Internal Use of Inventory

 

     

Question: 

How should one track inventory for items that are both used in-house and sold to customers e.g. Blueprint paper?  The common occurrence is that this inventory is not tracked accurately and hence "on-hand" and "available" quantities are often incorrect or unknown.  Other candidates are items that may be resale items but are not directly billed to the customer such as ammonia etc.

 

 

 

Answer:

This answer is in two parts, Part 1 is a general introduction of concepts and Part 2 is an example of how this may work in practice.

 

PART 1:        THE CONCEPT

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What the ultimate goal is:

• Determine waste in the Reproduction departments
• Achieve inventory control so the item is always available; never run out of the item
• Achieve inventory control so unauthorized use of the item is minimized

 

There are three procedures outlined below.  The procedures vary in terms of the extent of control exercised on the inventory item. In all three cases the common aspects are as follows:

1.  Internal Customer:  In A/R create internal customers in the customer number range 100" to "200". For example, customer "110" is "Reproductions", customer "120" is "Supplies".

2. Internal Open Order: Each of the procedures outlined will involve opening an order for one or more of the customers identified in the step above. The order will be invoiced at the end of the month.

3. Zero Selling Price: In each case, since we are tracking the inventory item as cost of sales, set a zero selling price (no profit) on the item.  This can be achieved by using the contract file, and using a particular price level for all items sold to this customer.

4. Standard Purchasing and Receiving: In each of the procedures, an item will be ordering, stocking and receiving in the standard prescribed manner.

 

 

PROCEDURE 1:        Instant Commitment of Inventory

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Once the item is received into inventory, the item and the whole amount is entered onto the order and committed instantly.  As stated above, this would have to be at a zero selling price.

    

What happens is that the on-hand reflects the received quantity plus whatever was already in inventory.  Now, if the process is followed, there should always be a zero quantity available. This procedure works well for items such as ammonia that are never sold directly. 

 

The advantage of this approach is that it is easy to implement and carry out.  The disadvantage is that there is limited control on usage and someone would have to visually inspect the stock to determine when more of the item needs to be ordered.

 

Another way of achieving the same effect, but with a little less control is:

1. In the P/O Module, Purchase Order Entry & Editing (Task 1), enter a purchase order for the item that is for "in house use".  This purchase order is printed basically just to send to the vendor.  When the paper actually comes in, cancel the purchase order.

2. Do not receive or vendor invoice the paper items in the P/O module.  Go directly into the A/P module and voucher it. Use the cost of goods G/L account #.

 

The disadvantage here is that you lose a little control for greater simplicity.

 

This procedure works well for items such as ammonia that are never sold directly.  Now, some items are used in-house as well as re-sold to customers.  For example, paper.  This may be used on a job or simply sold as paper.  If that is true, then to use this procedure, track the item under two different item numbers.  The other alternative is to use one of the other two procedures outlined.

 

 

PROCEDURE 2:        End of Month Commitment

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Receive the item into inventory as usual.  At the end of the month, conduct a physical inventory and determine what the usage was for that month.

In general:

     Usage = Inventory Value as Stated by the Computer  -  Physical Inventory

 

Then commit the "Usage" value to the open order mentioned at the beginning of these instructions.  Once all relevant items are entered onto the order, invoice the order.  Note that the inventory value in the computer will be accurate only on the day that the physical inventory is done.

 

The advantages of this procedure are that there is a little better control over the inventory value and usage can be tracked by month.  This procedure can also be used for items, such as paper, which may be directly sold.

 

The disadvantage is having to perform the end of month inventory for these items.  Also understand, except for the day that the actual physical inventory is done the inventory, as stated by the computer, is inaccurate.  Also, the inventory has to be visually inspected to determine when to place an order.

 

 

PROCEDURE 3:        Commit as You Use

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This the most accurate method of tracking items.  In this case, enter items on the order as they are used  i.e. daily.  This can

be done by keeping a terminal at the warehouse with access to the open order, having a clipboard that everyone makes entries on as they use the items, or have a person in charge of the inventory with a release process in place.

 

The advantage of this approach is that it offers a very high level of control with accurate on-line inventory quantities.

 

The disadvantage is that it requires discipline.

 

 

 

Some of the factors that should be considered in implementing any of the above procedures are:

• Degree of control required for the item.

          - Is it expensive?

          - Are there long lead times in ordering?

• The number of the described items in inventory.

 

 

PART 2         PUTTING INTO PRACTICE

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Situation: A company provides Blueline services.  The primary material used in this service is blueline paper.  For the example, assume that the paper is available in 2 roll widths, 24" and 36".  The per-sq. ft cost of the paper is the same for both roll widths.

 

Question: How can the company handle the inventory for the materials used and at the same time ensure that billing to the customer is performed accurately?

 

Solution:

One point to note-- The price of any service, as billed to a customer, should take into account:

     - Material cost

     - Labor cost

     - Profit margin

     - Other costs (waste, overhead etc.)

Of the above, the first two will determine the cost of the service, the third item will determine the selling price and gross profit. The fourth item will determine the expenses and hence the net profit on a service.

 

Step 1 -- Create three inventory items:

     1. Blueline Paper 24" Roll (Material/Non-Dimensional)

     2. Blueline Paper 36" Roll (Material/Non-Dimensional)

     3. Blueline Service (Material/Dimensional type=  )

Items 1 and 2 are created for the following purposes:

• Purchasing:
  • Ensure that the item has supplier records for all the different vendors that the item is ordered from (Task 18 in the Inventory module).
  • Also ensure that the item tracks the correct cost to appear on P.O.'s sent out to the vendor.
  • Assume for now, that the items are never resold.  In that case, be sure that there is a zero selling price on the items.
• Tracking cost of materials:  As might be apparent now, these items only appear on the "Internal Customer" order.  This means that items 1 and 2 are maintained to track the material cost on the Blueline service.

Item 3 is created for the following purpose:

• Customer Billing:
  • Item 3 is used for all customer billing of the Blueline service.
  • Make sure that the item is dimensional so that the customer can be billed accurately for the square footage used.
  • Capturing the price:
    • On Item 3, set the selling price of the Blueline service based on the per sq. ft selling price. 
    • Make sure that the cost is zero.
      • Item 3 reflects in its price, the factors
        • ​material cost

        • labor cost

        • gross profit

  • ​Item 3 is artificially created and is not received "in" the purchasing module, in the standard manner. 

  • It is important to note that cost associated with Item 3 is zero, because the cost is tracked by items 1 and 2.

  • Also, the quantity of Item 3 is set at an arbitrarily high figure.

  • It is important to recognize that Item 3 is not an asset, but a "part number" that is created for accurate billing.

• ​Now, when a customer asks for blueline service, the service department uses the materials needed for the service, but uses Item 3 as the Item with the correct number of sets and originals to get an accurate sq. ft charge.

 

The service department may use either Item 1 or Item 2 as the material in the service provided.  However, this is already accounted for in the internal order if any of the above procedures are followed.

 

 

Step 2 -- Figure out:

1. Revenue for Blueline service by looking at a Sales report of Item 3.

 

2. Material Cost by looking at a Sales report of Items 1 and 2.

 

3.At the end of the month, look at a sales activity report for the internal customers with numbers in the range 100" to 200" as described in Part 1 and make journal entries to track cost by department.  The report is the "IHSCUS" report in:

• Order Processing (Module 6)
  • Special Item History (Task 15)
    • Customer / Item /Date (Sub-task 1)

 

4. Gross Profit from the previously printed 2 reports.

 

5. Wastage as:

     Square-footage billed out to customer (Item 3)

     

     (Square-footage used of Item 1 + Square-footage used of Item 2)

(After converting roll usage to Square Footage)