"Effective inventory management allows
a distributor
to meet or exceed his (or her) customers' expectations
of product availability with the amount of each item
that will maximize the distributor's net profits.
Jon Schreibfeder is president of Effective Inventory Management, Inc.
Inventory is normally classified into one of three categories. The first is raw materials. This is whatever a firm uses as a starting point in its production process. The second type of inventory is work-in-progress, which is unfinished product. How big this portion of inventory is depends on the length of the production process. The third type of inventory is finished product, that is, products ready to sell.
The lemonade stand depicts a production process and each of the three inventory categories. The lemons represent the raw materials. The girl mixing the raw materials together represents works-in-process. Lemonade represents the finished product.
For a manufacturer, inventory usually comes with carrying costs. The main carrying costs associated with inventory(Schreibfeder):
Storage and tracking costs
Insurance and taxes
Losses due to obsolescence, deterioration or theft
Opportunity costs of capitalThe other type of cost associated with inventory is shortage cost. These are costs associated with having inadequate inventory on hand. The two components of shortage costs are restocking costs and costs related to safety reserves. Restocking costs are either the costs of placing an order with suppliers or the costs of setting up a production run. The costs related to safety reserves are opportunity losses such as lost sales and loss of customer goodwill that result from having inadequate inventory.
Total Costs of Managing Inventory:
A basic trade-off exists in inventory management because carrying costs increase with inventory levels and shortage or restocking costs decline with inventory levels. The basic goal of inventory management if to minimize the sum of these two costs.
Inventory Management Issues(Schreibfeder):
Inventory is usually a distributor's largest asset. But many distributors are not satisfied with the contribution inventory makes towards the overall success of their business:
If your system is not performing up to this potential, try implementing some of the following characteristics of good inventory management:1. Protect your company against theft - Make sure that the only people in your warehouse belong in your warehouse.
2. Assign and use bin locations - Assign primary and surplus bin locations for every stocked item. With correct bin locations on documents, taking order documents and locating the correct items is probably the least complicated job in your warehouse.
3. Record all material leaving your warehouse - There should be appropriate paperwork for every type of stock withdrawal. Under no circumstances should material leave the warehouse without being entered in the computer.
4. Make sure every employee is aware of the cost of bad inventory management - Inventory loss through theft, breakage, or loss must be paid for with net profit dollars.
5. Make inventory management considerations part of corporate strategic planning.The last two objectives can be better implemented with the program of Open-book management. The goal of Open-book management is to get people at every level working toward and caring about the objective of business success. Managers must hold employees responsible and accountable not just for scheduling their work or hitting quality targets but for making their unit's budget or profit goals. Department scoreboards help employees understand the connection between their own efforts and the business unit's results(Case).
The business in "Open for Business" shows good examples of inventory management. The stand had inventory in the three main categories of inventory. The lemons in the baskets are part of the raw materials. When the lemons, water and sugar and being mixed together they are considered works-in-progress. The lemonade is the finished product.
The kids probably do not have high carrying cost because they sore the inventory in their parent's garage. There is an opportunity costs involved with holding inventory. The kids could be using the money used to purchase these supplies to buy something else. There may be some shortage costs involved if they run out of finished goods or raw materials. It may be expensive to go on a production run and purchase supplies on a short notice. In order to be successful the kids need to keep an adequate supply of each type of inventory on hand.