CHAPTER 7

ACCOUNTING FOR MATERIALS

I. Opening Prayer
II. Announcements
III. Overview of the topic
IV. Discussion and Recitation
ACCOUNTING FOR MATERIALS
Learning Objectives :
Upon completion of this chapter, you should be able to ;
1) Distinguish between and account for direct and indirect materials as they are
used in the production process
2) Differentiate among the forms used in the purchase order, a receiving report,
and a material requisition
3) Distinguish between the periodic and perpetual cost accumulation systems used
to account for materials issued to production and for ending materials inventory
4) Distinguish among the five common control procedures used to assist
management is keeping inventory costs to a minimum
Materials Control

The cost of raw materials is a major part of the manufacturing cost on most
manufacturing companies so a strict control should be implemented in order to
minimize waste, and misuse, and to guard against theft or pilferage.

CONTROL PROCEDURES
keeps costs at a minimum level with smooth and uninterrupted plant production
schedule
its major function is to keep expenditures within the limits provided by the
preconceived plan
Control Procedure
The following concepts should be employed in an inventory control system:
1. Inventory – result of purchasing raw materials, and applying labor and FOH to raw
materials
2. Reduction of Inventory – result of normal use and also finding alternative uses for
scrapping unneeded items
3. Optimum Inventory Investment – quantitative techniques to minimize cost of
carrying inventory
4. Efficient purchasing and management depend on accurate forecast of sales
5. Forecasts – help determine when to order materials, scheduling production
(control inventory)
6. Inventory Control – made through personal judgments with basis on experience
7. Methods of inventory vary (cost of materials and their importance)
Control Procedure
Organization for Materials Control

Purchasing Department (Purchase Order)

This department is charged with the responsibility of placing orders for materials
with reliable suppliers, with the materials to be made available at the right time and
at the right place.
Receiving Department (Receiving Report)

This department is charged with the inspection of incoming shipments and

verification of the quantities received and ordered.
Control Procedure
Organization for Materials Control

Storeroom (stockroom) (Material Requisition Slip, Stock cards)

This department is responsible for protecting materials against physical

deterioration and ensuring that stocks are properly issued.

Accounting Department
This department records all transactions in the accounts after documentary
evidences have been supplied by the other departments.

Cash Department
This department pays all invoices after approval by the accounting department
Commonly Used Control Procedure
Order Cycling - materials are reviewed on a periodic or regular cycle, and
orders are placed to maintain desired inventory level.

Example: (30-60-90 day method)

# of Days Desired Level of Inventory

30 40 units
60 80 units
90 120 units
Commonly Used Control Procedure

Min-max Method - minimum and maximum inventory levels are

determined. Reordering is done when the minimum level is reached.

Desired Level of Inventory

Maximum 150 units

Minimum 80 units

Two-bin Method - this is use for inexpensive items. The second bin provides
coverage until the order is received.

1st bin 2nd bin

50 60
Commonly Used Control Procedure

Automatic Order System - order is automatically placed when the

inventory reaches predetermined level. This system works best when
used with computer.

ABC Plan - used with wide variety of items having difficult values. The
more expensive items receive more frequent review and closer
monitoring

A items – most expensive items, usually few on hand

B items – moderately priced items and moderate quantity on hand
C items – inexpensive items, generally kept in large quantities
 Basic Aspects of Materials Control

1. Physical Control of Materials – safeguarding assets

Limited Access
Segregation of Duties
Accuracy in Recording

2. Control of the Investment in Materials

-maintaining proper balance of materials on hand
-inventory of sufficient size must be maintained
ECONOMIC ORDER QUANTITY (EOQ)
purchase order which results in the minimum total inventory cost. In determining the quantity to
be ordered, the cost of placing an order and the cost of carrying inventory must be
considered.

Factors to be considered in determining ordering costs

Salaries and wages (purchasing, receiving, inspecting)
Communication cost for ordering (telephone, postage, forms of stationery)
Materials accounting and record keeping
Factors to be considered in determining carrying costs
Materials storage and handling costs
Interest, insurance, and property taxes
Loss due to theft, deterioration, and obsolescence
Records of supplies associated with the carrying of inventories
METHODS OF COMPUTING ECONOMIC
ORDER QUANTITY
TABULAR METHOD
Total ordering costs and total carrying costs vary inversely.

Total Carrying Cost Total Order Cost

Greater Inventory on Hand greater lower

Small Inventory on Hand lower (more orders to place) greater

METHODS OF COMPUTING ECONOMIC
ORDER QUANTITY
TABULAR METHOD

Order Size No. of Orders Total Order Cost Ave Inventory Total Carrying Cost Total O&C

100 100 P1,000 50 P40 P1,040

300 33 330 150 120 450

500 20 200 250 200 400

700 14 140 350 280 420

900 11 120 450 360 470

EOQ = 500 unit (order size where total costs = 400)

Where:
Order Size = number of units per order Number of orders = 10,000/order size
Total order cost = No. of orders x P10/order Average inventory = order size/2
Total carrying cost = average inventory xP0.80
Total O&C Cost = total order cost + total carrying cost
METHODS OF COMPUTING ECONOMIC
ORDER QUANTITY
 
METHODS OF COMPUTING ECONOMIC
ORDER QUANTITY
 
 Materials Control
ORDER POINT

Point at which an item should be ordered

occurs once predetermined minimum level of inventory on hand is reached
Calculation of Order Point:
Usage – anticipated rate at which the materials will be used
Lead Time – estimated time interval between placement of order and receipt of
material
Safety Stock – estimated minimum level of inventory needed to protect against running
out

Order Point = Usage x Lead Time + Safety Stock

 Materials Control
ORDER POINT
- The point at which an items should be ordered.
Formula : OP= Usage x Lead time

Example:
Assume that expected daily usage of an item of material is 100 units, the anticipated lead time is 4
days.
expected daily usage of material = 100 units
anticipated lead time = 4 days
Solution:
100 ( daily usage) x 4 (lead time) 400
When the inventory level of materials is reduced to 400 units, an order should be placed for 500 units
(the EOQ)
1st 400 -100 = 300 units
2nd 300 – 100 = 200 units
3rd 200- 100 = 100 units
4th 100 – 100 – 0
5th ….
 Materials Control
ORDER POINT

Example:
Assume that expected daily usage of an item o material is 100 units, the anticipated lead time
is 4 days, it is estimated that a safety stock of 800 units is needed.

expected daily usage of material = 100 units

anticipated lead time = 4 days
estimated safety stock = 800 units
Solution:
100 ( daily usage) x 4 (lead time) 400
Safety Stock 800
Order Point 1,200 units
 BUSINESS PAPERS USED TO SUPPORT
MATERIAL TRANSACTIONS
Purchase Requisition
written request sent to inform the purchasing department of a need for materials
Purchase Order
written request to a supplier (serially numbered)
supplier’s authorization to deliver goods and submit a bill
Receiving Report
When goods ordered are delivered, the receiving department will unpack and count them
Materials Requisition Slip
written order to the storekeeper to deliver materials or supplies to the place designated
includes job number, department, quantity and description, unit cost, total cost of the
goods
 METHODS OF COSTING MATERIALS

First-in, First-out (FIFO)

under this method the first materials purchased are the first materials to be
used. The materials on hand are assumed to be the last one purchased.

Average Methods:
Weighted average method (periodic)
-units issued should be charged at an average cost, such average being influenced or
weighted by number of units acquired at each price.

The moving average method (perpetual)

in this method all the costs are commingled, and an average cost is computed with
each new purchase and assigned to materials issued and on hand.
 FIRST-IN, FIRST-OUT METHOD OF
COSTING
ILLUSTRATIVE PROBLEM

August 1 Inventory 400 units at P10 P 4,000

  12 Purchased 600 units at P12 7,200
  16 Issue 500 units
  18 Purchased 300 units at P15 4,500
  20 Issue 200 units
  25 Purchased 400 units at P14 5,600
28 Issued 400 units
 
 FIRST-IN, FIRST-OUT METHOD OF COSTING

*PERIODIC INVENTORY SYSTEM

The inventory on August 31 shows 600 units hand.

If the ending inventory is valued at P8,600, cost of materials issued is P12,700

computed as follows:
 FIRST-IN, FIRST-OUT METHOD OF COSTING

*PERPETUAL INVENTORY SYSTEM

DIRECT MATERIALS USED ENDING INVENTORY

 AVERAGE METHOD
*WEIGHTED AVERAGE METHOD (PERIODIC)
ILLUSTRATIVE PROBLEM

August 1 Inventory 400 units at P10 P 4,000

  12 Purchased 600 units at P12 7,200
  16 Issue 500 units
  18 Purchased 300 units at P15 4,500
  20 Issue 200 units
  25 Purchased 400 units at P14 5,600
28 Issued 400 units
 
Weighted Average Unit Cost is computed as follows:
 AVERAGE METHOD
*MOVING AVERAGE METHOD (PERPETUAL)
COMPARISON – FIFO AND AVERAGE METHOD
 SPECIAL PROBLEMS IN MATERIALS ACCOUNTING

DISCOUNTS
-constitute a reduction in the list price

✔ Trade Discounts
✔ Quantity Discounts
✔ Cash Discounts
 SPECIAL PROBLEMS IN MATERIALS ACCOUNTING

DISCOUNTS
✔ Trade Discounts
-generally given in terms of percentage (15%, 10%, 5%)
-not recorded on the books, purchases are recorded on the books net of the
discount
Illustration:
Windy Corporation buys all of its materials and supplies from the Oregon Company and
is allowed a trade discount of 10%. Purchases during the month were P400,000 before
the discount.
The entry to record the purchase is :

Materials P 360,000
Accounts Payable 360,000
(400,000 x 90%)
 SPECIAL PROBLEMS IN MATERIALS ACCOUNTING

DISCOUNTS
✔ Quantity Discounts
-cost savings for volume purchases
-not given explicit accounting recognition in the books
Illustration:
ABC company offers a 10% discount if customers buy at least 100 purple widgets. The
normal retail price of this widget is P1,000. A customer buys 100 units.

The entry to record the purchase is :

Materials P 90,000
Accounts Payable 90,000
(100,000 x 90%)
 SPECIAL PROBLEMS IN MATERIALS ACCOUNTING
DISCOUNTS
✔ Cash Discounts
-granted to customer to motivate them to pay promptly

a. When Taken Method

- purchases and liabilities are recorded at gross amounts
- discount is only recognized when account is paid within discount period
b. When Not Taken Method
- purchases and liabilities are recorded at net amounts
- when payment lapsed discount period, “Purchase Discount Loss”
c. When Offered Method
- purchases are recorded at net and the liability is recorded at gross
- difference is charged to “Allowance for Purchase Discount”
- when payment lapsed discount period, “Purchase Discount Loss”
 SPECIAL PROBLEMS IN MATERIALS ACCOUNTING
✔ Cash Discounts
a. When Taken Method
Illustration:
The Jenelle Company purchased materials listed at P40,000; terms, 2/15, n/30 on August 1.
Assume payments as follows:
a.) Full payment in made on August 14.
b.) Full payment is made on August 30.
 SPECIAL PROBLEMS IN MATERIALS ACCOUNTING
✔ Cash Discounts
b. When Not Taken Method
Illustration:
The Jenelle Company purchased materials listed at P40,000; terms, 2/15, n/30 on August 1.
Assume payments as follows:
a.) Full payment in made on August 14.
b.) Full payment is made on August 30.
 SPECIAL PROBLEMS IN MATERIALS ACCOUNTING
✔ Cash Discounts
c. When Offered Method
Illustration:
The Jenelle Company purchased materials listed at P40,000; terms, 2/15, n/30 on August 1.
Assume payments as follows:
a.) Full payment in made on August 14.
b.) Full payment is made on August 30.
 SPECIAL PROBLEMS IN MATERIALS ACCOUNTING

FREIGHT-IN
✔ Direct Charging
- freight incurred is added to invoice price (debit Materials for freight)
- effect is increase in the unit cost
- If two or more materials are purchased, freight must be allocated using:

a) Relative Peso Value Method – allocated based of the peso value of items
b) Relative Weight Method – allocated based on weight of items purchased

✔ Indirect Charging
-freight incurred is charged to FACTORY OVERHEAD CONTROL
 SPECIAL PROBLEMS IN MATERIALS ACCOUNTING
FREIGHT-IN
Illustration:
An invoice for raw materials A, B, and C is received from the Bulacan Corporation. The
invoice totals are: A – P25,000; B – P15,000; C – P10,000. The freight charge on the
shipment weighting 10,000 pounds is P1,500. Shipping weights for the respective
materials are 5,000, 2,000, and 1,000 respectively.

Required:
1. Entry to record the purchase of materials and the freight using:
a. Direct charging method.
b. Indirect charging method
2. The cost per pound to be entered in the materials ledger cards for A, B, and C, if
freight is collected using:
a. Relative peso values method
b. Relative weight method
 SPECIAL PROBLEMS IN MATERIALS ACCOUNTING

FREIGHT-IN
Illustration:
An invoice for raw materials A, B, and C is received from the Bulacan Corporation. The
invoice totals are: A – P25,000; B – P15,000; C – P10,000. The freight charge on the
shipment weighting 10,000 pounds is P1,500. Shipping weights for the respective
materials are 5,000, 2,000, and 1,000 respectively.
 SPECIAL PROBLEMS IN MATERIALS ACCOUNTING
FREIGHT-IN
Illustration:
An invoice for raw materials A, B, and C is received from the Bulacan Corporation. The
invoice totals are: A – P25,000; B – P15,000; C – P10,000. The freight charge on the
shipment weighting 10,000 pounds is P1,500. Shipping weights for the respective
materials are 5,000, 2,000, and 1,000 respectively.
 SPECIAL PROBLEMS IN MATERIALS ACCOUNTING
FREIGHT-IN
Illustration:
An invoice for raw materials A, B, and C is received from the Bulacan Corporation. The
invoice totals are: A – P25,000; B – P15,000; C – P10,000. The freight charge on the
shipment weighting 10,000 pounds is P1,500. Shipping weights for the respective
materials are 5,000, 2,000, and 1,000 respectively.
 SPECIAL PROBLEMS IN MATERIALS ACCOUNTING
SPOILED UNITS, DEFECTIVE UNITS, SCRAP MATERIAL, AND WASTE MATERIAL
✔ Spoiled Units
-units that do not meet production standards and are either sold for salvage value or discarded.
1. Charged to a Specific Job – used if the spoilage is the job itself
Spoiled Goods xxx
Work in Process xxx
Where: Spoiled Good and WIP = no. of units spoiled x estimated sales value per unit

2. Charged to All Production – spoilage is considered normal to the process, does not exceed limit
Spoiled Goods xxx
Factory Overhead Control xxx
Work in Process xxx
Where: Spoiled Goods = no. of units spoiled x estimated sales value/unit
WIP = total cost incurred/charged to spoiled units
Factory OH = loss
 SPECIAL PROBLEMS IN MATERIALS ACCOUNTING

SPOILED UNITS, DEFECTIVE UNITS, SCRAP MATERIAL, AND WASTE

MATERIAL
✔ Spoiled Units
 SPECIAL PROBLEMS IN MATERIALS ACCOUNTING
✔ Spoiled Units
 SPECIAL PROBLEMS IN MATERIALS ACCOUNTING

✔ Spoiled Units
 SPECIAL PROBLEMS IN MATERIALS ACCOUNTING
SPOILED UNITS, DEFECTIVE UNITS, SCRAP MATERIAL, AND WASTE MATERIAL
✔ Defective Units
-do not meet production standards; must be processed further to be salable

1. Charged to the specific job

Work in Process xxx
Materials xxx
Payroll xxx
FOH Applied xxx

2. Charged to all Production

FOH Control xxx

Materials xxx
Payroll xxx
FOH Applied xxx
 SPECIAL PROBLEMS IN MATERIALS ACCOUNTING

SPOILED UNITS, DEFECTIVE UNITS, SCRAP MATERIAL, AND WASTE

MATERIAL
✔ Defective Units
 SPECIAL PROBLEMS IN MATERIALS ACCOUNTING

SPOILED UNITS, DEFECTIVE UNITS, SCRAP MATERIAL, AND WASTE

MATERIAL
✔ Defective Units
 SPECIAL PROBLEMS IN MATERIALS ACCOUNTING

SPOILED UNITS, DEFECTIVE UNITS, SCRAP MATERIAL, AND WASTE

MATERIAL
✔ Defective Units
 SPECIAL PROBLEMS IN MATERIALS ACCOUNTING
SPOILED UNITS, DEFECTIVE UNITS, SCRAP MATERIAL, AND WASTE
MATERIAL
✔ Scrap Materials
- left over from production; cannot be put back in production for the same purpose
-may be usable for a different purpose and sold to outsider for a nominal amount
Indication of Efficiency – when amount of scrap exceeds the norm

1. Specific Job
Scrap Materials xxx
Work in Process xxx
2. Not Traceable to Specific Job
Scrap Materials xxx
Miscellaneous Income xxx
3. Recovered from Factory Supplies
Scrap Materials xxx
FOH Control xxx
 SPECIAL PROBLEMS IN MATERIALS ACCOUNTING

SPOILED UNITS, DEFECTIVE UNITS, SCRAP MATERIAL, AND WASTE

MATERIAL
✔ Waste Materials
- left over from production process that has no further use or resale value and may require
cost for their disposal

1. Allocated to All Jobs

Scrap Materials xxx
FOH Control xxx

2. Allocated to Specific Job

WIP (Job Number) xxx
Accounts Payable xxx
ACCOUNTING FOR BASIC MATERIAL
TRANSACTION