Materials Expense Out of Control?

So you used way too much chemistry, powder, metal, etc. last month and now there’s nothing to do but wait for the inevitable question from the upset GM or CEO… “How could we possibly have spent that much on (fill in the blank) last month?”

Ironically, the one reason that rarely occurs to anyone is often the culprit. Expense isn’t out of control because we used too much. It’s out of control because the inventory management system is performing poorly.

I’ll use a simple example. One of Thomas’ responsibilities at Mr. Dobbs’ drugstore is to keep track of gumballs. Every Wednesday ACME Gumball Inc. delivers 100 gumballs, which are then sold in the drugstore every day.
At the close of business on Saturday of each week, Thomas is required to determine the number of gumballs in inventory and also the number sold during that week. Before the store opens on Sunday morning, Thomas counts 60 gumballs in inventory. At the close of business the following Saturday, there are 70. Ninety gumballs were sold during the week (60+100-70=90).

 

This is exactly how most coaters calculate material expense each month: Usage = Beginning Inventory + Purchases - Ending Inventory.

 

On Sunday morning of Week 2, there are 70 gumballs in inventory. One hundred are delivered on Wednesday. At the end of the day on Saturday, there are 75 gumballs in inventory. However, Thomas miscounts and records 80. How many gumballs were actually sold during Week 2? The answer is 95 (70 + 100 - 75). However, because he miscounted, Thomas records 90, a mistake that results in a miscalculation of how many were actually sold.

In the same way, a mistake in a coater’s inventory creates a miscalculation in how much product was used during the month. What’s worse, since ending inventory in December becomes beginning inventory for January, a mistake in December will also throw off the calculation for January.

Inaccurate inventory can create a whole host of problems. Since the problem is hard to identify (you can’t go back 30 days and count inventory) it’s hard to pin down that the problem even exists. As result, time is wasted in an effort to derive an explanation (dare I say excuse) for excess materials expense—time that could otherwise be used to improve the business. The swings in materials expense are a challenge to explain to boards, shareholders and banks. Finally, the resulting lack of accurate materials expense data makes it difficult to measure the effectiveness of continuous improvement efforts. Wouldn’t it be better to just get it right the first time?

Follow these rules to complete the perfect month-end physical inventory count:

•  Perform the physical inventory at the very end of the month, when all product that will be used has been used and before activity for the next month begins.
• Prior to performing the inventory, ensure that all product received has been placed in the inventory area.
• Designate a specific individual to take primary responsibility for the inventory process. Then designate a backup and have the two individuals perform inventory together (one counts and one writes the data down). If the first person makes an error, often the second will catch it. Also, person number two is set to stand in if needed.
• Implement a system that ensures that everything gets counted once. No less, no more. Move methodically through the inventory area or mark containers as they are counted.
• Implement a consistent system for assigning the dollar amount per unit of inventory, i.e. actual cost per gallon, moving average per pound, etc.
• Once the total dollar value of inventory is determined, review the report for reasonableness. If a decimal point is missed or an error occurs in count or valuation it may jump right off the page.

Oftentimes, swings in materials costs have nothing to do with how much product was used, but instead result from a poorly performing physical inventory system. A few simple steps will lead to more accurate financial reporting, improve expense control, focus continuous improvement efforts and save time and aggravation.