Presentation

Presentation

1. Definitions (Materials requisition, the Stores Ledger Account)

2. The difficulty of Pricing the Issues of Materials

   • The cost of each individual item of material is calculated by the stores department on the basis of documents received (e.g., invoice, transporter’s bill, purchase order and other supporting documents)
   • The cost of each individual item of material is calculated by the stores department on the basis of documents received (e.g., invoice, transporter’s bill, purchase order and other supporting documents)
   • Materials are purchased on regular basis at different prices. A difficulty that arises with material issues is the assignment of rate with each issue.

3. Methods of pricing the issue of materials

   • 10 methods

4. Factors for Selecting a Particular Method

   • 1. Nature of the material
   • 2. Cost of material per unit
   • 3. Fluctuation in the market price and its range
   • 4. Nature of contract with the suppliers
   • 5. Frequency of purchase
   • 6. The policy of the management
   • 7. Volume of material purchased in one order
   • 8. Change in accounting policy of the company
   • 9. Chances of obsolescence

5. Weighted average method

   • Advantage
     • 1. This method is very suitable when price fluctuation is very wide. For example, in case of agricultural products, price is very low at the time of harvesting but after 4/5 months price is very high.
     • 2. This method facilitates the spreading of total cost (high / low) evenly over all materials in hand.
     • 3. The cost of two consecutive batches / jobs will not vary. Therefore, the pricing of product will be easier and consistent
   • Disadvantages
     • 1. Calculation of weighted average rate is tedious.
     • 2. The rate for issue of material may not reflect the current market price of the material, which may lead to under– costing or over–costing of batches or jobs.
     • 3. The value of closing stock may not reflect the current market price

6. LIFO method

   • Advantages
     • 1. It is very simple to operate like FIFO method. It is very convenient when number of purchase orders are less
     • 2. The materials issued in a logical and systematic manner. It ensures that materials are issued at actual cost.
     • 3. At the time of rising prices, the most recent purchases are charged to products / operations.
   • Disadvantages
     • 1. Like FIFO method, operation of this method may become difficult if the number of purchases are frequent and price is fluctuating widely.
     • 2. At the time of falling prices, the materials cost charged to products will be less and the higher unrealized profit will be shown in the account.
     • 3. Like FIFO method, the cost of consecutive similar jobs may vary widely simply because the previous job was charged with higher rate of materials.
     • 6. The closing stock does not represent current market price. There may be oldest price stock. At the time of falling prices, value of stock is to be written down as the market price is lower than cost price
     • 4. When materials are purchased in small quantities and issued at large quantities, at the time of issue, more than one price have to be adopted.
     • 5 . This method is inconsistent with physical movement of goods and its price. In almost all industries, goods move physically on FIFO basis.

7. FIFO method

   • Advamtages
     • 1. It is very simple to operate, particularly when frequency of purchase is less
     • 2. The materials are issued in a logical and systematic manner. It ensures that materials are issued at actual cost.
     • 3. The value of closing stock will be at par with current market price.
     • 4. This method facilitates the identification of cost with physical units.
     • 5. No profit or loss arises by using this method as materials are issued at actual cost and not at estimated cost or standard cost.
   • Disadvantages
     • 1. The operation of this method may not remain simple, if the purchases are frequent and price is fluctuating widely
     • 2. At the time of rising prices, this method may lead to disclose higher profit as cost of goods sold will be less (because of old price).
     • 3. This method will not work properly when materials of different rates are received on the same date.
     • 4. When materials are purchased in small quantities and issued at large quantities, at the time of issue more than one prices have to be adopted.

8. Wrap up

   • There is no one best method suitable to all situations
   • The selected method should reflect the current market situation and it should be consistent with the accounting policy of the company.
   • It should facilitate the preparation of financial statements for reporting of true and fair view of the organization’s financial position and performance.
   • At the time of selecting the method, the requirement of the Cost Accounting Standards are also to be taken into consideration.