMITTED IN PARTIAL FULFILMENT OFMASTER OF BUSINESS ADMINISTRATION OF

Uttar Pradesh Technical University

Under the Guidance of:Mr. Anil Kumar Goal

(Finance Faculty)IVS Institute of Management (Mathura)

Submitted By:VAIBHAV AGARWAL

M.B.A. IIIrd Sem.Roll. No. 0730870025

IVS Institute of Management Mathura(Affiliated to Uttar Pradesh Technical University,

Lucknow)NH-2 Delhi Mathura Highway, Akbarpur, Mathura -281406(UP)

ACKNOWLEDGEMENT

I express my sincere gratitude to Mr. N. K. Agarwal (Senior Manager, Jubilant

Organosys) under whose supervision has helped to clarify my concepts of Inventory

Management, distinguished scholars and authors, whose work I heve used in this project.

I would also like to thank to Mr. Anil Goal Faculty Finance]. No words of

appreciation are good enough for the constant encouragement, which I have received from

him.

I thank Mr. Mahesh Jain (Head Accounts and Finance, Jubilant Organosys) for his

unstinted support to the project.

Finally, I would like to thank Mr. J. L. Gupta (Factory Manager, Jubilant

Organosys) to give the opportunity to complete the project in the esteemed organization.

VAIBHAV AGARWAL

MBA IIIrd Sem

Preface

As a part of the partial fulfillment of the M.B.A. programme at IVS Institute of

Management, Akbarpur (Mathura), Summer Training was undertaken with the

international company, JUBILANT ORGANOSYS LIMITED, Gajraula (J. P. NAGAR).

This project is specially designed to understand the subject matter of Inventory Management

of the company. This project gives us information and report about company’s Inventory

Management. Throughout the project the focus has been on presenting information and

comments in easy and intelligible manner.

The purpose of the training was to have practical experience of working in a organization and

to have exposure to the various management practices in the field of Finance. This training

has also given me an on the job experience of Financial Management.

This project is very useful for those who want to know about company and Inventory

Management of the company.

Contents

PART- I

*Objective of the Study

*Introduction of Company

* Company Profile

* History

* Board of Directors

* Presence Across Value Chain

* Awards

* Products

* Guiding Principals of Company

* Structure of the Company

* Research Methodology

* Introduction of the Topic

* Conceptual Discussions

PART- II

* Data Collection

* Financial Statements

* Data Analysis and Interpretation

* Problems and Suggestions

* Conclusions

* Bibliography

OBJECTIVE

OF THE

STUDY

Objective of The Study:

Inventories constitute the principal item in the working capital of the majority of trading and

industrial companies. In inventory, we include raw materials, finished goods, work in

progress, supplies and other accessories. To maintain the continuity in the operations of

business enterprise, a minimum stock of inventory required.

However, the physical control of inventory is the operating responsibility of stores

superintendent and financial personnel have nothing to do about it but the financial control of

these inventories in all lines of activity in which they comprise a substantial part of the

current assets is a frequent problem in the management of working capital. Management of

inventory is designed to regulate the volume of investment in goods on hand, the types of

goods carried in stock to meet the needs of production and sales while at the same time, the

investment in them is to kept at a reasonable level.

INTRODUCTION

OF COMPANY

COMPANY

PROFILE

Company Profile:

Jubilant Organosys Limited is the largest specialty chemical company of India and a leading

global manufacturer in defined chemical categories viz, second largest in pyridine and its

derivatives, third largest in solid polyvinyl acetate and leading positions in acetyls and other

specialty chemicals. These include pharmaceuticals and life science chemicals, performance

chemicals, organic intermediates, agri products and a range of other specialty chemicals.

It was incorporated in the year 1978 under the companies Act, 1956. The company is a

part of Jubilant Corporation, which also includes Jubilant Enpro, Domino’s, Jubilant Biosys.

The manufacturing facilities located at Gajraula in J.P.NAGAR District, U.P.

The company estabilished an Research and Development Group in the year 1982 and

Research and Development was recognized by the Department of Science and Technology.

The groups have developed a number of products, which have been commercialized over a

period of time. The various group of the Research and Development carryout research in the

field of Polymers and Adhesives, ‘Organic chemicals, Biotechnology and Environment’.

The company differentiates itself in its manufacturing approach which is based on the use of

a renewable resource as the main feed stock, the conserve energy requirement and a complete

recycling and reuse of the final wastage at the plant. The main feed stock for jubilant's

product line is Molasses, a renewable bio-mass, occurs as a by product in the sugar mill from

which industrial alcohol is produced from the process of fermentationand distillation. This

makes the manufacturing approach inheretantly eco=efficient. Industrial alcohol is further

proccessed to produced a series of value added chemicals.

Jubilant Organosys Limited has historically, been a producer and leading manufacturer of

acetyls in India for more than two decades. Jubilant Organosys also enjoy a global position in

these products. Jubilant Organosys derive our strengths in this business from our molasses

based production process. Jubilant Organosys use renewable biomass (molasses), as

feedstock for manufacturing acetyls. Jubilant Organosys, therefore, are not impact by the cost

cycle that affects the industry worldwide.

Globally Jubilant Organosys are the;

*Largest Alcohol Distillery Outside Brazil.

*Largest Acetic Acid Manufacturer From Renewable\Green Resources.

*6th Largest in Acetaldehyde.

*8th Largest in Ethyle Acetate.

*9th Largest in Acetic Anhydride.

Jubilant Organosys owns distilleries at Gajraula and Nira. These are strategic to the business

as they are located in two largest

sugar belts of India ( U.P. & MAHARASHTRA ). Company has long term contracts with

sugar mills to meet alcohol requirements while providing easy access to feed stock.

Jubilant Organosys Limited is an integrated pharmaceutical industry player with a wide range

of products and services for global life sciences companies. Company is one of the largest

Custom Research and Manufacturing Services (CRAMS) and Drug Services Companies in

India. Jubilant Organosys have presence across the pharmaceuticals value chain right from

drug, discovery, medicinal chemistry and clinical research services to custom research and

manufacturing services for advance intermediaries and fine chemicals, Active

Pharmaceutical Ingredients and Dosage Forms.

Jubilant Organosys Limited has a strong international presence having international

subsidiaries in USA, BELGIUM and CHINA. Jubilant Pharmaceutical, Inc is a full

service clinical research organisation providing clinical research, clinical data management,

biostatics, QA/regulatory and contract staffing servicing.Our products are sold across the

globe in more than 50 countries.

Jubilant Organosys Limited is a collaborative, innovative provider of products and services

to the global life sciences industry, striving to accelerate the process of pharmaceutical drug

approval. Jubilant Organosys also enjoy leadership in Industrial products and Preformance

Polymers products in India. It is headquarted in NOIDA, with net sales of - US $ 337 million

in FY06 and more than 3300 employees.

OUR VISION    

OUR PROMISE   

 

     OUR VALUES   

 

We will carefully select, train and develop our people to be creative, empower them to take decisions, so that they

respond to all customers with agility, confidence

and teamwork

We stretch ourselves to be cost effective and efficient

in all aspects of our operations and focus on

flawless delivery to create and provide the best value

to our customers

By sharing our knowledge and learning from each

other and from the markets we serve, we will continue to surprise our customers with innovative solutions

With utmost care for the environment and safety,

we will always strive to excel in the quality of our processes, our products

and our services

   

HISTORY

HISTORY

2005

Acquires Target Research Associates, Inc., renamed Clinsys Inc.; a US based Clinical Research Organisation (CRO)

Acquires Trinity Laboratories, Inc. and its wholly owned subsidiary, Trigen Laboratories, Inc., renamed Jubilant Pharmaceuticals, Inc., a generic pharmaceutical company in USA having a US FDA approved formulations manufacturing facility

Enters Clinsys Clinical Research Ltd. business by setting up wholly owned subsidiary Jubilant Clinsys Ltd.

2004

Sets up medicinal chemistry services business through wholly owned subsidiary Jubilant Chemsys Ltd.

Enters formulations and regulatory affairs businesses by acquiring Pharmaceuticals Services Incorporated, N.V. and PSI Supply N.V., the pharmaceutical companies in Europe.

2003

Sets up a new state-of-the-art Research & Development Centre in Noida, near New Delhi equipped with all latest scientific instruments. 2002 Acquires the Active Pharmaceutical Ingredients business

2001

New corporate identity: Jubilant Organosys Ltd. reflecting changed corporate and business profile 2000 Enters the Bio / chemo informatics arena by setting up Jubilant Biosys Ltd. 1998

Enters high value-added Pyridine derivates. Commissions Pyridine HBR and Cyano Pyridine plants.Forms marketing subsidiary in the USA.Acquires acetyl plant in western India. 1997

Commissions first Multi-purpose fine chemicals plant. Plant for food polymer commissioned. 1995 Gets ISO 9001 certification. 1990 Commissions Pyridine & Picoline plant. 1988 Launches its first branded product: Vamicol, an adhesive product. 1987

Introduces new products in Performance Chemicals segments: Poly vinyl acetate emulsion for paint, textile, paper & packaging and woodworking industry. 1985

Research & Development center gets recognition from Government of India. 1983 Commercial production of Vinyl Acetate Monomer (VAM). 1981

Initial Public Offering. Listing on leading stock exchanges of India. 1978

Incorporated as Vam Organic Chemicals Ltd.

BOARD OF DIRECTORS

Board Of Directors

Shyam S Bhartia Chairman & Managing Director

Hari S Bhartia Co-Chairman & Managing Director

Dr. J M Khanna Executive Director & President – Life . Sciences

S N Singh Executive Director - Chemicals

S Bang Executive Director - Manufacturing & Supply Chain

Ajay Relan Director

Abhay Havaldar Director

Bodhishwar Rai Director Arabinda Ray Director

PRESENCE ACROSS VALUE CHAIN

PRESENCE ACROSS VALUE CHAIN:

 

 

 

 

 

AWARDS

AWARDS

Jubilant's rapid progress across all corporate aspects has consistently been acknowledged by various industry bodies, government and non-government agencies in the form of awards and certifications.

Golden Peacock award for Innovation Management - 2003 Six-sigma Quality Award at the All India CII Convention -2004 The Greentech Foundation Award for Environment Excellence The Energy Conservation Award (Chemical sector) from the Government of India for the Gajraula unit Best Managed Manufacturing Plant for Single super phosphate by FAI - 2003 Best HR Practices Award by Centre for International Businesses - 2004 P C Acharya Award for Development of Indigenous Technology by ICMA - 2004

Top 5 Best Managed Workforce in India - Hewitt Award

The DSIR Award for Innovation in Chemicals & Allied Industries

GUIDING PRINCIPALS

OF JUBILANT

ORGANOSYS LTD

GUIDING PRINCIPALS OF JUBILANT ORGANOSYS LTD

1. We will conduct ourselves or business with the highest standards of honesty, integrity and

professionalism.

2. We will recognize the positive contribution that individuals & our team members to

produce business successfully.

3. We will encourage a learning environment where people can constantly grow, develop &

contribute.

4. We will strive for excellence and seek continuous improve in everything.

5. We will respect all stockholders including employees, partners and suppliers & still them

with a passion to deliver the highest quality goods services.

6. We will foster initiative &creative by empowering individuals to attain well defined

objectives.

STRUCTURE OF

THE COMPANY

STRUCTRE OF THE COMPANY

Jubilant Organosys Ltd. act upon the rules & regul- ations of the Companies Act, 1948. The

company have well defined structure .It have the following departments:

1. HR/ Personnel department

2. Accounts departments

3. Purchase departments

4. Store department

5. Quality department

6. Shipping department

7. Sales & Excise department

ORGANISATIONAL CHART OF JOL

RESEARCH

METHODOLOGY

RESEARCH METHODOGY

Research methodology is the way to systematically solve the research problem.

Objective of research study is Analysis of inventory of Jubilant Organosys Ltd. Analyzing of

inventory, we determining following inventories-

1. Raw materials inventory.

2. Work in progress inventory.

3. Finished goods inventory &

4. Supplies inventory.

In this section of inventories, we should analyze the annual investment in inventories,

Valuation of inventory after closing balance of items in inventory. In this manner, we

calculate reorder point, safety stock levels, minimum & maximum levels of inventory.

Working hypothesis of the objective is that inventories are the stock piles of goods .The all

organization on their inventories. JOL invests about 60%of total assets inventory should be

analyzed their records.

The analysis of inventory according to their data available in the company. The data

collection of inventory for analysis by the direct store department. We should record primary

and secondary data by the helps of assistants ledger books M R N etc. We went to the all

inventories as raw material , work in progress inventory, finished goods inventory by the

proper observation of data’s of the company.

The particular method for data collecting used direct interview with assistants and

telephone interview with friends to known about annual investment of inventories and other

important data.

INTRODUCTION OF THE TOPIC

INTRODUCTION

Inventories constitute the most significant part of current assets of a large majority of companies

in India. On an average, inventories are approximately 60% of current assets in public limited

companies in India. Because of the large size of inventories maintained by firms, a considerable

amount of feuds is required to be committed to them. It is therefore, absolutely imperative to

ménage inventories efficiently and efficiently in order to avoid unnecessary investment. A firm

neglecting the management of inventories will be jeopardizing its long run profitability and may

fail ultimately. It is possible for fore a company to reduce its levels of inventories to a

considerable degree e.g. 10 to 20 percent, with out any adverse effect on production and sales, by

using simple inventory planning and control techniques. The reduction in excessive inventory

carries a favorable impact on a company’s profitability.

MEANING OF INVENTORY:-

Inventory is the physical stoke of goods maintained in an organization for its smooth sunning. In

accounting language it may mean stock of finished goods only. In a manufacturing concern, it

may includes raw materials, work-in-progress and stores etc. In the form of materials or supplies

to be consumed in the production process or in the rendering of services.

In brief, Inventory is unconsumed or unsold goods purchased or manufactured.

NATURE OF INVENTORIES :-

Inventories are stock of the product a company is manufacturing for sale and

components that make up the product. The various forms in which inventory exist in a

manufacturing company are raw materials, work in progress and finished goods.

RAW MATERIALS:-

Raw materials are those inputs that are converted into finished product though

the manufacturing process. Raw materials inventories are those units which have been purchased

and stored for future productions.

WORK IN PROGRESS:-

These inventories are semi manufactured products. They represent products that

need more work before they become finished products for sales.

FINISHED GOODS:-

Finished goods inventories are those completely manufactured products which

are ready for sale. Stock of raw materials and work in progress facilitate production. While stock

of finished goods is required for smooth marketing operation. Thus, inventories serve as a link

between the production and consumption of goods.

The level of three kinds of inventories for a firm depend on the nature of its business. A

manufacturing firm will have substantially high levels of all three kinds of inventories, while a

retail or wholesale firm will have a very high and no raw material and work in progress

inventories. Within manufacturing firms, there will be differences. Large heavy engineering

companies produce long production cycle products, therefore they carry large inventories. On the

other hand, inventories of a consumer product company will not be large, because of short

production cycle and fast turn over. Firms also maintain a fourth kind of inventory, supplies or

stores and spares.

SUPPLIES:

It includes office and plant cleaning materials like soap, brooms, oil, fuel, light, bulbs

etc. These materials do not directly enter production, but are necessary for production process.

Usually, these supplies are small part of the total inventory and do not involve significant

investment. Therefore, a sophisticated system of inventory control may not be maintained for

them.

MANAGEMENT OF INVENTORY

Inventories constitute the principal item in the working capital of the majority of

trading and industrial companies. In inventory, we include raw materials, finished goods,

work-in-progress, supplies and other accessories. To maintain the continuity in the operations

of business enterprise, a minimum stock of inventory required. However, the physical control

of inventory is the operating responsibility of stores superintendent and financial personnel

have nothing to do about it but the financial control of these inventories in all lines of activity

in which they comprise a substantial part of the current assets is a frequent problem in the

management of working capital. Management of inventory is designed to regulate the

volume of investment in goods on hand, the types of goods carried in stock to meet the needs

of production, and sales while at the same time, the investment in them is to be kept at a

reasonable level.

CONCEPT OF INVENTORY MANAGEMENT

The term inventory management is used in two ways- unit control and value control.

Production and purchase officials use this word in term unit control whereas in accounting

this word is used in term of value control. As investment in inventory represents in many

cases, one of the largest asset items of business enterprises particularly those engaged in

manufacturing, wholesale trade and retail trade. Sometimes the cost of material used in

production surpasses the wages and production overheads. Hence, the proper management

and control of capital invested in the inventory should be the prime responsibility of

accounting department because resources invested in inventory are not earning a return for

the company. Rather, on the other hand, they are costing the firm money both in terns of

capital costs being incurred and loss of opportunity income that is being foregone.

OBJECTIVES OF INVENTORY MANAGEMENT

The basic managerial objectives of inventory control are two-fold; first, the avoidance

over-investment or under-investment in inventories; and second, to provide the right quantity

of standard raw material to the production department at the right time. In brief, the

objectives of inventory control may be summarized as follows:

A. Operating Objectives:

(1) Ensuring Availability of Materials: There should be a continuous availability of all

types of raw materials in the factory so that the production may not be help up wants of any

material. A minimum quantity of each material should be held in store to permit production

to move on schedule.

(2) Avoidance of Abnormal Wastage: There should be minimum possible wastage of

materials while these are being stored in the godowns or used in the factory by the workers.

Wastage should be allowed up to a certain level known as normal wastage. To avoid any

abnormal wastage, strict control over the inventory should be exercised. Leakage, theft,

embezzlements of raw material and spoilage of material due to rust, bust should be avoided.

(3) Promotion of Manufacturing Efficiency: If the right type of raw material is available to

the manufacturing departments at the right time, their manufacturing efficiency is also

increased. Their motivation level rises and morale is improved.

(4) Avoidance of Out of Stock Danger: Information about availability of materials should

be made continuously available to the management so that they can do planning for

procurement of raw material. It maintains the inventories at the optimum level keeping in

view the operational requirements. It also avoids the out of stock danger.

(5) Better Service to Customers: Sufficient stock of finished goods must be maintained to

match reasonable demand of the customers for prompt execution of their orders.

(6)Highlighting slow moving and obsolete items of materials.

(7) Designing poorer organization for inventory management: Clear cut accountability should

be fixed at various levels of organization.

B. Financial Objectives:

(1) Economy in purchasing: A proper inventory control brings certain advantages and

economies in purchasing also. Every attempt has to make to effect economy in purchasing

through quantity and taking advantage to favorable markets.

(2) Reasonable Price: While purchasing materials, it is to be seen that right quality of material

is purchased at reasonably low price. Quality is not to be sacrificed at the cost of lower price.

The material purchased should be of the quality alone which is needed.

(3) Optimum Investing and Efficient Use of capital: The basic aim of inventory control from

the financial point of view is the optimum level of investment in inventories. There should be

no excessive investment in stock, etc. Investment in inventories must not tie up funds that

could be used in other activities. The determination of maximum and minimum level of stock

attempt in this direction.

TYPES OF INVENTORY

1. Movement Inventories :-

Movement inventories are also called transit or pipeline inventories. Their

existence owes to the fact that transportation time is involved in transferring substantial amount

of resources.

2.Buffer inventories:-

In Buffer inventories are held to protect against the uncertainties of demand

and supply. An organization generally knows the average demand for various items that it needs.

Prod.deptt. issue store inspect receive supplier

Supplies

Demand

Inventory in

Hand place

Orders

Purchase

dep’t.

Net order issue receive tender

Quantity tenders quotation evaluations

Inventory cycle

3. Anticipation Inventories.

Anticipation inventories are held for the reason that future demand for the product is anticipated.

Production of specialized times like crackers well before dewily, umbrellas and raincoats before

taints set in, fans while summers are approaching; or the piling up of inventory stocks when a

strike is on the anvil, are all examples of anticipation inventories.

CONTROL OF MATERIALS :

Rigid control over materials are necessary not only to guard against theft, but also to minimize

waste and misuse from causes such as excessive inventories, over issue, deterioration, spoilage,

and obsolescence.

There are certain prerequisites to an effective control system for materials:

1.Materials of the desired quantity will be available when needed;

2.Materials will be purchased only when a need exists and in economical qualities;

3.Purchases of materials will be made at most favorable prices;

4.Vouchers for the payments of materials purchased will be approved only if the materials have

been received in good condition;

5.Materials will be protected against loss by proper physical control;

6.Issue of materials will be properly authorized and accounted for; and

7.All materials, at all times, will be charged, as the responsibility of some individual.

The control of materials, as an element of cost of production, is illustrated with reference to the

purchase and issues procedures, inventory systems, and inventory control techniques.

IMPORTANCE OF INVENTORY CONTROL:

The importance or necessity of inventory control is well explained in the terms of the

objects of inventory control, which are obtained through it. A proper inventory control

lowers down the cost of production and improves profitability of enterprise.

ADVANTAGES OF INVENTORY CONTROL:

(1) Reduction in investment in inventory.

(2) Proper and efficient use of raw materials.

(3) No bottleneck in production.

(4) Improvement in production and sales.

(5) Efficient and optimum use of physical as well as financial resources.

(6) Ordering cost can be reduced if a firm places a few large orders in place of numerous

small orders.

(7) Maintenance of adequate inventories reduces the set-up cost associated with each

production run.

Risk and cost Associated with Inventories:

Holding of Inventories expose the firm to a number of risks and costs.

Major risks are:

(a) Price decline: They may be due to increase in market supply of the product, introduction of a

new competitive product, price-cut by the competitors etc.

(b) Product deterioration: This may due to holding a product for too long a period or improper

storage conditions.

(c) Obsolescence: This may due to change in customer’s taste, new production technique,

improvements in product design, specifications etc.

The Costs of holding inventories are as follows:

(a) Material Cost: This include the cost of purchasing the goods, transportation and handling

charges less any discount allowed by the supplier of goods.

(b) Ordering Cost: This includes the variables cost associated with placing an order for the

goods. The fewer the orders, the lower will be the ordering costs for the firm.

(c) Carrying Cost: This includes the expenses for storing and handling the goods. It comprises

storage costs, insurance costs, spoilage costs, cost of funds tied up in inventories etc.

ESSENTIALS OF INVENTORY CONTROL SYSTEM

For an efficient and successful inventory control there are certain important conditions

that are a follows:

(1) Classification and Identification of inventories: The usual inventory of

manufacturing firm includes raw-material, stores, work-in-progress and component etc. To

facilitate prompt recording the dealing, each item of the inventory must be assigned a

particular code number and it must be classified in suitable group or sub-divisions. ABC

analysis of material is very helpful in this context.

(2) Standardization and simplification of inventories: In order to facilitate inventory

control, the inventory line should be simplified. It refers to the elimination of excess types

and sizes of items. Simplification leads to reduction in classification of inventories and its

carrying costs. Standardization, on the other hand, refers to the fixation of standards of raw

material to be purchased and specification of the components and tools to be used.

(3) Setting the Maximum and Minimum limits for each part of inventory: The third step

in this process is to set the maximum and minimum limits of each item of the inventory. It

avoids the chances of over-investment as well as running a short of any item during the cost

of producing. Reordering point should also be fixed beforehand.

(4) Economic Order Quantity: It is also a basic inventory problem to determine the

quantity as how much to order at a time. In determining the EOQ, the problem is one to set a

balance between two opposite costs, namely, ordering costs and carrying costs. This quantity

should be fixed beforehand.

(5)Adequate storage Facilities: To make the system of inventory control successful and

efficient one, it is also essential to provide the adequate storage facilities. Sufficient storage

area and proper handling facilities should be organized.

(6)Adequate Reports and Records: Inventory control requires the maintenance of adequate

inventory record and reports. Various inventory records must contain information to meet the

needs of purchasing, production, sales and financial staff. The typical information required

about any class of inventory may be relating to quantity on hand, location, quantities in

transit, unit cost, code for each item of inventory, reorder point, safety level etc. Statements

forms and inventory records should be so designed that the clerical cost of maintaining these

records must be kept a minimum.

(7)Intelligent and Experienced Personnel: An important requirement of successful

inventory control system is the appointment of qualified and experienced staff in purchase

and stores department. Mere establishment of procedures and the maintenance of records

would not give the desired results as there is no substitute for sincere and devoted as well as

experienced hands. Hence, the whole inventory control structure should be manned with

trained, qualified, experienced and devoted employees.

(8)Coordination: There must be proper coordination of all departments involved in the

process of inventory control, such as purchase, finance, receiving, approving, storage and

accounting departments. These all departments have different outlook and objects in

inventory management but financial manager has to coordinate them all.

(9)Budgeting: An efficient budgeting system is also required. Preparation of budgets

concerning materials, supplies and equipment to ensure economy in purchasing and use of

material is also necessary.

(10)Internal Check: Operating of a system of internal check is also vital in inventory

management so that all transactions involving material supplies and equipment purchase are

properly approved and automatically checked.

FACTORS AFFECTING STOCK INVESTMENT LEVEL

These factors can be put in two categories: General and Specific.

General Factors: These factors include those factors, which affect directly or indirectly level

of investment in any asset. These are as follows:

(1) Nature of Business

(2) Size and scale of Business

(3) Expected Sales Volumes

(4) Price Level Changes

(5) Availability of Funds

(6) Management view Point

Specific Factors: These factors are directly related with investment in stock.

Following are the main factors:

(1) Seasonal Character of Raw Materials: If supply of raw material used in the firm is

seasonal, the firm will require more funds for the purchase of raw material during season.

Usually, raw materials are available at cheaper rates during is production season.

(2) Length and Technical Nature of the production process: If production process is lengthy

and of technical nature, higher investment is required in raw material. In the technical nature

production process, quality control of raw material is given more emphasis.

(3) Terms of Purchase: If some concessions or discount in price or facilities of credit are

provided by suppliers on purchase of raw materials in huge quantity then the firm is inspired

for excessive purchase of goods and hence comparatively more investment is required in

inventory.

(4) Nature of End Product: Nature of end product also influences investment in inventory.

If the end product is a durable good, high investment will be required because durable goods

can be stored for a long period. On the other hand, perishable goods cannot be stored for a

long period. Hence, investment in inventory of such products is low.

(5) Supply Conditions: If the supply of raw material is regular and there is no possibility of

interruption in future, high investment in inventories is not required.

(6) Time Factor: The lead time of raw material time token in production process and sale of

product also influence investment in inventories. Longer the period, higher will be the

investment in inventories.

(7) Loan Facilities: If raw materials are purchased on credit or loan from the bank or other

financial institution can be obtained on the security of raw material, lesser investment would

be required. In the absence of such loan facility, higher investment would be required.

(8) Price Level Fluctuations: If there are expectations of price rise in future then raw materials

may be store in high quantity and so more investment would be required. On the contrary, if

the prices of raw materials are expected to go down in future, then comparatively lesser

investment would be required.

(9) Other factors: Price control, rationing, change in taxation and export policy of governments

etc. also influence investment in inventories.

TECHNIQUES OF

INVENTORY

CONTROL

TECHNIQUES OF INVENTORY CONTROL

In managing inventories, the firm’s objective should be in consonance with the wealth

maximization principle. To achieve this, the firm should determine the optimum level of

investment in inventory. To deal with the problems of inventory management effectively, it

becomes necessary to be conversant with the different techniques of inventory control.

Although the concepts involved in inventory management are production-oriented and are

not strictly financial it is important that the financial manager understand them since they

have certain built-in financial costs. The different techniques of inventory control may be

summarized as follows:

(1) Inventory level Technique

The main objective of stock control is to determine and maintain the optimum level of stock so

that there is neither shortage of any material nor unnecessary investment in inventory. For

this purpose, determination of maximum and minimum limits of inventory and ordering level

is necessary.

(2) Maximum stock Limit: This represents the quantity of inventory above which it should

not be allowed to be kept. The main object of fixing this limit is to ensure that unnecessary

working capital is not blocked in stores. The quantity is fixed keeping in view the

disadvantages of overstocking.

The disadvantages of overstocking are:

1. Capital is blocked up unnecessarily in stores so there will be loss of interest.

2. More godown space is needed so more rent will have to be paid.

3. There are chances of deterioration in quality because large stocks will require more time

for use is the factory.

4. There is the possibility of loss due to obsolescence.

5. There is danger of depreciation in market values.

The maximum stock level is fixed by taking into account the following

factors:

(1) Amount of capital available for maintaining stores.

(2) Godown space available.

(3) Rate of consumption of the material.

(4) The time lag between indenting and receiving of the material.

(5) Length and technical nature of the production process.

(6) Possibility of loss in stores by deterioration, evaporation etc.

There are certain stores, which deteriorate in quality if they are stored

for longer period.

(7) Cost of maintaining stores.

(8) Likely fluctuation in prices. For instance, if there is a possibility of a substantial increase

in prices in the coming period, a comparatively large maximum stock level will be fixed. On

the other hand, if there is the possibility of decrease in price in the near future, stocks are kept

at a much reduced level.

(9) The seasonal nature of supply of material. Certain materials are available only during

specific periods of year. So these have to be stocked heavily during these periods.

(10)Restrictions imposed by the government or local authority in regard to materials which

there are inherent risks, e.g. fire and explosion.

(11)Risk of obsolescence, i.e., possibility of change in fashion and habit which will

necessitate change in requirements of materials.

The following formula may be applied to calculate the maximum stock:

(1) Maximum Stock = Minimum Inventory + Lot size

(2) Maximum Stock = Reorder Level - Minimum consumption during Minimum lead time + Lot

size

Minimum Stock Limit (Safety or Buffer stock)

This represents the quantity below which stock should not be allowed to fall. It is

maintained to save from the situation of stock out in the event of abnormal increase in

material usage rate and/or delivery period. In fact determination of this quantity is significant

because of uncertainty in respect to material usage rate and delivery period. The main

purpose of this level is to ensure that production is not held up due to shortage of any

material. This level is fixed for all items of stores and following factors are taken into

account for the fixation of this level:

(a) Lead time i.e. time lag between intending and receiving the material.

(b) Rate of consumption of the material during the lead time.

(c) Re-order Level

The following formula is applied to calculate Minimum Stock:

Minimum Stock = Re-order Level - Normal usage during Normal Lead time

But if normal usage and normal lead time is not known then average usage will be treated as

normal usage and average re-order will be treated as normal re-order period.

Re-ordering Level (Ordering Level)

It is the point at which if the stock of the material in stores reaches, the storekeeper should

initiate the purchase requisition for fresh supply of material. This level is fixed somewhere

between maximum and minimum level is such a way that the difference of quantity of the

material between the reordering level and the minimum level will be sufficient to meet

requirements of production up to the time of fresh supply of the material. It is fixed after

taking into consideration the following factors:

(a) Rate of material usage: Generally this rate is found out as usage rate per day, pre week

or per month. The quantity of production fluctuates according to demand of the product

which results in variation in usage rate.

Hence, the following three factors:

(i) Maximum usage rate: It implies quantity of material required at maximum capacity

production.

(ii) Minimum usage rate: It implies quantity of material required at capacity production in most

unfavorable business conditions.

(iii) Normal or average Usage Rate: It implies quantity of material required at capacity

production under normal business conditions.

(b) Ordering Period: The time taken in preparing the order for purchase of material is called

ordering period. In some concerns this period may be significant but in large concerns this

period is significant because before placing the order the purchase manager has to trace out

the best suppliers, after that only he places the order.

© Delivery, Lead or Procurement Time: The time taken from the date of placing the order

to the date of delivery by the suppliers is called procurement time. The maximum, minimum

and average procurement time should also be determined.

(D)Minimum Stock Level: This is the level of stock below which stocks should normally not

be allowed to fall.

Calculation of Re-order Point:

After taking into account the above facts re-order quantity is ascertained. For this purpose,

the following formula is applied:

Situation1:

When rate of usage and lead time are known with certainty;

Re-order point = Rate of usage x lead time.

Situation2:

When rate of usage is known with certainty and lead time is also known but is variable:

(i) Re-order point = Minimum Inventory + Average usage during Normal lead Time.

(ii) Re-order point = Rate of usage x Maximum Lead Time.

Situation3:

When rate of usage and lead time is known but variable and lead time is known with

certainty:

(i) Re-order point = Minimum Inventory + Average usage

during lead time.

(ii) Re-order point = Maximum Usage rate x Lead time.

Situation4:

When the rate of usage and lead time are known and are variable;

(i) Re-order point = Minimum Inventory + Average usage during lead period.

(ii) Re-order point = Maximum Usage rate x Maximum Lead time.

Danger Level

This means a level at which normal issues of the material are stopped and issues made only

under specific instructions. The purchase officer will make special arrangements to procure

the materials reaching at their danger levels so that the production may not stop due to

shortage of materials. It is determined as follows:

Danger level = Average Consumption x Maximum Re-order period for Emergency

Purchase

ECONOMIC ORDER QUANTITY TECHNIQUE

One of the major inventory management problems to be resolved is how much inventory should

be added when inventory is replenished. If the firm is buying raw materials, it has to decide lost

in which it has to be purchased on replenishment. If the firm is planning a production run, the

issue is how much production to schedule (or how much to make). These problems are called

order quantity problems, and the task of the firm is to determine the optimum or economic

order quantity (or economic lot size). Determining an optimum inventory level involves two

type of costs: (a) ordering costs and (b) carrying costs: The economic order quantity is that

inventory level that minimize the total of ordering and carrying costs.

Ordering costs: the term ordering costs is used in case of raw materials (or supplies) and

includes the entire costs of acquiring raw materials. They include costs incurred in the following

activities: requisitioning, purchase ordering, transporting, receiving, inspecting and storing (store

placement). Ordering costs increase in proportion to the number of order placed.

Ordering costs increase with the number of order; thus the more frequently inventory is acquired,

the higher the firm’s ordering costs. Ordering costs decrease with increasing size of inventory.

Carrying costs: Costs incurred for maintaining a given level of inventory are called carrying

costs. They include storage, insurance, taxes, deterioration and obsolescence. The storage costs

comprise cost of storage space (warehousing cost), stores handing costs and clerical and staff

service costs (administrative costs).

Table: Ordering and Carrying Costs

Ordering Costs Carrying Costs

(1)Requisitioning (1) Warehousing

(2)Order placing (2) Handling

(3) Transportation (3) Clerical and staff

(4) Receiving inspecting and storing (4) Insurance

(5) Clerical and staff (5) Deterioration

Obsolescence

Carrying costs vary with inventory size. The economic size of inventory would thus depend on

trade-off between carrying costs and ordering costs.

Ordering and Carrying Costs trade-off: The optimum inventory size is commonly

referred to as economic order quantity. It is that order size at which annual total costs of

ordering and holding are the minimum. We can follow three approaches-the trial and error

approach, the formula approach and the graphic approach-to determine the economic order

quantity (EOQ).

Trail and Error Approach: The trail and error, or analytical, approach to resolve the order

quantity problem can be illustrated with the help of a simple example. Let us assume the

following data for a firm.

Estimated annual requirements, A 1,200 units

Purchasing cost (per order), (Rs) 50

Ordering cost (per order), (Rs.) 37.50

Carrying cost per unit, (Re) 1

Average inventory - (1200 + 0)/2 = 600 units

Average value - Rs 30,000 (600*Rs50)

If we choose the multiple order than we order 100units on monthly basis

Average inventory - (100+0)/2 = 50units)

Average value - 50 * Rs 50 = 2, 500

Many other possibilities can be worked out in the same manner.

1200

1000

800

Q/2

600

stock 400

200

50

0 2 4 6 8 10 15

Time

Inventory level over time

Order- formula approach: The trial error, or analytical, approach is somewhat tedious to

calculate the EOQ. An easy way to determine EOQ is to use the order-formula approach. Let

us illustrate this approach.

Suppose the ordering cost per order, O, is fixed. The total order costs will be number of

orders during the year multiplied by ordering cost per order. If a represents total annual

requirements and Q the order size, the number of orders will be A/Q and total order costs will

be:

Total ordering cost = (Annual requirement * Per order cost)

Order size

TOC = AO/ Q

Let us further assume the carrying cost per unit, c, is constant

The total carrying costs will be the product of the average inventory units and the carrying cost

per unit.

If Q is the order size and usage is assumed to be steady, the average inventory will be.

Average inventory = order size = Q

2 2

And total carrying costs will be:

Total carrying cost = Average inventory

* Per unit carrying cost

TCC = Qc

2

The total inventory cost, then, is the sum of total carrying and ordering costs:

Total cost = Total carrying cost + Total order cost

TC = Qc + AO

2 Q

Equation (4) reveals that for a large order quantity, Q, the carrying cost will increase, but the

ordering costs will decrease. On the other hand, the carrying costs will be lower and ordering

cost will be higher with the order quantity. Thus, the total cost function represents a trade-off

between the carrying costs and ordering costs for determining the EOQ.

To obtain the formula for EOQ, Equation (4)is differentiated with respect to Q and setting the

derivative equal to zero, we obtain:

Economic order quantity = 2* quantity required * ordering cost

Carrying cost

EOQ = 2AO

C

Graphic approach :

The economic order quantity can also be found out graphically. Figure illustrates the EOQ

function. In the figure, costs-carrying, ordering and total- are plotted on vertical axis and

horizontal axis is used to represent the order size. We note that total carrying costs increase as

the order size increasers, because, on an average, a larger inventory level will be maintained, and

ordering costs decline with increase in order size means less number of orders. The behaviors of

total costs line is noticeable since it is a sum of two types of cost which behave differently with

order size. The total costs decline in the first instance, but they start rising when the decrease in

average ordering cost is more than offset by the increase in carrying costs. The economic order

quantity occurs at the point Q* where the total cost is minimum. Thus, the firm’s operating profit

is maximized at point Q*.

Minimum total

Cost

Carrying cost

Costs ordering cost

Q* order size (Q)

Economic order quantity

Optimum productions run:

The use of the EOQ approach can be extended to production runs to determine the optimum

size of manufacture. Two costs involved are set-up costs and carrying costs. Set-up costs include

costs on the following activities: preparing and processing the stock orders, preparing drawings

and specifications, tooling machines set-up, handling machines, tools, equipment and materials,

over time etc. Production runs but carrying costs will increase as large stocks of manufactured

inventories will be held. The economic production size will be the one where the total of set-up

and carrying costs is minimum.

Reorder Point:

The problem, how much to order, is solved by determining the economic order quantity, yet

answer should be sought to be second problem, when to order. This is a problem of determining

the reorder point. The reorder point is that inventory level at which an order should be placed to

replenish the inventory. To determine the reorder point under certainty, we should known: (a)

lead time (b) average usage, and (c) economic order quantity. Lead time is the normally taken is

replenishing inventory after the order has been placed. By certainty we mean that usage and lead

time do not fluctuate. Under such a situation, reorder point is simply that inventory level which

will be maintained for consumption during the lead time. That is:

Reorder point = Lead * Average usage

Safety stock:

The demand for inventory is likely to fluctuate from time to time. In particular, at certain

points of time the demand may exceed the anticipated level. In other words, a discrepancy

between the assumed (anticipated/expected) and the actual usage rate of inventory is likely to

occur in practice.

The effect of increased usage and/or slower delivery would be shortage of inventory. That is, the

firm would disrupt production schedule and alienate the customers. The firm would, therefore, be

will advised to keep a sufficient safety margin by having additional inventory to guard against

stock-out situation. Such stocks are called safety stocks. This would act as a buffer/cushion

against a possible shortage of inventory. Safety stock may, thus, be defined as minimum

additional inventory to serve as safety margin/buffer/cushion to meet unanticipated

increase in usage resulting form unusually high demand and/or uncontrollable late receipt

of incoming inventory.

The carrying costs are the costs associated with the maintenance of inventory. Since the firm is

required to maintain additional inventory, in excess of the normal usage, additional carrying

costs are involved.

The stock-out and carrying costs are counterbalancing. The larger the safety stock, the larger the

carrying costs and vice versa. Conversely, the larger the safety stock, the smaller the stock-out

costs.

max. inventory

average usage

EOQ

avg. inventory----------------------------------------------------

re-order point-----------------------------------------------------

max.usage

safety stock -------------------------------------------------------

weeks lead time

re-order point under safety stock

VED Analysis: The VED analysis is used generally for spare parts. The requirement and

urgency of spare parts is different from that of materials. A-B-C analysis may not be properly

used for spare parts. The demand for spares depends upon the performance of the plant and

machinery. Spare parts are classified as: Vital (V), Essential (E) and Desirable (D). The vital

spares are a must for running the concern smoothly and these must be stored adequately. The

non-availability of vital spares will cause havoc in the concern. The E types of spares are also

necessary but their stocks may be kept at low figures. The stocking of D types of spares may be

avoided at times. If the lead time of these spares is less, then stocking of these spares can be

avoided.

The classification of spares under three categories is an important decision. A wrong

classification of any spare will create difficulties for production department. The classification of

spares should be left to the technical staff because they know the need, urgency and use of these

spares.

Assumptions: In applying EOQ formula, it is assumed that:

(i) Total demand is known with certainty.

(ii) The usage rate of material is steady.

(iii) Orders for replenishment on inventory are placed exactly when inventories reach

ordering level.

(iv) The ordering cost per order and holding cost per unit are constant.

EOQ and Total Inventory Cost: At EOQ level total inventory cost is minimum. Total

inventory cost is the sum of material purchase cost, ordering cost and carrying cost

As per the formula:

Total Inventory Cost (TIC) = Material Purchase Cost + Total Ordering Cost + Total

Carrying Cost

= (R x P) + (R/Po x Cp) + (Qo/2 x Ch)

Discount Offer and Economic Order Quantity:

Sometimes supplier offers different discounts on orders of large quantity. In such a situation,

at fist we should calculate EOQ and find out TIC without considering discount offer. Then

we should calculate TIC of each alternative offer. That quantity will be EOQ at TIC is the

lowest.

PERPETUAL INVENTORY CONTROL TECHNIQUE

Perpetual inventory system implies maintenance of up-to-date stock records and in its

broad sense it covers both continuous stock taking as well as up-to-date recording stores

books. According to Weldon, It may be defined as “a method of recording stores balances

after every receipt and issue to facilitate regular checking and to obviate closing down for

sock-taking”. The basic object of this system is to make available details about the quantity

and value of stock of each item at all times. The system thus provides a rigid control over

stock of each item of store can regularly be verified with the stock records in the bin cards

kept in the stores and stores ledger maintained in cost office.

Advantages of Perpetual Inventory system:

1. Saving in time: The long and costly work of stocktaking

is avoided. Hence, interim and final financial accounts can be prepared with greater

convenience.

2. Arrangement of proper verification: In this system a

detailed and more reliable checking of the store is exercised because of the continuous and

random checking.

3. Verification of Errors: Errors are easily located and

rectified. This gives an opportunity for preventing a recurrence in many cases.

4. Double control: Due to separate records in Bin card and

stores ledger, double control is maintained.

5. Optimum size of material: Overstocking and under

stocking can be avoided because perpetual inventory system covers verification of stock with

regards to maximum, minimum and other levels.

6. Lack of misuse of Material: Under this system, effective

control on issue of material is possible, thus misuse of material can be avoided.

7. Moral Check on Stores staff: Due to continuous

checking, this system serves as a moral check on the stores staff. They are discouraged from

committing dishonesty.

8. Loss of stock due to obsolescence: It is detected at an

early stage and so timely action can be taken to prevent recurrence.

THE SELECTIVE INVENTORY CONTROL OR ABC SYSTEM OF CONTROL

Most manufacturing firms find themselves confronted with virtually thousands of

different inventory items. Most of these items are relatively inexpensive, while other items

are quite expensive and account for a large portion of the firm’s investment. Some inventory

items, although not expensive, turnover slowly and therefore, they require a high average

investment. The firm should classify them into A.B.C category items. Category A will

include more expensive items (in cost of product) with high investment and it will require

more intensive control.

The ‘B’ group will consist of the items accounting for the next largest investment.

The ‘C’ group will consist of a large number of items of inventory accounting for small

investment.

The ‘A’ items require intensive inventory control and most sophisticated inventory control

techniques should be applied to these items.

The ‘B’ items can be controlled using less sophisticated technique, and their level can be

viewed less frequently than ‘A’ items.

The ‘C’ items can receive the minimum attention: they will probably be ordered in large

quantities in order to obtain them at the lowest price.

Though the ABC technique is a good technique but it cannot be universally applied. Certain

items of inventory may be inexpensive but may be critical to the product in process and

cannot be easily obtained. Therefore, they may require special attention.

These types of items must be treated as “A” class items even though, using the broad

framework, they would be “B” or “C” class items.

Although, not perfect, the ABC system is an excellent method for determining the degree of

inventory control efforts required to expand each item of inventory.

The following points should be kept in mind for ABC analysis:

(1) Where items can be substituted

for each other, they should be preferably treated as one item.

(2) More emphasis should be given

to the value of consumption and not to price per unit of the item.

(3) All the items consumed by an

organization should be considered together for classifying as A, B or C instead of taking item as

spare, raw materials, semi-finished and finished items and then classifying as A, B and C.

There can be more then three classes and the period of consumption need not necessarily be

one year

Application of ABC Analysis:

ABC analysis can be effectively used in Material Management.

The various stages where it can be applied are:

(1) Information of items which

require higher degree of control.

(2) To evolve useful re-ordering

strategy.

(3) Stock records.

(4) Priority treatment to different

items.

(5) Determination of safety stock

items.

(6) Stores layout.

(7) Value analysis.

(2) Just-in-time (JIT) System:

Japanese firms popularized the just-in-time (JIT) system in the

world. In a JIT system material or the manufactured components and part arrive to the

manufacturing sites or stores just few hours before they are put to use. The delivery of material is

synchronized with the manufacturing cycle and speed. JIT system eliminates the necessity of

carrying large inventories, and thus, saves carrying and other related costs of manufacturer. The

system requires perfect understanding and coordination between the manufacturer and supplier

in terms of the timing of delivery and quality of the material. Poor quality material or

complements could halt the production. The JIT inventory system complements the total quality

management (TQM). The success of the system depends on how well a company manages its

suppliers. The system puts tremendous pressure on suppliers. They will have to develop adequate

system and procedures to satisfactory meet the needs of manufacturers.

System of Accounting for Material Issued/Inventory Systems

Either the periodic inventory system or the perpetual inventory system may be used to

account for materials issued to production and ending materials inventory.

Periodic Inventory System

Under the periodic inventory system, the purchase of materials is

recorded in Purchase of Raw Materials Account. The opening/beginning inventory, if any, is

recorded in a separate Materials Inventory- Opening Account. The materials available for use

during a period equal purchases plus opening inventory. A physical count is made of the

materials on hands at the end of the period to arrive at the closing/ending materials inventory.

The cost of materials for the period is determined as shown in Exhibit:

Cost of Materials Issued

Materials inventory-opening

+ Purchases

= Materials available for use

- Materials inventory-closing (based on physical count)

= Cost of materials issued

The entire book inventory is verified at a given date by an actual count of materials on hand.

This physical inventory is usually taken near the end of the accounting year/period. This method

provides for the recording of the purchases on a daily basis but does not provide for a continuous

inventory-taking. Neither a physical count is made of the quantity of goods on hand, nor the

value of the inventory in determined by using an appropriate pricing method and attaching costs

to units counted. It is assumed that goods not on hand at the end of the period have been sold.

There is no system and accounting period, and they can be discovered only at the end.

INVENTORY TURNOVER RATE TECHNIQUE

One important technique of inventory control is to use inventory turn over ratios. These

ratios are calculated to asses the efficiency in use of inventories. Following control ratios can

be computed for inventory analysis:

(i) Inventory Turnover Ratio = Cost of goods sold/ Average Inventory

Where Average Inventory = (Opening Inventory + Closing Inventory)/2

Inventory Turnover Ratios ca be calculated separately for raw materials and finished goods.

(A) Raw Material Turnover Ratio = Raw Material Consumed/ Average stock of Raw

material.

(B) Finished Goods Turnover Ratio = Cost of Goods Sold/ Average Stock of Finished

Goods

Average Age of inventory of inventory Turnover in Days = Days during the period/

Inventory Turnover Ratio

(ii) Average inventory to total cost of production = (Average Inventory/ total cost of

production) x 100

(iii) Slow Moving Stores to Total Inventory = Average Cost of Slow Moving

Stores/Average Inventory

(iv) Inventory Performance Index = (Actual Material Turnover Ratio/ Standard

Material Turnover Ratio) x 100

These ratios provide a broad framework for the control and provide the basis for future

decisions regarding inventory control. The ratios provide a tough indication of when

Inventory levels are going to be high. Even if it appears from the ratio that the levels are too

high there might be a perfectly good reason why the level of Inventory is being maintained.

The ratios also indicate the situation and trend. However, the limitation of ratios should be

kept in mind. They are not an end themselves, but only tools of sound Inventory

Management.

FINANCIAL MANAGER’S ROLE IN INVENTORY MANAGEMENT

Inventory represents a large investment by manufacturing concern: therefore, great

emphasis must be placed on its efficient management. Though, the operative responsibility

for Inventory management lies with the inventory manager, the financial manager must also

be concerned with all types of inventories- raw materials, work-in-progress and finished

goods. He must monitor Inventory levels and see that only an optimum amount is invested in

Inventory. He should be familiar with the Inventory control techniques and ensure that

Inventory is managed well.

He should try to resolve the conflicting view points of all the departments in order to have

efficient inventory management. He has to act as a careful inspector levels. He should

introduce the policies which reduce the lead time, regulate usage and thus, minimize safety

stock. All these techniques of Inventory management lead to the goal of wealth

maximization.

VALUATION OF INVENTORIES

OBJECTIVE:

A primary issue in accounting for inventories is the determination of the value at which

inventories are carried in the financial statements until the related revenues are recognized.

This statement deals with the determination of such value, including the ascertainment of

cost of inventories and any write-down thereof to net realizable value.

1. This statement should be applied in accounting for inventories other than:

(a) Work-in-progress arising under construction contacts, including directly related service

contracts.

(b) Work-in-progress arising in the ordinary course of business of service providers.

(c) Shares, debentures and other financial instruments held as stock-in-trade.

(d) Producer’s inventories of livestock, agricultural and forest products and mineral oils, ores

and gases to the extent that they are measured at net realizable value in accordance with well

established practices in those industries.

2. The inventories referred are measured at net realizable value at certain stages of

production. This occurs, for example, when agricultural crops have been harvested or mineral

oils, ores and gases have been extracted and sale is assured under a forward contract or a

government guarantee or when a homogenous market exists and there is a negligible risk of

failure to sell. These Inventories are excluded from the scope of this statement.

DEFINITIONS

The following terms are used in this statement with the meanings specified:

Inventories are assets:

(a) Held for sale in the ordinary course of business.

(b) In the process of production for such sale, or

(c) In the form of materials or supplies to be consumed in the production process or in the

rendering of services.

1. Inventories encompass goods purchased and held for resale, for example, merchandise

purchased by a retailer and held for resale, computer software held for resale, or land and

other property held for resale. Inventories also encompass finished goods produced, or work-

in-progress being produced, by the enterprise and include materials, maintenance supplies,

consumables and loose tools awaiting use in the production process. Inventories do not

include machinery spares which can be used only in connection with an item of fixed asset

and whose use is expected to be irregular; such machinery spares are accounted for in

accordance with Accounting Standard (AS) 10, Accounting for Fixed Assets.

2. Inventories should be valued at lower of cost net realizable value.

3. Cost of Inventories

The cost of inventories should comprise all costs of purchase, costs of conversion and other

costs incurred in bringing the inventories to their present location and condition.

4. Costs of Purchase

The costs of purchase consist of the purchase price including duties and taxes (other than

those subsequently recoverable by the enterprise from the taxing authorities), freight, inwards

and other expenditure directly attributable to the acquisition. Trade discounts, rebates, duty

drawbacks and other similar items are deducted in determining the costs of purchase.

5. Costs of Conversion

The costs of conversion of inventories include costs directly related to the units of

production, such as direct labour. They also include a systematic allocation of fixed and

variable production overheads that are incurred in converting materials into finished goods.

Fixed production overheads are those indirect costs of production that remain relatively

constant regardless of the volume of production, such as depreciation and maintenance of

factory buildings and the cost of factory management and administration. Variable

production overheads are those indirect costs of production that vary directly, or nearly with

the volume of production such as indirect materials and indirect labour.

6. The allocation of fixed production overheads for purpose of their inclusion in the costs of

conversion is on based on the normal capacity of the production facilities. Normal capacity is

the production expected to be achieved on an average over a number of periods or seasons

under normal circumstances, taking into account the loss of capacity resulting from planned

maintenance. The actual level of production may be used if it approximates normal capacity.

The amount of fixed production overheads allocated to each unit of production is not

increased as a consequence of low production or idle plant. Unallocated overheads are

recognized as an expense in the period in which they are incurred. In periods of abnormally

high production, the amount of fixed production overheads allocated to each unit of

production is decreased so that inventories are not measured above cost. Variable production

overheads are assigned to each unit of production on the basis of the actual use of the

production facilities.

7. A production process may result in more than one product being produced simultaneously.

This is the case, for example, when joint products are produced or when there is a main

product and a by- product. When the costs of conversion of each product are not separately

identifiable, they are allocated between the products on a rational and consistent basis. The

allocation may be based, for example, on the relative sales value of each product either at the

stage in the production process when the products become separately identifiable, or at the

completion of production. Most by- products as well as scrap or waste materials, by their

nature, are immaterial. When this is the case, they are often measured at net realizable value

and this value is deducted from the cost of the main product. As a result, the carrying amount

of the main product is not materially different from its cost.

8. Other costs are included in the costs of inventories only to the extent that they are incurred

in bringing the inventories to their present location and condition. For example, it may be

appropriate to include overheads other than production overheads or the costs of designing

product for specific customers in the cost of inventories.

9. Interest and other borrowing costs are usually considered as not relating to bringing the

inventories to their present location and condition and are, therefore, usually not included in

the cost of inventories.

10. Exclusions from the cost of Inventories

In determining the cost of inventories in accordance with paragraph 3. It is appropriate to

exclude certain costs and recognize them as expenses in the period in which they are

incurred. Examples of such costs are;

1. Abnormal amounts of wasted materials, labour, or other production costs.

2. Storage costs, unless those costs are necessary in the production process prior to a further

production stage.

3. Administrative overheads that do not contribute to bringing the inventories to their

present location and condition, and

4. Selling and distribution costs.

11. The cost of inventories of items that are not ordinarily interchangeable and goods or

services produced and segregated for specific projects should be assigned by specific

identification of their individual costs.

12. Specific identification of cost means that specific costs are attributed to identify items of

inventory. This is an appropriate treatment for items that are segregated for a specific project,

regardless of whether they have been purchased or produced. However, when there are large

numbers of items of inventory which are ordinarily interchangeable, specific identification of

costs is inappropriate since, in such circumstances, an enterprise could obtain predetermined

effects on the net profit or loss for the period by selecting a particular method of ascertaining

the items that remain in inventories.

13. The cost of inventories, other than those dealt with in paragraph 11, should be assigned

by using the first-in, first-out (FIFO), or weighted average cost formula. The formula used

should reflect the fairest possible approximation to the cost incurred in bringing the items of

inventory to their present location and condition.

14. A variety of cost formulas is used to determine the cost of inventories other than those for

which specific identification of individual costs is appropriate. The formula used in

determining the cost of an item of inventory needs to be selected with a view to providing the

fairest possible approximation to the cost incurred in bringing the item to its present location

and condition.

The FIFO formula assumes that the items of inventory which were purchased or produced

first are consumed or sold first, and consequently the items remaining in inventory at the end

of the period are those most recently purchased or produced. Under the weighted average

costs formula, the cost of each item is determined from the weighted average of the cost of

similar items at the beginning of a period and the cost of similar items purchased or produced

during the period. The average may be calculated on a periodic basis or as each additional

shipment is received, depending upon the circumstances of the enterprise.

15. Techniques for the measurement of the cost of inventories, such as the standard cost

method or the retail method, may be used for convenience if the results approximate the

actual cost. Standard costs take into account normal levels of consumption of materials and

supplies, labour, efficiency and capacity utilization. They are regularly reviewed and if

necessary, revised in the light of current conditions.

16. The retail method is often used in the retail trade for measuring inventories of large

numbers of rapidly changing items that have similar margins and for which is impracticable

to use other costing methods. The cost of the inventory is determined by reducing from the

sales value of the inventory the appropriate percentage gross margin. The percentage used

takes into consideration inventory which has been marked down to below its original selling

price. An average percentage for each retail department is often used.

17. The cost of inventories may not be recoverable if those inventories are damaged, if they

have become wholly or partially obsolete, or if their selling prices have declined. The cost of

inventories may also not be recoverable if the estimated costs of completion or the estimated

costs necessary to make the sale have increased.

The practice of writing down inventories below cost to net realizable value is consistent with

the view that assets should not be carried in excess of a amounts expected to be realized from

their sale or use.

18. Inventories are usually written down to net realizable value on an item-by-item basis. In

some circumstances, however, it may be appropriate to group similar or related items. This

may be the case with items of inventory relating to the same product line that have similar

purposes or end uses and are produced and marketed in the same geographical area and

cannot be practicably evaluated separately from other items in that product line. It is not

appropriate to write down inventories based on a classification of inventory, for example,

finished goods, or all the inventories in a particular business segment.

19. Estimates of net realizable value are based on the most reliable evidence available at the

time the estimates are made as to the amount the inventories are expected to realize. These

estimates take into consideration fluctuations of price or cost directly relating to events

occurring after the balance sheet date to the extent that such events confirm the conditions

existing at the balance sheet date.

20. Estimates or net realizable value also take into consideration the purpose for which the

inventory is held. For example, the net realizable value of the quantity of inventory held to

satisfy firm sales or service contracts is based on the contract price. If the sales contracts are

for less than the inventory quantities held, the net realizable value of the excess inventory is

based on general selling prices.

Contingent losses on firm sales contracts in excess of inventory quantities held and

contingent losses on firm purchase contracts are dealt with in accordance with the principles

enunciated in Accounting Standard (A.S) 4, contingencies and events occurring after the

balance sheet date.

21. Materials and other supplies held for use in the production of inventories are not written

down below cost if the finished products in which they will be incorporated are expected to

be sold at or above cost. However, when there has been a decline in the price of materials and

it is estimated that the cost of the finished products will exceed net realizable value, the

materials are written down to net realizable value. In such circumstances, the replacement

cost of the materials may be the net available measure of their net realizable value.

An assessment is made of net realizable value as at each balance sheet date.

22. Disclosure.

The financial statements should disclose:

The accounting policies adopted in measuring inventories, including the cost formula used,

and The total carrying amount of inventories and its classification appropriate to the

enterprise.

24. Information about the carrying amounts held in different classifications of inventories

and the extent of the changes in these assets is useful to financial statement users. Common

classifications of inventories are raw materials and components, work in progress, finished

goods, stores, spares and loose tools.

DATA

COLLECTIO

N

DATA COLLECTION

In analysis of inventory of JOL, We collect the data by the different sources. We collect the

primary and secondary data.

SECONDARY DATA – The secondary data are those data the already in presence for

specific purpose we use the secondary data about inventory to looks old records of the

company .For the daily information about the items We show the MRN, ledger register and

daily issue slip of materials the purchase register and other documentary evidence used for

the findings.

In the analysis of inventory the secondary data are not sufficient .then We collect primary

data.

PRIMARY DATA –

Primary data are those data that are originated very first time or

fresh data .with the help of primary data formulated the research objectives. Primary data

are the accurate attainable reliable and useful data.

1. Inventory control techniques used by the company

2. Inventory systems as perpetual and periodic systems.

3. Stock levels etc.

4. Companies website

FINANCIAL

STATEMENTS

Profit & Loss Account 

Particulars  FY

2006 FY

2005 FY

2004 FY

2003 FY

2002 Gross Sales   16242.9 12737.0 9456.7 7853.9 6598.2 Excise   1189.4 1034.3 864.7 719.5 649.4 Net Sales   15053.5 11702.7 8592.0 7134.4 5948.8 Domestic Sales

  9102.1 7501.0 6304.7 5161.1 4766.3

              International Sales

  5951.4 4201.7 2287.3 1973.3 1182.5

              Other Income   196.9 166.4 99.5 39.3 44.1 Total Income   15250.4 11869.1 8691.5 7173.7 5992.9              Expenditure             Cost of materials

  8158.9 6177.7 4443.7 3649.1 3118.5

Manufacturin   1597.0 1394.4 1171.0 929.6 841.4

 

g expenses Selling, general and administrative expenses

  3127.1 2054.0 1426.7 1313.3 1153.3

Total Expenditure

  12883.0 9626.1 7041.4 5892.0 5113.2

             PBIDTA   2367.4 2243.0 1650.1 1281.7 879.7               Depreciation   513.4 381.4 326.2 237.5 255.8 PBIT   1854.0 1861.6 1323.9 1044.2 623.9 Interest   172.7 220.4 357.6 402.5 411.1 PBDT   2194.7 2022.6 1292.5 879.2 468.6 PBT   1681.3 1641.2 966.3 641.7 212.8 Tax   392.4 431.6 179.0 160.6 -19.4 PAT   1288.9 1209.6 787.3 481.1 232.2               Share of Profit / (Loss) in Associate

  0.00 0.00 -8.9 -0.3 0.00

Minority Interest

  7.8 -17.7 4.0 0.00 0.00

PAT after share of profit / loss in associate and minority interest

  1296.7 1191.9 782.4 480.8 232.2

   Cash Flow 

FINANCE -CONSOLIDATED CASH FLOW - Jubilant Organ. (Curr: Rs in Million)

2006.3 200503 200403 200303 Cash Flow Summary  Cash and Cash Equivalents at Beginning of the year

375.74 227.50 106.27 101.47

Net Cash from Operating Activities

141.82 1116.70 843.14 436.00

Net Cash Used in Investing Activities

4607.43 -

2595.00 -

786.68

-1122.8

0 Net Cash Used in Financing Activities

5438.34 1477.90 60.37 691.60

Net Inc/(Dec) in Cash and Cash Equivalent

0.00 148.60 4.35 0.00

Cash and Cash Equivalents at End of the year

1364.9 375.70 227.45 106.27

 

   Financial Ratios 

Ratio FY

2006 FY

2005 FY

2004 FY

2003 FY

2002 Debt : Equity Ratio 0.87 0.74 2.01 2.79 3.09 Current Ratio 2.33 1.79 2.31 2.40 2.51 Working Capital Days 90 61 80 85 84

TURNOVER RATIOS Assets 0.90 1.21 1.21 1.16 1.23 Inventory 4.83 6.04 6.54 5.28 5.77 Debtors 6.07 6.63 6.05 8.75 7.74 Interest Cover Ratio 10.74 8.45 3.70 2.59 1.52 Earning Before Interest Tax and Depreciation Margin (%)

15.73 19.17 19.21 17.97 14.79

Profit Before Interest and Tax Margin (%)

12.32 15.91 15.41 14.64 10.49

Profit Before Depreciation and Tax Margin (%)

14.58 17.28 15.04 12.32 7.88

Net Profit (after minority interest) Margin (%)

8.56 10.34 9.16 6.74 3.90

Return on Capital Employed (%)

15.17 24.56 22.14 20.61 27.59

Return on Net Worth (%) 19.38 33.87 43.99 37.18 17.63

 

 

DATA ANALYSIS AND INTERPRETATION

INVENTORY TURN OVER RATIO-

Total sales Inventory turn over ratio = Average inventory

The sales of JOL in year 2007 is 720 million & its investment on inventory is 126 million .

Then inventory turn over ratio = 720/126 = 5.71

JOL used Rs. 6 million worth inventory for operation. It could generates additional sales, sales Sales = 6 million * 5.71 = 34.26 million

If JOL increases investment more on their inventories , then company increases their sales.

Inventory turn in year 2006-

Total sales in 2006 = 670 millionInvestment on inventories = 118 million

Turn over ratio = 670/118 = 5.67

Inventory turn over in year 2005-

Total sales in 2005 = 620 millionInvestment on inventories = 110 million

Turn over ratio = 620/ 110 = 5.63

Inventory turn ratio in year 2004

Total sales in 2004 = 615 millionInvestment on inventories = 100 million

Turn over ratio = 615 / 100 = 6.15

Investment of inventories & sales on wards 2004-

year Investment on inventories in million

total sales in million

2004 100 6152005 110 6202006 118 6702007 126 720

Jubilant Organosys Ltd. increases investment on their inventories.Every year, then total sales increases year by year.

Sales EMBED Excel.Chart.8 \s

2004 2005 2006 2007

Years

VALUE UNDER FIFO METHOD -

645

670

720

615

Date Qty Cost Value Qty Cost Value Qty Cost ValueJan1 10000 2.10 210009 1000 2.21 2210 11000 - 2321012 2000 2.10 4200 9000 - 1901027 1000 2.31 2310 10000 - 21320Feb10 4000 2.10 8400 6000 - 1292016 2000 2.41 4820 8000 - 17740March3 2000 2.41 4820 10000 - 2256017 4000 2.10 8400 6000 - 1416029 4000 2.29 9160 10000 - 23320Apr4 2000 2.14 4280 12000 - 2760018 4000 @ 9340 60000 - 1826023 2000 2.04 4080 10000 - 22340May12 1000 2.40 2400 9000 - 1994024 3000 2.00 6000 12000 - 25940Jun10 1000 2.40 2400 11000 - 2354030 2000 2.02 4040 13000 - 27580Total 19000 2.19 41700 16000 - 35140

Where @ is 1000 2.21 2210 1000 2.31 2310 2000 2.41 4820Total 4000 - 9340

Interpretation - The FIFO method of valuation of inventory is based on the assumption that the inventory consumed in chronological order . that is received first are issued / consumed first and value fixed accordingly . From the table with an opening inventory of 10000 units at rs 2.10, the first 10000 units issued are charged to the cost of goods sold at this opening inventory rate rs 2.10 . the April 18 issue or consignment of 4000 units is costed on the basis of first received of the year . January 9 ,1000 units at rs 2.21, January 27 1000 units at rs 2.31 , and February 16 ,2000 units at rs 2.41. the 1000 each issued on May 12 and June 10 are costed on the basis of the 2000 units received on March 3 . therefore the cost of the 13000 inventory on June 30 is composed of the received of March29 April 4 and 23 ,May 24 and June 30 and the value is the sum of the cost of these receipts.

Valuation under perpetual inventory system-

Date Receipts Issues Balance Q R A Q R A Q A1Jan - - - - - - 200 14006Jan - - - 100 7 700 100 7008Jan 1100 8.50 9350 - - - 1200 100509Jan - - - 200 8.50 1700 1000 835015Jan - - - 400 8.50 3400 600 495025Jan 300 9 2700 - - - 900 765027Jan - - - 300 8.50 2550 300 240 300 9 2700 031Jan 400 9.20 3680 - - - 700 6080

The value of inventory after 31 January is 6080 /rs

Interpretation :-The value of inventory under periodic & perpetual inventory system is different. The value of inventory under perpetual system is more than periodic system.

DETERMINATION OF STOCK LEVELS

Data of concentrate at JOL is as follows –

Maximum consumption = 65 units per day

Minimum consumption = 55 units per day

Normal consumption = 59 units per day

Re-order period = 10-15 days

Re-order quantity = 878 units

Normal re-order period = 12 days

Re-order level = Maximum consumption * Maximum Re-order period

Re-order level = 65 units * 15 days = 975 units

Minimum stock level = re-order level – (normal consumption * Normal re-order period) = 975 - (59 units * 12 days) = 267 units

Maximum stock level = (re-order level + re-order quantity )- ( min. consumption – order period)

= ( 975 units + 878 units ) - (55 units * 15 days) = 1028 units

Average stock level = minimum stock level + ½ of Re-ordering Quantity = 267 units + ½ * 878 units = 267 units + 439 units = 706 units

Interpretation of result : -

1. After calculation the re-order level of JOL is 975 units but the actual re-order quantity is

878 units.

2. The minimum stock level of JOL is 267 units.

3. The maximum stock level of JOL is 1028 units.

4. The average stock level must be 706 units.

Calculation of expected stock out cost –

Safety stock stock prob. Of expected totalstock out(units) out stock stock out expt.level cost(40/unit) out cost SOC

500 0 0 0 0 0400 100 4000 0.01 40 40250 250 10000 0.01 100 150 6000 0.02 120 220

100 400 16000 0.01 160300 12000 0.02 240 580150 6000 0.03 180

50 450 18000 0.01 180350 14000 0.02 280200 8000 0.03 240 78050 2000 0.04 80

0 500 20000 0.01 200400 16000 0.02 320250 1000 0.03 300 1180100 4000 0.04 16050 2000 0.10 200

Expected stock out cost == stock out cost * probability of stock out .

PROBLEMS AND SUGGESTIONS

PROBLEMS FACED BY THE ORGANITION

JOL faces the following problems-

1. Jubilant Organosys Ltd. faces the problem of competition.

2. Organization facing the problem of proper skilled employees in the production

department.

3. There is no proper sequence &acknowledgement board for certain items in store

department .It is not good when external auditing held in company.

4. Organization have no record of wastage items. It is not good for operating profit of the

company.

5. In organization store assistants have no proper knowledge about engineering goods &

raw materials.

6. There is no proper staff in HR/ Personnel department for listening grievances of

employees. So employees get rid of the organization without any notice. It is not good for

any organization.

SUGGESTIONS TO THE ORGANISATION:

.

1. The organizations give proper knowledge & training for unskilled employees about their

work.

2. In store department items should placed their proper sequence & acknowledgement.

3. There should be proper record of wastage. It is good for the company.

4. Store manager give the proper knowledge about engineering & raw materials.

5. Organization should have proper staff in HR/Personnel department.

6. Personnel manager should listen grievances of the employees personnel .So employees

could not left the organization.

CONCLUSION

CONCLUSION

The goal of the wealth maximization is affected by the efficiency with which inventory is

managed. Inventories constitutes about 60% of current assets of companies in India. The

manufacturing companies hold inventories in the form of raw materials , work in progress

and finished goods. Inventories facilitate smooth production and sales operation (transaction

motive), to guard against the risk of unpredictable changes in usage rate and delivery time

( precautionary motive ) , & to take advantage of price fluctuations (speculative motive ).

Inventories represent investment of a firm’s funds. The objectives of the

inventory management should be the maximization of the value of the firm. therefore the

firm should consider:

1. cost 2. return 3. risk factors

In inventory maintenance two types of costs are involved carrying cost & ordering cost .the

firm should minimize the total cost ( carrying plus ordering cost ).The firm follows inventory

control techniques as A-B-C technique EOQ & JIT techniques for better holding inventories.

BIBLIOGRAPHY

1. Advanced Accountancy

Ninth Edition

S N Maheshwari , S K Maheshwari

Vikas Publishing House Pvt. Ltd.

2. Financial Management

Ninth Edition

I M Pandey

Vikas Publishing House Pvt. Ltd

3. Management Accounting

Third Edition

M Y Khan, P K Jain

Tata Mc-Graw Hill Publishing Company Ltd.

4. Purchase , Sales Boucher & Other Documents of the Company

Moon Beverage Ltd. Sahibabad