(i) A.B.C. Analysis
A.B.C. analysis is a selective technique of controlling different items of inventory. In actual practice, thousands of items are included in business as inventories. But all these items are not equally important. According to this technique, only those items of inventory are paid more attention which are significant for business. According to this technique, all items are classified into 3 categories A.B. and C. In ‘A’ category those items are taken which are very precious and their quantity or number is small.
(ii) In ‘B’ category those items are reserved which are less costly than the items of category ‘A’
but their number is greater.
(iii) In category ‘C’ all those items are included which are low priced but their number is highest.
The rate of use of items of category ‘A’ is the highest and that of category ‘C’ is the lowest. In a manufacturing organisation, the items of inventory can be classified as under:-
Example:-
Class Number of items in terms of
their %
% as per their value
A 15 70
B 30 20
C 55 10
100 100
Thus, the number of items of category ‘A’ are 15% but their value is 70% of total inventory. Therefore, inventory management can be made more effective by concentrating control on this category. Effort are made to minimise investment items of this category. The % of number of items in category ‘B’ is 30 but their value is 20%. Therefore this category will be paid less attention. The items in category ‘C’ is 55% but their value is just 10% of total. Therefore, management need not spend much time for control of this class of inventory because very little investment is made in them. These items are purchased in bulk quantity once in 2-3 years. The management must be aware that theses items may be less important in terms of value but their non-availabetety can break down the production process. Therefore, these item should available in time A.B.C. analysis can be presented by following diagram also.
Y
X
% of Units
% of Costs 0 10 20 30 40 50 60 70 80 90 100
10 20 30 40 50 60 70 80 90 100
Advantages of ABC Analysis
(1) A Close and strict control is facilitated on the most important items which constitute a major portion of overall inventory valuation or overall material consumption & due to this, costs associated with inventories maybe reduced.
(2) The investment in inventory can be regulated in proper manner & optimum utilisation of available funds can be assured.
(3) A strict control on inventory items in this manner help in maintaining a high inventory turnover rates.
2) FIXATION OF INVENTORY LEVELS:
Fixation of various inventory levels facilitates initiating of proper action in respect of the movement of various materials in time so that the various materials may be controlled in a proper way. However, the following propositions should be remembered.
(i) Only the fixation of inventory levels does not facilitates the inventory control. These has to be a constant watch on the actual stock level of various kinds of materials so that proper action can be taken in time.
(ii) The various levels fixed are not fixed on a permanent basis and are subject to revision regularly.
The various levels which can be fixed are as below.
1) Maximum level:
It indicates the level above which the actual stock should not exceed. If it exceeds, it may involved unnecessary blocking of funds in inventory while fixing this level, following factors are considered.
i) Maximum usage.
ii) Lead time.
iii) Storage facilities available, cost of storage and insurance etc.
iv) Prices for material v) Availability of funds.
vi) Nature of material eg If a certain type of material is subject to government regulation in respect of import of goods etc maximum level may be fixed at a higher level.
vii) Economic order Quantity.
2) Minimum Level: It indicates the level below which the actual stock not reduce, If it reduces, it may involve the risk of non-availability of material whenever it is required. While fixing this level, following factors are considered.
i) Lead time.
ii) Rate of consemption
3). Re-order level
It indicates that level of material stock at which it is necessary to take the steps for the procurement of further lots of material. This is the level falling in between the two existences of maximum level and minimum level and is fixed in such a way that the requirements of production are met properly till the new lot of material is received.
4). DANGER LEVEL:
This is the level fixed below minimum level. If the stock reaches this level, it indicates the need to take urgent action in respect of getting the supply. At this stage, the company may not be able to make the purchases in the systematic manner but may have to make rush purchases which may involve higher purchase cost.
CALCULATION OF VARIOUS LEVELS:
The various levels can be decided by using the following mathematical expressions.
1). Re-Order level:-
Maximum lead time X Maximum usage.
2). Maximum level:-
Re-order level + Re order Quantity- (Minimum Usage X Maximum lead time) 3). Minimum level:-
Re-order level- (Normal usage + Normal lead time) 4). Average level:-
Minimum level + Maximum level 2
5). Danger level:-
Normal Usage X Lead time for emergency Purchases.
3). INVENTORY TURNOVER:
Inventory turnover indicates the ratio of materials consumed to the average inventory held. It is calculated as below:
Value of Material Consumed _______________________
Average inventory held Where value of material consumed can be calculated as:
Opening stock + purchases - closing stock. Average inventory held can be calculated as:
Opening stock + closing stock __________________________
2
Inventory turnover can be indicated in terms of number of days in which average inventory is consumed. It can be done by dividing 365 days (a year) by inventory turnover ratio.
4. EOQ:- Economic order Quantity as per notes
include bills payable, notes payable and miscellaneous accruals. Net working capital is the excess of current assets over current liabilities here. Current assets are those assets which are normally converted into cash within an accounting year; and current liabilities are usually paid within an accounting year.
What for is working capital required by firm very much depends on the nature of the business which the firm is conducting. If the firm has business which deals with public utility services, obviously the requirement will be low. It is primarily because the amount becomes available as soon as services are sold and also the services arranged by the firm and immediately sold, without much difficulty and complication. On the other hand trading concerns need heavy amounts because these require funds for carrying goods traded. Similarly many industrial units will also need heavy amounts for carrying on their business. Many manufacturing concerns will also need sufficiently heavy amounts, the of course depends on the nature of commodities which are being manufactured.