Page 240 - DMGT405_FINANCIAL%20MANAGEMENT

Financial Management

Notes to be used in the firm’s production operation range from iron ore awaiting processing
into steel to electronic components to be incorporated into stereo amplifiers. The purpose
of maintaining raw material inventory is that material is taken up for production
immediately so as to avoid delays in shipment of raw materials and thereby avoid
production delays.

2. Stores and spares: These are materials/accessories which are incidental to the
consumption of Indian products and can be purchased at bulk quantity.

Example: bolts, nuts, clamps, screws, etc.,
These spare parts are usually bought from outside or sometimes they are manufactured
within the company too. This category also includes those products, which are produced
in addition of the main products for the purpose of sale.

3. Work-in-process inventory: This category includes these materials that have been
committed to the production process but have not been completed. The more complex and
lengthy the production process, the larger will be the investment in work-in-process
inventory.
4. Finished goods inventory: These are completed products awaiting sale. The purpose of a
finished goods inventory is to couple the products and sales functions so that it no longer
is necessary to produce the goods before a sale can occur.

The Nature of Inventory Planning and Control

Inventory must be sold in order to generate revenue. In a manufacturing firm, raw materials
must first be converted into finished goods before products can be sold. Money invested in
inventory cannot be invested in other earning as sets such as production or sales facilities.
Therefore, it is necessary to ensure that excessive amounts of resources are not invested in
inventories.

The purpose of inventory management is to minimize the cost of inventory without impairing
the efficient flow of production and sales activities. Inventory decisions are affected by the cost
of ordering inventory and the cost of carrying inventory as well as by the costs of not having
enough inventories in hand. Below are common types of inventory costs that are not incurred in
relation to the actual cost of the inventory itself:
Inventory ordering costs: Inventory ordering costs include:
 Cost of acquiring recent price quotations
 Costs of preparing and approving a purchase order
 Cost of receiving shipments and checking against purchase orders
 Cost of recording to purchase and moving the new inventory into storage.
Inventory carrying costs: Included under this category are:
 Cost of money invested in inventory
 Heat, length, power and depreciation costs for inventory storage facilities.
 Inventory handling costs
 Inventory insurance costs
 Cost of taxes in inventory
 Costs of spoilage, obsolescence and deterioration.

234 LOVELY PROFESSIONAL UNIVERSITY