Inventory Management in Johnson Johnson

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A PROJECT REPORT

ON

INVENTORY MANAGEMENT SYSTEM

A STUDY OF JOHNSON & JOHNSONLTD.

Submitted By: Padam Nabh

Roll No.9929

Master of Management (Batch 2009-11)

UNDER THE GUIDANCE OF:Dr. Bimal Anjum, H.O.D.Business

Administration.

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RIMT-IET, MANDI GOBINDGARH

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ACKNOWLEDGEMENT

I have prepared this study paper for the Inventory

Management System A Study of Johnson & Johnson Ltd. I

have derived the contents and approach of this study paper

through discussions with company executives and internet as well

as with the help of various Books, Magazines and Newspapers etc.

I would like to give my sincere thanks to a host of Company

Executive, friends and the teachers who, through their guidance,

enthusiasm and counseling helped me enormously as I think there

will be always need for improvement. Apart from this, I hope this

study would stimulate the need of thinking and discussion on the

topics like this one.

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Contents

PART- I

*Objective of the Study

*Introduction of Company

* Company Profile

* History

* Board of Directors

*Awards

* Products

* Guiding Principles of Company

* Structure of the Company

* Research Methodology

* Introduction of the Topic

PART- II

* Data Collection

* Financial Statements

* Data Analysis and Interpretation

* Problems and Suggestions

* Conclusions

* Bibliography

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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 inventoryrequired.

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.

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Company Prof i le

Johnson & Johnson and its subsidiaries have approximately 115,500employees worldwide engaged in the research and development,manufacture and sale of a broad range of products in the health care field.Johnson &Johnson is a holding company, which has more than 250operating companies conducting business in virtually all countries of theworld. Johnson & Johnsonsprimary focus has been on products related tohuman health and wellbeing.Johnson & Johnson was incorporated in the State of New Jersey in 1887.

The Companysstructure is based on the principle of decentralizedmanagement. The Executive Committee of Johnson & Johnson is theprincipal management group responsible for the operations and allocationof the resources of the Company. This Committee oversees and coordinatesthe activities of the Consumer, Pharmaceutical and Medical Devices andDiagnostics business segments. Each subsidiary within the businesssegments is, with some exceptions, managed by citizens of the countrywhere it is located. . Johnson & Johnson is known for its corporatereputation, consistently ranking at the top of Interactive National CorporateReputation Survey ranking as the world's most respected company byBarron'sMagazine,and was the first corporation awarded the BenjaminFranklin Award for Public Diplomacy by the U.S. State Department for itsfunding of international education programs. Johnson & Johnson is knownfor its corporate reputation, consistently ranking at the top of InteractiveNational Corporate Reputation Survey ranking as the world's mostrespected company by Barron'sMagazine,and was the first corporationawarded the Benjamin Franklin Award for Public Diplomacy by the U.S.State Department for its funding of international education programs

The corporation's headquarters is located in NewBrunswick,NewJersey,UnitedStates.Its consumer division is located inSkillman,NewJersey.Thecorporation includes some 250 subsidiary companies with operations inover 57 countries. Its products are sold in over 175 countries. J&J hadworldwide pharmaceutical sales of $24.6 billion for the full-year 2008.

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Segments of BusinessJohnson & Johnsonsoperating companies are organized into three businesssegments: Consumer, Pharmaceutical and Medical Devices and Diagnostics.

ConsumerThe Consumer segment includes a broad range of products used in the babycare, skin care, oral care, wound care and womenshealth care fields, aswell as nutritional and over-the-counter pharmaceutical products, andwellness and prevention platforms. The Baby Care franchise includes theJOHNSONSBaby line of products. Major brands in the Skin Care franchise

include theAVEENO; CLEAN & CLEAR; JOHNSONSAdult;NEUTROGENA; RoC; LUBRIDERM; Dabao; and Vendme product lines.The Oral Care franchise includes the LISTERINE and REACH oral care linesof products. The Wound Care franchise includes BAND-AID brand adhesivebandages and PURELL instant hand sanitizer products. Major brands in theWomensHealth franchise are the CAREFREE Pantiliners; STAYFREEsanitary protection products; and Vania Expansion products. The nutritionaland over-the-counter lines include SPLENDA , No Calorie Sweetener; thebroad family of TYLENOL acetaminophen products; SUDAFED cold, flu

and allergy products; ZYRTEC allergy products; MOTRIN IB ibuprofenproducts; and PEPCID AC Acid Controller from Johnson & Johnson MerckConsumer Pharmaceuticals Co. These products are marketed to the generalpublic and sold both to retail outlets and distributors throughout the world.

Pharmaceut icalThe Pharmaceutical segment includes products in the following therapeuticareas: anti-infective, antipsychotic, cardiovascular, contraceptive,dermatology, gastrointestinal, hematology, immunology, neurology,

oncology, pain management, urology and virology. These products aredistributed directly to retailers, wholesalers and health care professionalsfor prescription use. Key products in the Pharmaceutical segment include:REMICADE (infliximab), a biologic approved for the treatment of a numberof immune mediated inflammatory diseases; PROCRIT (Epoetin Alfa, soldoutside the U.S. as EPREX), a biotechnology-derived product thatstimulates red blood cell production;LEVAQUIN (levofloxacin) in the anti-infective field; RISPERDAL CONSTA(risperidone), a long-acting inject able for the treatment of schizophrenia;

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CONCERTA (methylphenidate HCl), a product for the treatment ofattention deficit hyperactivity disorder; ACIPHEX /PARIET , a protonpump inhibitor co-marketed with EisaiInc.; DURAGESIC /Fentanyl Transdermal (fentanyl transdermal system,sold outside the U.S. as DUROGESIC ), a treatment for chronic pain thatoffers a novel delivery system; VELCADE (bortezomib), a product for the

treatment for multiple myeloma; PREZISTA (darunavir) for the treatmentof HIV/AIDS patients; and INVEGA (paliperidone), a once-daily atypicalantipsychotic.

Medical Devices and Diagnostic sThe Medical Devices and Diagnostics segment includes a broad range ofproducts distributed to wholesalers, hospitals and retailers, used principally

in the professional fields by physicians, nurses, therapists, hospitals,diagnostic laboratories and clinics. These products include Cordiscirculatory disease management products;DePuysorthopaedic jointreconstruction, spinal care and sports medicine products; Ethiconssurgical care, aesthetics and womenshealth products; Ethicon Endo-Surgerysminimally invasive surgical products; LifeScansblood glucosemonitoring and insulin delivery products; Ortho-Clinical Diagnosticsprofessional diagnostic products; and Vistakonsdisposable contact lenses.Distribution to these health care professional markets is done both directlyand through surgical supply and other dealers.

Geographic AreasThe international business of Johnson & Johnson is conducted bysubsidiaries located in 59 countries outside the United States, which areselling products in virtually all countries throughout the world. The productsmade and sold in the international business include many of thosedescribed above under Segments of BusinessConsumer,Pharmaceuticaland Medical Devices and Diagnostics.However, theprincipal markets, products and methods of distribution in the internationalbusiness vary with the country and the culture. The products sold ininternational business include not only those developed in the UnitedStates, but also those developed by subsidiaries abroad.Investments and activities in some countries outside the United States aresubject to higher risks than comparable U.S. activities because theinvestment and commercial climate is influenced by restrictive economicpolicies and political uncertainties.

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Raw MaterialsRaw materials essential to Johnson & Johnsonsoperating companiesbusinesses are generally readily available from multiple sources.

Patents and Trademarks

Johnson & Johnson and its subsidiaries have made a practice of obtainingpatent rotection on their products and processes where possible. They ownor are licensed under a number of patents relating to their products andmanufacturing processes, which in the aggregate are believed to be ofmaterial importance to Johnson & Johnson in the operation of its businesses.Sales of the Companyslargest product, REMICADE (infliximab),accounted for approximately 7% of Johnson & Johnsonstotal revenues forfiscal 2009. Accordingly, the patents related to this product are believed tobe material to Johnson & Johnson. During 2007 through 2009, RISPERDAL (risperidone) oral and TOPAMAX (topiramate) lost basic patent protection

and market exclusivity and became subject to generic competition in theUnited States and international markets. RISPERDAL oral sales declinedby 57.7% and 37.8% in 2009 and 2008, respectively. TOPAMAX lostmarket exclusivity in March 2009 and sales declined by 57.9% as comparedto 2008. The next significant patent scheduled to expire on December 20,2010 is for LEVAQUIN (levofloxacin), which accounted for 2.5% of theCompanys2009 sales. A pediatric extension for LEVAQUIN was grantedby the U.S. Food and Drug

Administration (FDA), which extends market exclusivity in the United

States through June 20, 2011. Johnson & Johnsonsoperating companieshave made a practice of selling their products under trademarks and ofobtaining protection for these trademarks by all available means. Thesetrademarks are protected by registration in the United States and othercountries where such products are marketed. Johnson & Johnson considersthese trademarks in the aggregate to be of material importance in theoperation of its businesses.

CompetitionIn all of their product lines, Johnson & Johnsonsoperating companies

compete with companies both large and small, and both local and global,located throughout the world. Competition exists in all product lines withoutregard to the number and size of the competing companies involved.Competition in research, involving the development and the improvementof new and existing products and processes, is particularly significant. Thedevelopment of new and innovative products is important to Johnson &Johnsons success in all areas of its business. This also includes protectingthe Companysportfolio of intellectual property. The competitiveenvironment requires substantial investments in continuing research and in

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maintaining sales forces. In addition, the development and maintenance ofcustomer demand for the Companysconsumer products involvessignificant expenditures for advertising and promotion.

Research and DevelopmentResearch activities represent a significant part of Johnson & Johnsons

subsidiariesbusinesses. Major research facilities are located not only in theUnited States, but also in Belgium, Brazil, Canada, China, France, Germany,India, Israel, Japan, the Netherlands, Singapore and the United Kingdom.The costs of worldwide Company sponsored research activities relating tothe development of new products, improvement of existing products,technical support of products and compliance with governmentalregulations for the protection of consumers and patients (excludingpurchased in-process research and development charges for fiscal 2008 and2007), amounted to $7.0 billion, $7.6 billion and $7.7 billion for fiscal years

2009, 2008 and 2007, respectively. These costs are harged directly toexpense, or directly against income, in the year in which incurred.

EnvironmentJohnson & Johnsonsoperating companies are subject to a variety of U.S.and international environmental protection measures. Johnson & Johnsonbelieves that its operations comply in all material respects with applicableenvironmental laws and regulations. Johnson & Johnsonscompliance withthese requirements did not during the past year, and is not expected to,have a material effect upon its capital expenditures, cash flows, earnings orcompetitive position.

RegulationMost of Johnson & Johnsonsbusinesses are subject to varying degrees ofgovernmental regulation in the countries in which operations are conducted,and the general trend is toward increasingly stringent regulation. In theUnited States, the drug, device, diagnostics and cosmetic industries havelong been subject to regulation by various federal and state agencies,primarily as to product safety, efficacy, manufacturing, advertising, labelingand safety reporting. The exercise of broad regulatory powers by the FDAcontinues to result in increases in the amounts of testing anddocumentation required for FDA clearance of new drugs and devices and acorresponding increase in the expense of product introduction. Similartrends are also evident in major markets outside of the United States. Thecosts of human health care have been and continue to be a subject ofstudy, investigation and regulation by governmental agencies and

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legislative bodies around the world. In the United States, attention has beenfocused on drug prices and profits and programs that encourage doctors towrite prescriptions for particular drugs or recommend, use or purchaseparticular medical devices. Payers have become a more potent force in themarket place and increased attention is being paid to drug and medicaldevice pricing, appropriate drug and medical device utilization and the

quality and costs of health care. The regulatory agencies under whosepurview Johnson & Johnsons operating companies operate haveadministrative powers that may subject those companies to such actions asproduct withdrawals, recalls, seizure of products and other civil and criminalsanctions. In some cases, Johnson & Johnsonsoperating companies maydeem it advisable to initiate product recalls. In addition, business practicesin the health care industry have come under increased scrutiny, particularlyin the United States, by government agencies and state attorneys general,and resulting investigations and prosecutions carry the risk of significantcivil and criminal penalties.

PROPERTIESJohnson & Johnson and its subsidiaries operate 143 manufacturing facilitiesoccupying approximately 21.4 million square feet of floor space. Themanufacturing facilities are used by the industry segments of Johnson &Johnsons business approximately as follows:

Available InformationSquare Feet

(in Segment thousands)Consumer 6,825Pharmaceutical 6,369

Medical Devices and Diagnostics 8,251Worldwide Total 21,445

Within the United States, 7 facilities are used by the Consumer segment, 12by the Pharmaceutical segment and 37 by the Medical Devices andDiagnostics segment. Johnson & Johnsonsmanufacturing operationsoutside the United States are often conducted in facilities that serve more than one business segment.

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The locations of the manufacturing facilities by major geographic areas ofthe world are as follows:

Geographic Area Number of Facilities (Square Feet in thousands)United States 56 7,489Europe 38 7,336

Western Hemisphere, excluding U.S. 16 3,372Africa, Asia and Pacific 33 3,248Worldwide Total 143 21,445

EXECUTIVE OFFICERS OF THEREGISTRANT

Listed below are the executive officers of Johnson & Johnson as of February8, 2010, each of whom, unless otherwise indicated below, has been anemployee of the Company or its affiliates and held the position indicatedduring the past five years. There are no family relationships between any ofthe executive officers, and there is no arrangement or understandingbetween any executive officer and any other person pursuant to which theexecutive officer was selected. At the annual meeting of the Board of

Directors, the executive officers are elected by the Board to hold office forone year and until their respective successors are elected and qualified, oruntil earlier resignation or removal.Information with regard to the directors of the Company, including those ofthe following executive officers who are directors, is incorporated herein byreference to the material captioned Election of Directorsin the ProxyStatement.

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Name & PositionDominic J. CarusoMember, Executive Committee; Vice President, Finance; ChiefFinancial Officer (a)

Russell C. Deyo

Member, Executive Committee; Vice President, HumanResources and General Counsel (b)Colleen A. Goggins

Member, Executive Committee; Worldwide Chairman,Consumer Group(c)

Alex GorskyMember, Executive Committee; Worldwide Chairman, Medical

Devices and Diagnostics Group (d)

Sherilyn S. McCoyMember, Executive Committee; Worldwide Chairman,Pharmaceuticals Group (e)

William C. WeldonChairman, Board of Directors; Chairman, ExecutiveCommittee; Chief Executive Officer

History

RobertWoodJohnson,inspired by a speech byantisepsisadvocateJosephLister,joined brothersJamesWoodJohnson andEdwardMeadJohnson to create a line of ready-to-usesurgicaldressings in 1885. Thecompany produced its first products in 1886 andincorporated in 1887.

Robert Wood Johnson served as the first president of the company. He

worked to improvesanitationpractices in the nineteenth century, and lenthis name to ahospital inNewBrunswick,NewJersey.Upon his death in1910, he was succeeded in the presidency by his brother James Wood

Johnson until 1932, and then by his son,RobertWoodJohnson II.

RWJ's granddaughter, MaryLeaJohnsonRichards, was the first baby toappear on a J&J baby powder label. His great-grandson, JamieJohnson,

made a documentary called BornRich about the experience of growing up

as the heir to one of the world's greatest fortunes.

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Since the 1900s, the company has pursued steady diversification. Itadded consumer products in the 1920s and created a separate division forsurgical products in 1941 which becameEthicon.It expanded intopharmaceuticals with the purchase ofMcNeilLaboratories,Inc.,Cilag,and

JanssenPharmaceutical,and into women's sanitary products and toiletriesin the 1970s and 1980s. In recent years, Johnson & Johnson has expanded

into such diverse areas asbiopharmaceuticals,orthopedic devices, andInternet publishing. Recently, Johnson & Johnson has purchased Pfizer'sConsumer Healthcare department. The transition from Pfizer to Johnson and

Johnson was completed December 18, 2006.

Johnson & Johnson has been consistently named one of the 100 BestCompanies for Working Mothers by Working Mother.

Along withGatorade,Johnson & Johnson is one of the founding sponsors ofthe NationalAthleticTrainers'Association .

About Eth icon (B rand Name)

Our company was founded 80 years ago on the pillars of research,

vision, innovation, and a commitment to improving the quality of patientslives. The first group of Ethicon scientists and researchers, who thoughtabout healing in a new way - and in doing so, pioneered our sutures to

enhance the work of surgeons and the lives of patients - recognized theopportunity for limitless innovation.

Almost a century later, Ethicon produces much more than sutures. We havecontinuously introduced innovations in all areas where we focus ourexpertise including: wound closure; general surgery; biosurgery; womens

health, and aesthetic medicine. While a lot has changed in healthcare, onething has not: Ethicon remains committed to developing the best surgicalsolutions to help doctors heal both the wounds you can see and the ones

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you cant. Innovations that Restore Bodies...and Lives. How do we do it?How do we stay on the cutting edge of science? By way of our greatestasset: the talented, highly educated, experienced group of professionalswho work at ETHICON - 8,500 gifted professionals around the world cometogether every day to advance, innovate, and respond to their customersneeds. Our commitment to fulfilling the needs of surgeons and their

patients, of transforming surgery, of helping patients heal faster and moresafely is never ending. And so our work must be, too.

Ethicon has a legacy all its own. But were part of a broader heritage,

too. As a member of the Johnson & Johnson Family of Companies, wereguided by Our Credo: company values that empower all of our employees toconsider first the needs of our customers and patients we serve and toimprove the health, education, and quality of life in the communities wherewe work and live.

Caring for the world, one person at a timeinspires and unites the

people of Johnson & Johnson. We embrace research and science - bringinginnovative ideas, products and services to advance the health and well-being of people. Our 119,400 employees at more than 250 Johnson &Johnson companies work with partners in healthcare to touch the lives ofover a billion people every day, throughout the world.

Suture Manu factu r ing Plan ts in

India

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Baddi

Aurangabad

Growth & Expansion Of

Johnson & Johnson

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Since our founding in 1886, we have grown to meet the health careneeds of people worldwide. Through mergers, acquisitions and theformation of new companies, we have become the worldslargest andmost broadly based health care company. Here are some highlights ofour historical growth.

1886

1926: Joh nson & John son Founded Wi th Surg ica land Wound Care Produ cts

In 1886, our founders Robert Wood Johnson, James Wood JohnsonandEdward Mead Johnson started a small medical products companyinNew Brunswick, New Jersey. They made the first-ever commercialsterile surgical dressings, which helped save the lives of patients.

We introduced dental floss, the first Aid kits, sanitary napkins forwomen, sterile sutures, JOHNSONSBaby Powder, and BAND-AIDBrand Adhesive Bandages. Our international expansion began with Canada in 1919 andEngland in 1924. Our disaster relief program began in 1906 when, within hours of

the San Francisco earthquake and fire, we sent trainloads of ourproducts to the city to help survivors.

1926 1946: Grow th of Product L ines and Expansion

Overseas Help J ohnso n & John son Go Publ ic

In 1943 our chairman Robert Wood Johnson wrote Our Credo, outliningour responsibilities to doctors, nurses, patients, consumers,

employees, and the community. During this period we also continuedour overseas growth and began to broaden our efforts in

pharmaceuticals and medical products. We expanded into Mexico, South Africa, Australia, France,Belgium, Ireland, Switzerland, Argentina, and Brazil.

We introduced MODESS sanitary napkins and JOHNSONSBabyOiland Baby Lotion. We also launched the first U.S. prescription birthcontrol product, ORTHO GYNOL Gel, in 1931.

In 1944 we became a publicly traded company.

1946 1966: Cont inued Produc t Grow th and Ou r Credo

Posit ion John son & John son as Respons ib le Indust ry

Leader.

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We steadily continued our growth during these decades.

We expanded to Zimbabwe, Austria, Sweden, the Philippines,Colombia, Puerto Rico, the Netherlands, India, Scotland,Pakistan, Zambia, Venezuela, Italy, Malaysia and Portugal.

New companies formed or acquired included:

ETHICON, Inc., Personal Products Company (products relatedto womenshealth);

McNeil Laboratories, Inc. (bringing us TYLENOLacetaminophen);

European pharmaceutical companies Cilag Chemie, A.G. andJanssen Pharmaceutical, and Codman & Shurtleff, Inc.(medical and surgical instruments).

In 1963 Ortho Pharmaceutical began marketing its first birth

control pill, ORTHO-NOVUM 10 mg.

1966 1986: Medical Ad vances Create Groundbreaking

Products

Our operating companies pioneered several important medicaladvances during this period. The acquisition of Frontier Contact Lenses

would grow into our vision care business, the pioneer in disposablecontact lenses. In 1985 we expanded to China. We introduced a widerange of groundbreaking products during these decades including:

RhoGAM a life saving treatment for hemolytic disease innewborns.

HALDOL (haloperidol), the gold standard for treatingschizophrenia for over 25 years.

MONISTAT (miconazole nitrate) Cream, a milestone product forwomenshealth.

VICRYL Synthetic absorbable sutures, an important new tool forsurgeons.

The PROXIMATE Linear Stapler, a new way to close

surgicalincisions without sutures.

ORTHOCLONE OKT3, the first therapeutic monoclonal antibody totreat the rejection of transplanted organs.

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1986 2008: Indu stry L eadership Enhanced by Acqu is i t ions

and Internal Development

From the 1980s to the present, we continue to grow throughacquisitions and internally developed businesses that give usleadership positions in a number of areas.

We acquired Life Scan, Inc. (blood glucose monitors for diabetics),Neutrogena Corporation, and skin care brands such as CLEAN &CLEAR, RoC and AVEENO.

The acquisition of DePuy, Inc. made us a world leader inorthopedics.

We formed Ortho Biotech Products, LP (a biotechnology pioneer)and Ethicon Endo-Surgery, Inc. (minimally invasive surgery) out ofinternal businesses. We merged with Centocor, Inc. which brought us REMICADE(infliximab). Through our operating companies, we introduced the first mass

market disposable contact lenses, the first coronary stent and thefirst drug eluting stent.

Prescription medications we introduced during this periodinclude:

PROCRIT/EPREX (Epoetin Alfa) RISPERDAL (risperidone) RAZADYNE (galantamine hydro bromide)

PREZISTA (darunavir) INVEGA (paliperidone) Extended Release Tablets

INTELENCE (etravirine)

Loo k ing to the Fu tu re

Johnson & Johnson is dedicated to advancing the health and well-beingof people around the world. Our people come to work each dayinspired by their personal knowledge that their caring transforms

people's lives. Our whole history has been based on their passion formaking a difference in this world and we aspire, in the years to come,to take human health and well-being to new levels. We are arguably

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the best-positioned company to do this because of our breadth,financial strength and collaborative nature.

STRUCTRE OF THE COMPANY

Johnson & Johnson Ltd. act upon the rules & regulations of the

Companies Act, 1948. The company has well defined structure

.It have the following departments:

1. HR/ Personnel department

2. Accounts departments

3. Purchase departments

4. Store department

5. Quality Assurance & Quality Control

6. IT department

7. R&D Department

8. Sales & Excise department

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RESEARCH METHODOGY

Research methodology is the way to systematically solve

the research problem. Objective of research study is Analysis of

inventory of Johnson & Johnson 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. J&J

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

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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 datasof the company.

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 assetsin 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 mnage 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, without any

adverse effect on production and sales, by using simple

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inventory planning and control techniques. The reduction in

excessive inventory carries a favorable impact on a

companys profitability.

MEANING OF INVENTORY:-

Inventory is the physical stoke of goods maintained in organization for its smooth sunning. In accounting language it m

mean stock of finished goods only. In a manufacturing concern

may include raw materials, work-in-progress and stores etc. In t

form of materials or supplies to be consumed in the producti

process or in the rendering of services. In brief, Inventory

unconsumed or unsold goods purchased or manufactured.

NATURE OF INVENTORIES:-

Inventories are stock of t

product a company is manufacturing for sale and components th

make up the product. The various forms in which inventory exista manufacturing company are raw materials, work in progress a

finished goods.

RAW MATERIALS:-

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Raw materials are those inputs that are convert

into finished product though the manufacturing process. Ra

materials inventories are those units which have been purchas

and stored for future productions.

WORK IN PROGRESS:-

These inventories are semi manufactured produc

They represent products that need more work before they becom

finished products for sales.

FINISHED GOODS:-

Finished goods inventories are those complete

manufactured products which are ready for sale. Stock of ra

materials and work in progress facilitate production. While stock

finished goods is required for smooth marketing operation. Thu

inventories serve as a link between the production aconsumption of goods.

The levels of three kinds of inventories for a firm depend

the nature of its business. A manufacturing firm will ha

substantially high levels of all three kinds of inventories, while

retail or wholesale firm will have a very high and no raw materand work in progress inventories. Within manufacturing firm

there will be differences. Large heavy engineering compani

produce long production cycle products, therefore they carry lar

inventories. On the other hand, inventories of a consumer produ

company will not be large, because of short production cycle an

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fast turn over. Firms also maintain a fourth kind of invento

supplies or stores and spares.

SUPPLIES:

It includes office and plant cleaning materials li

soap, brooms, oil, fuel, light, bulbs etc. These materials do n

directly enter production, but are necessary for producti

process. Usually, these supplies are small part of the to

inventory and do not involve significant investment. Therefore,

sophisticated system of inventory control may not be maintain

for them.

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 besummarized as follows:

A.Operating Objectives:

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(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

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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 ofmaterials.

(7)Designing poorer organization for inventorymanagement:

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.

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(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 cal

transit or pipeline inventories. Their existence owes to the fact th

transportation time is involved in transferring substantial amount

resources.

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upplies

2. Buffer inventories: -In Buffer inventories are held to protect agai

the uncertainties of demand and supply. An organization generally knows t

average demand for various items that it needs. Prod.deptt. issue sto

inspect receive supplier

S

Demand

Inventory in

Hand place

Orders

Purchase

dept.

Net order issue receive tender

Quantity tenders quotation evaluations

Inventory cyc

3. Anticipation Inventories. Anticipation inventories are held for t

reason that future demand for the product is anticipated. Production

specialized times like crackers well before dewily, umbrellas and rainco

before taints set in, fans while summers are approaching; or the piling up

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inventory stocks when a strike is on the anvil, are all examples

anticipation inventories.

CONTROL OF MATERIALS:

Rigid control over materials are necessary not only to guard against the

but also to minimize waste and misuse from causes such as excess

inventories, over issue, deterioration, spoilage, and obsolescence. There a

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 economic

qualities;

3. Purchases of materials will be made at most favorableprices;

4. Vouchers for the payments of materials purchased will be approved on

if the materials have been received in good condition;

5. Materials will be protected against loss by proper physicalcontrol;

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 som

individual.

The control of materials, as an element of cost of production, is illustrat

with reference to the purchase and issues procedures, inventory systemand inventory control techniques.

IMPORTANCE OF INVENTORY

CONTROL:

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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.

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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 customers 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.

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(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.

ESSENTIAL OF INVENTORY

CONTROL SYSTEM

For an efficient and successful inventory control there are

certain important conditions that are as 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.

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(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 muchto 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

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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: Animportant 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 inventorycontrol structure should

be manned with trained, qualified, experienced and devoted

employees.

(8) Coordination: There must be proper coordination of

alldepartments 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.

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(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 materialis also necessary.

(10) Internal Check: Operating of a system of internal

check is also vital in inventory management so that al

transactions involving material supplies and equipment

purchase areproperly 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

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(6) Management view Point

Speci f ic Factors: These factors are directly related with

investment instock. Following are the main factors:

) 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 its

production season.

(2) Length and Technical Nature of the production

process: If production process is lengthy and of technica

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.

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(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.

TECHNIQUES OF INVENTORY

CONTROL

In managing inventories, the firms objective should be in

consonance with the wealth maximization principle. To achieve

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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.

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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.

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(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 toensure 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 leadtime.

(c) Re-order Level

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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.

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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.

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(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 duringlead time.

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

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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

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ECONOMIC ORDER QUANTITY

TECHNIQUE

One of the major inventory management problems to

resolved is how much inventory should be added when invento

is replenished. If the firm is buying raw materials, it has to deci

lost in which it has to be purchased on replenishment. If the firm

planning a production run, the issue is how much production

schedule (or how much to make). These problems are callorder quantity problems, and the task of the firm is

determine the optimum or economic order quantity (or econom

lot size). Determining an optimum inventory level involves tw

type of costs: (a) ordering costs and (b) carrying costs: T

economic order quantity is that inventory level that minimize t

total of ordering and carrying costs.

Ordering costs: the term ordering costs is used in case of ra

materials (or supplies) and includes the entire costs of acquirin

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raw materials. They include costs incurred in the followi

activities: requisitioning, purchase ordering, transportin

receiving, inspecting and storing (store placement). Ordering cos

increase in proportion to the number of order placed.

Ordering costs increase with the number of order; thus the mo

frequently inventory is acquired, the higher the firms orderi

costs. Ordering costs decrease with increasing size of inventory.

Carrying costs: Costs incurred for maintaining a given level

inventory are called carrying costs. They include storag

insurance, taxes, deterioration and obsolescence. The stora

costs comprise cost of storage space (warehousing cost), stor

handing costs and clerical and staff service costs (administrati

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

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Carrying costs vary with inventory size. The economic size

inventory would thus depend on trade-off between carrying cos

and ordering costs.

Ordering and Carrying Costs trade-off: The optimu

inventory size is commonly referred to as economic ord

quantity. It is that order size at which annual total costs

ordering and holding are the minimum. We can follow thr

approaches-the trial and error approach, the formula approa

and the graphic approach-to determine the economic ord

quantity (EOQ).

Trail and Error Approach: The trail and error, or analytic

approach to resolve the order quantity problem can be illustrat

with the help of a simple example. Let us assume the followi

data for a firm.

1,200 Dz.

Estimated three month requirements,

Purchasing cost (per order), (Rs) 50

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

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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 o

monthly basis

Average inventory - (400+0)/2 = 150units)

Average value - 150 * Rs 50 = 7, 500

Many other possibilities can be worked out in the same manner

1200

1000

800

Q/2

600

Stock 400

200

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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 averag

inventory units and the carrying cost per unit.

If Q is the order size and usage is assumed to be steady, th

average inventory will be.

Average inventory = ordersize = Q

2 2

And total carrying costs will be:

Total carrying cost = Average inventory

* Per unit carrying cost

TCC = Qc

2

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The total inventory cost, then, is the sum of total carryin

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 carryi

cost will increase, but the ordering costs will decrease. On t

other hand, the carrying costs will be lower and ordering cost w

be higher with the order quantity. Thus, the total cost functi

represents a trade-off between the carrying costs and orderi

costs for determining the EOQ.

To obtain the formula for EOQ, Equation (4) is differentiated w

respect to Q and setting the derivative equal to zero, we obtain:

Economic order quantity = 2*quantityrequired*orderingcost

Carrying cost

EOQ = 2AO

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C

Graphic approach:

The economic order quantity can also be found out graphical

Figure illustrates the EOQ function. In the figure, costs-carryin

ordering and total- are plotted on vertical axis and horizontal ax

is used to represent the order size. We note that total carryi

costs increase as the order size increasers, because, on

average, a larger inventory level will be maintained, and orderi

costs decline with increase in order size means less number

orders. The behaviors of total costs line is noticeable since it is

sum of two types of cost which behave differently with order siz

The total costs decline in the first instance, but they start risi

when the decrease in average ordering cost is more than offset

the increase in carrying costs. The economic order quantity occu

at the point Q* where the total cost is minimum. Thus, the firm

operating profit is maximized at point Q*.

Minimum total

Cost

Carrying cost

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Costs ordering cost

Q* order size (Q)

Economic order quantity

Optimum productions run:

The use of the EOQ approach can be extended to producti

runs to determine the optimum size of manufacture. Two cos

involved are set-up costs and carrying costs. Set-up costs inclu

costs on the following activities: preparing and processing t

stock orders, preparing drawings and specifications, toolimachines set-up, handling machines, tools, equipment a

materials, over time etc. Production runs but carrying costs w

increase as large stocks of manufactured inventories will be he

The economic production size will be the one where the total

set-up and carrying costs is minimum.

Reorder Point:

The problem, how much to order, is solved by determining t

economic order quantity, yet answer should be sought to

second problem, when to order. This is a problem of determinin

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the reorder point. The reorder point is that inventory level

which an order should be placed to replenish the inventory.

determine the reorder point under certainty, we should known: (

lead time (b) average usage, and (c) economic order quanti

Lead time is the normally taken is replenishing inventory aft

the order has been placed. By certainty we mean that usage a

lead time do not fluctuate. Under such a situation, reorder point

simply that inventory level which will be maintained f

consumption during the lead time. That is:

Reorder point = Lead * Average usage

Safety stock:

The demand for inventory is likely to fluctuate from time

time. In particular, at certain points of time the demand m

exceed the anticipated level. In other words, a discrepan

between the assumed (anticipated/expected) and the actual usa

rate of inventory is likely to occur in practice.

The effect of increased usage and/or slower delivery would

shortage of inventory. That is, the firm would disrupt producti

schedule and alienate the customers. The firm would, therefo

be will advised to keep a sufficient safety margin by havin

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additional inventory to guard against stock-out situation. Su

stocks are called safety stocks. This would act as a buffer/cushi

against a possible shortage of inventory. Safety stock ma

thus, be defined as minimum additional inventory to serve

safety margin/buffer/cushion to meet unanticipated increase

usage resulting from unusually high demand and/or uncontrollab

late receipt of incoming inventory.

The carrying costs are the costs associated with the maintenan

of inventory. Since the firm is required to maintain addition

inventory, in excess of the normal usage, additional carrying cos

are involved.

The stock-out and carrying costs are counterbalancing. The larg

the safety stock, the larger the carrying costs and vice vers

Conversely, the larger the safety stock, the smaller the stock-o

costs.

Max. Inventory

Average usage

EOQ

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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 spa

parts. The requirement and urgency of spare parts is differe

from that of materials. A-B-C analysis may not be properly used

spare parts. The demand for spares depends upon t

performance of the plant and machinery. Spare parts are classifi

as: Vital (V), Essential (E) and Desirable (D). The vital spares aremust for running the concern smoothly and these must be stor

adequately. The non-availability of vital spares will cause havoc

the concern. The E types of spares are also necessary but th

stocks may be kept at low figures. The stocking of D types

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spares may be avoided at times. If the lead time of these spares

less, then stocking of these spares can be avoided.

The classification of spares under three categories is an importa

decision. A wrong classification of any spare will create difficultifor production department. The classification of spares should

left to the technical staff because they know the need, urgen

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 materia

purchase cost, ordering cost and carrying cost

As per the formula:

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

Ordering Cost + Total Carrying Cost

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= (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 first we should calculate EOQ

and find out TIC without considering discount offer. Then we

should calculate TIC of each alternative offer. That quantity wil

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 amethod 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.

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Advantages of Perpetual Inventory system:

1. Saving in time: The long and costly work

of stocktaking is avoided. Hence, interim and final financia

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.

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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 firms

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.

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The B group will consist of the items accounting for the next

largest investment.

The Cgroup 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 wil

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.

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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.

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

(1) Where items can

substituted for each other, they should be preferably treated

one item.

(2) More emphasis should

given to the value of consumption and not to price per unit of t

item.

(3) All the items consumed

an organization should be considered together for classifying as B or C instead of taking item as spare, raw materials, semi-finish

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

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Application of ABC Analysis:

ABC analysis can be effective

used in Material Management. The various stages where it can

applied are:

(1) Information of items whi

require higher degree of control.

(2) To evolve useful re-orderi

strategy.

(3) Stock records.

(4) Priority treatment to differe

items.

(5) Determination of safe

stock items.

(6) Stores layout.

(7) Value analysis.

Just-in-time (JIT) System:

Japanese firms popularized thejus

in-time (JIT) system in the world. In a JIT system material or th

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manufactured components and part arrive to the manufacturi

sites or stores just few hours before they are put to use. T

delivery of material is synchronized with the manufacturing cyc

and speed. JIT system eliminates the necessity of carrying lar

inventories, and thus, saves carrying and other related costs

manufacturer. The system requires perfect understanding a

coordination between the manufacturer and supplier in terms

the timing of delivery and quality of the material. Poor qua

material or complements could halt the production. The J

inventory system complements the total quality manageme(TQM). The success of the system depends on how well

company manages its suppliers. The system puts tremendo

pressure on suppliers. They will have to develop adequate syste

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 invento

system may be used to account for materials issued to producti

and ending materials inventory.

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Periodic Inventory System

Under the periodic inventory syste

the purchase of materials is recorded in Purchase of Ra

Materials Account. The opening/beginning inventory, if any, recorded in a separate Materials Inventory- Opening Accou

The materials available for use during a period equal purchas

plus opening inventory. A physical count is made of the materia

on hands at the end of the period to arrive at the closing/endi

materials inventory. The cost of materials for the period

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

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The entire book inventory is verified at a given date by an actu

count of materials on hand. This physical inventory is usua

taken near the end of the accounting year/period. This meth

provides for the recording of the purchases on a daily basis b

does not provide for a continuous inventory-taking. Neither

physical count is made of the quantity of goods on hand, nor t

value of the inventory in determined by using an appropria

pricing method and attaching costs to units counted. It is assum

that goods not on hand at the end of the period have been so

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

INVENTORY TURNOVER RATE TECHNIQUE

One important technique of inventory control is to use

inventory turnover ratios. These ratios are calculated to assess

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

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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 Costof

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

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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 MANAGERS 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

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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 arerecognized. 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.

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(d) Producers 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

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

the production process or in the