According to the second International Accounting Standard (IAS 2), inventories are a list of all items in stock and are valued at a price lower than the net realizable cost. According to the general doctrine of accountancy, stock is an asset but from the producer's point of view, it is treated as an expenditure.
Indeed producer's logic is very realistic because, a stock is always valued less than net realizable and in addition to that, over consumption of stock, uncontrolled wastage, delayed stock supply and unaccounted stock, add to the production expenditure. Thus the basic motive of implementing inventory control methods is:
- To minimize wastage and over consumption
- To keep a good and even flow of the intake and issue of stock
Methods of Inventory Control
The following are the primary stock control methods that are often used by companies in their production operations. All these methods are well established and have been used in production industry for quite a long period of time.
Min-Max Plan
In min-max plan, the cost accountant who is in charge of the inventory control, establishes two levels, the minimum and maximum level of stock. When the items/materials/units, reach the minimum level, the order to replenish the stock is placed. The maximum level is the level that the stock quantity should not exceed, as it will put a considerable strain on the finances of the company and will also create problems such as storage, wastage and over consumption.
Two Bin System
The two bin system is used to establish a connection between the order and reorder procedures. As mentioned above, from the point of view of a producer, uneven supply of stock and odd consumption is not very healthy. Such unevenness is sorted by two-bin system. In such a system, the stock is sorted into two bins, or piles. The first stock (bin 1), is the larger of the two and is used up between the time period that lasts from purchase of stock till the reorder. The second stock (bin 2), can be used from the time when the reorder is placed till the order is actually received. The second stock, has a considerable amount of stand by that can be used for emergencies.
Order Cycling System
This system is based upon a review timetable. According to this system, a review of the entire inventory is done at regular intervals, such as 30 days, 60 days or 90 days. After the review is done, the cost accountant views stock items with low quantities that will not last up to the next review interval. The purchase order for such a stock item is placed immediately. The order cycling system is not exactly foolproof and one requires a rather experienced cost accountant to efficiently conduct it.
ABC Analysis
Any stock is segregated into different sections. These items are classified into 3 sections, A, B and C. The logic of segregating these items into sections is that section A consists of limited number of items that are very expensive. Section B has items that are not expensive and the number of units that is to be ordered is also not very large. The section C consists of numerous items, that have a low monetary value. The logic behind such segregation is that every section is viewed differently by the cost accountant, due the difference in order time, reorder time and delivery period. For example, though the unites in section A are less, their monetary value is also high and so is their delivery period. The ABC analysis is a simple and probably the most effective of all stock control methods.
There are many other methods such as FIFO and LIFO (issuance inventory valuation methods) that are considered to be very effective in controlling inventory. In addition to that, you might also refer to some established mathematical formulas such as economic ordering quantity.
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