Explain 5 basis of Overhead Absorption. (10 marks)
What is a JIT system of stock management? (4 marks)
Explain the relevance of Materials Requisition Planning in stock management.
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ANSWERS
Five basis of absorbing overhead costs:
- Percentage of direct material costs =
Overhead cost x 100
Direct Material Cost
- Percentage of direct labour cost = OAR =
Overhead cost x 100
Direct labour cost
- Percentage of Direct Prime Cost =
OAR = Overhead Cost x 100
Prime cost
- Labour Hours = OAR = Overhead Costs
Labour hours
- Units of output = OAR = Overhead Costs
Units of output
(i) Just-In-Time is a stock management system in which production parts are received as needed rather than building up inventories. It is a demand pull manufacturing system in which each component in a production line is produced immediately as needed by the next step in the production line. Sales demand therefore pulls inventories through the production line.
A JIT system depends on stock orders arriving regularly and on time. It is based on short, rapidly changing production on runs operating in a timely and efficient manner. It argues for no stock; rather a regular supply plus safety stock is maintained.
The JIT system operates under the premise (assumption) of zero defects in parts supplied by other companies as well as in the products manufactured internally by other departments.
This system, managers reduce inventories to a minimum level, keeping on hand only the amounts, needed in production, until the next sales order arrives, when a purchase order is raised. Orders for purchases are therefore more frequent and smaller.
Demand triggers each step of the production process starting with the customer demand. For a finished good at the end of process and working all the way back to the demand for a materials at the beginning of the process.
Material Requisition Planning (MRP)
Is a push through system that manufacturers finished products for inventory on the basis of demand forecasts. Also called material requirements planning. It is an alternative system of stocks management which does not assume an even or constant demand throughout a production period. It is actual demand driven rather than a system based on average demand.
In this system, employees place orders for materials only when the master production schedule (MPS) has materials actually scheduled for use in production.
An MRP system examines the finished goods requirements before determining the demand for raw material components and other material inputs into the production process at each of the prior production stages.
MRP aims at maintaining the lowest possible levels of inventory while also making certain materials and parts available as safety stocks.
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