Techniques of Material Cost Control

Material control aims at eliminating and minimising all kinds of wastes and losses while the materials are being purchased, stored, handled, issued or consumed. A number of techniques are used at planning, procuring and holding stage of material which help in exercising and effecting material cost control.

Such techniques have been discussed below:

1. Level Setting:

In order to have proper control on materials, the following levels are set:

1. Re-order Level
2. Minimum Level
3. Maximum Level
4. Danger Level
5. Average Stock Level

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1. Re-Order Level:
   It is the point at which if stock of a particular material in store approaches, the storekeeper should initiate the purchase requisition for fresh supplies of that material. This level is fixed somewhere between the maximum and minimum levels in such a way that the difference of quantity of the material between the re-ordering level and the minimum level will be sufficient to meet the requirements of production upto the time the fresh supply of the material is received.
   Re-ordering level can be calculated by applying the following formula
   Ordering Level = Minimum Level + Consumption during the time required to get the fresh delivery.
2. Minimum Level:
   This represents the minimum quantity of the material which must be maintained in hand at all times. The quantity is fixed so that production may not be held up due to shortage of the material.
   In fixing this level, the following factors are taken into consideration:
   • Lead time i.e. time lag between indenting and receiving of the material. It is the time required to replenish the supply.
   • Rate of consumption of the material during the lead time.
   • Nature of the material. Minimum level is not required in case of a special material which is required against customer’s specific order.
   Formula for the calculation of minimum level given by Wheldon is as follows:
   Minimum Stock Level = Re-ordering Level – (Normal Consumption x Normal Re-order Period),
3. Maximum Level:
   It represents the maximum quantity of an item of material which can be held in stock at any time. Stock should not exceed this quantity. The quantity is fixed so that there may be no overstocking.
   Overstocking should be avoided as far as possible because of the following disadvantages:
   • Overstocking unnecessarily blocks working capital which could be profitably utilised somewhere else.
   • Overstocking will need more godown space, so more rent will have to be paid.
   • There may be loss due to obsolescence on account of overstocking.
   • There are chances of reduction in quality because large stocks will require more time before they are consumed.
   • There may be fear of reduction in market values of the overstocked materials.
   
   Maximum stock level is fixed by taking into account the following factors::
   • Amount of capital available for maintaining stores.
   • Godown space available.
   • Maximum requirement of the stores for production purposes at any point of time.
   • Rate of consumption of the material during the lead time.
   • The time lag between indenting and receiving of the material.
   • Possibility of loss in stores by deterioration, evaporation etc. There are certain stores which deteriorate in quantity if they are stored over a long period.
   • Cost of maintaining stores.
   • Likely fluctuation in prices. For instance, if there is the 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 prices in the near future, stocks are kept at a very reduced level
   • The seasonal nature of supply of material. Certain materials are available only during specific periods of the year, so these have to be stocked heavily during these periods.
   • Restrictions imposed by the Government or local authority in regard to material in which there are inherent risks e.g. fire and explosion.
   • Possibility of change in fashion and habit which will necessitate change in requirements of materials.
   The formula for the calculation of maximum stock level given by Wheldon is as follows:
   Maximum Stock Level = Reordering Level + Re-ordering Quantity – (Minimum Consumption x Minimum Re-ordering Period)
4. Danger Level:
   This means a level at which normal issues of the material are stopped and issues are made only under specific instructions. The purchase officer will make special arrangements to get the materials which reach at their danger levels so that the production may not stop due to shortage of materials.
   Danger Level = Average consumption x Max. re-order period for emergency purchases
5. Average Stock Level:
   This level is calculated by the following formula:
   Average Stock Level = Minimum Stock Level + 1/2 of Re-order Quantity or 1/2 (Minimum Stock Level + Maximum Stock Level)