Chapter 24 - Inventory Management
Learning Objectives: To understand the ins and outs of inventory management
We all know that businesses hold different amounts of different types of inventory:
Holding inventories is not only costly but having efficient inventory control is key for business success.
Businesses with inefficient inventory control systems run into some hairy problems:
Run out of inventory to cover for unforeseen changes in demand;
Remain with outdated or expired products on hold if rotation systems are not implemented;
Experience inventory wastage: mishandling or wrong storing;
End up with high levels of inventory (opportunity cost);
Delay deliveries to customers (reputation);
Miss on purchasing discounts from suppliers.
Such problems with inventory management systems bring businesses a variety of different costs that could otherwise be avoided with the appropriate management system in place:
Opportunity Costs:
- Inventory is a current-asset;
- Money attached to current-assets is not profit-generating money;
- Non-current assets are the ones positively driving profits;
Storage Costs: Renting, security, refrigerators, insurance, etc.
Cost of Wastage and Obsolescence:
- Outdated items need large discounts to be sold (cost) and expired products are plain wastage.
Activity 24.1 (p. 367)
Given all the costs of holding inventories, should businesses quit hold inventories altogether?
In other words, holding too much inventory is costly as it is holding low-levels of inventory:
Therefore, it's clear that holding an optimum amount of inventory is the answer. That's when EOQ comes in: the Economic Order Quantity is the ideal order quantity a company should purchase to minimize inventory costs such as holding costs, shortage costs, and order costs:
The re-order level is picked at the least-costly point possible;
Buffer inventory (a.k.a. safety stock) is the minimum inventory level a business should have to ensure production even when suppliers' delays or sudden increase in demand;
Lead time is the amount of time between when a purchase order is placed to replenish products and when the order is received in the warehouse.
Let's look at a real example of inventory levels - what could have happened?
Demand might have increased right around week 4 to 5;
Suppliers might have delayed supplies (longer lead time);
Supplier seems to be inconsistent with its lead time (sometimes longer, sometimes shorter).
Note: such systems are usually software-assisted where orders are placed automatically when re-order levels are reached.
Businesses nowadays have been focusing on supply chain management to reduce the time it takes to convert raw materials into completed goods available for sale - this improves operations efficiency (value)
Supply Chain Management aims to reduce this time (raw materials to sale) by:
Establishing flawless relationships/communication with suppliers (ensuring that quality and quantity are met, every time);
Improving transport systems to reduce delivery times (raw materials and finished goods);
Speeding up the new product development process to be more competitive in the market;
Speeding up production process through technology and labor flexibility;
Minimizing waste through all stages of product to reduce costs.
The Just-in-Time Inventory System comes in to place to make inventory management more efficient:
Aims for zero buffer inventory, low costs;
Raw materials arrive at the exact needed time for production;
Finished goods are sent and delivered to customers as soon as their production is complete.
JIT is is the opposite of Just-In-Case (JIC) inventory management which holds higher levels of inventories to avoid pressures of unforeseen demand raises.
For JIT to be possible, however, a few essential requirements need to be met:
Relationship with suppliers should be flawless allowing for short lead times;
Multiskilled workforce allowing for different stages of the production to be tackled and different products to be made depending on demand;
Flexible equipment and machinery for the same reasons as flexible workforce;
Accurate demand forecast for accurate estimation of orders (production schedule);
Accurate software analysis of sales records, trends, and reorder levels;
Advanced inventory/re-order IT systems;
Good employee/employer relationship where a no-strike deal is agreed upon so that business activities are not disrupted;
Quality standards so that defective products don't come to happen and delays to customers happen.
JIT, therefore, is a great and effective inventory management system. It needs, however, very specific organizational culture and requirements.
JIT can be risky: if suppliers fail to deliver, workers come to strike, or machines happen to breakdown - the entire production ceases and sales/customers are hurt;
Small businesses can't afford JIT: IT and capital investment are limiting;
Inflation rates impact inventory costs: if inflation is high prices may quickly rise and buying supplies earlier can be better.
Summary of JIT vs. JIC:
To-Do-List:
Term 1, Chapter 24 - Exam-Style Question (Data Response #1, MFLEX)
Chapter 24 - Inventory Management
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