Inventory Management in the 21st Century
Inventory is generally defined as “stock at a particular location. Traditionally inventory for a manufacturing business is classified as raw materials, work-in-progress, finished goods and MRO (Maintenance, Repairs and Operating supplies). For retail and distribution businesses, majority of the inventory can be labeled as finished goods. For service industries, majority of the inventory can be labeled as consumables.
Effective inventory management plays a critical role in the smooth and efficient running of any business. Reducing excess inventory and investing in the right inventories lead to improved customer service, increased inventory turnover, reduced costs and increased profitability.
WHY MANAGEMENT OF INVENTORY IS IMPORTANT
Inventory is important for most businesses even for those, which do not sell any physical products. However, if you are a manufacturer, distributor or retailer of any products, inventory is the life blood of your business. The smooth running and profitability of your business is very much dependent upon how effectively you manage various inventory items you use or sell.
If you are a service provider where the availability of right items is vital to your ability to provide the service (an example could be hospitals), effective inventory planning and control is vital to your business.
KEY INVENTORY DECISIONS
The key inventory decisions inventory include what to order, how much to order, when to order and when to schedule delivery. If you are a manufacturer, you have to make these decisions related to materials and components that are used in making the products you manufacture and also in relation to the products themselves. Here the decisions may be related to‚ “manufacture” as opposed to “order”
Of course there are a number of other decisions you need to make in terms of transportation, warehousing, internal movement of materials, maintaining accurate records and more.
INVENTORY MANAGEMENT OBJECTIVES
Overall speaking through effective planning and control of inventory, a business is aiming at having the right items or products at the right locations at the right time.
That said, companies face a paradox; holding too much inventory ties up valuable cash, but too little inventory is risky as you may run out of stock to meet the demands of your customers.
There are costs associated either way; to carry inventory, you incur warehousing costs, costs of capital tied up in inventory, cots or keeping accurate records and more. If you carry too much inventory, you also run the risks of obsolescence.
On the other hand, if you do not have enough inventory you can have stock-out, backorders, lost sales, disruption to production, extra freight costs and more.
So effective inventory management means striking the right balance between having too much inventory and having too little inventory, while minimising the overall inventory costs to the business.
Effective management of inventory in any business starts with having sound inventory policies. Management needs to set policies for safety stocks (extra inventory you want to carry above your immediate needs), lot sizing (how much you want to order or make when you need to replenish any inventory item), customer service (defining what is your objective for on time and in full delivery no business can afford to provide 100% customer service for 100% of times) and more.
Policies also need to be set for maintaining accurate inventory records for example, should cycle counting be used as an aid for improving accuracy of inventory records.
A commonly used technique in the area of setting inventory policies is called ABC Analysis (Pareto analysis or 80:20 rule as it is also called). Here a business tries to classify inventory items into classification such as A items most important, B Items medium importance and C items least important etc. ABC analysis can be done from various perspectives such as cost, profitability, criticality etc.
INVENTORY REALTED BUSINESS PROCESSES
The inventory planning process starts by accurately forecasting and/or calculating future demands for the various inventory items that are necessary to run your business. This is necessary because for most businesses because of lead times for purchasing, manufacturing (if you are a manufacturing business), distribution and transportation exceed the lead time you may have available to meet your customers „¢ needs.
For manufacturing businesses, the process may start with forecasting demands of finished products and then using set of techniques collectively called Manufacturing Resources Planning (MRP II) to calculate requirements for all inventory items needed to support the manufacturing of finished products.
The concepts of modern inventory management have evolved over the last 30 or so years. The evolution of computers has helped in the development of computer software systems to support effective inventory management.
The staring point of effective management of inventory for many businesses is the forecasting of future customer demands. Independent software packages are available that use statistical forecasting methods to estimate future customer demands. In some cases such capability is a part of an integrated planning system. However, use of Excel as a forecasting tool is very widespread in spite of many limitations of this approach.
Forecasts of future customer demands then typically feed into a planning system. Depending upon the nature of business such planning systems has a number of steps. For example in a business which manufactures and distributes its products these steps can incorporate planning of inventories in the distribution centres (warehouses), determining the production schedule and determining requirements for raw materials and components needed to manufacture finished goods. The overall concept is described as Manufacturing Resources Planning (MRP II). Such concepts may be embedded in modern Enterprise Resources Planning (ERP) systems.
Apart from core planning steps, a business needs systems to register inventory movements so that accurate inventory records can be maintained. A purchasing system is also needed to place and track purchase orders. Generally an appropriate ERP system will provide such functionality.
Other technologies used in the area of Inventory management include Bar Coding and Automated Storage and Automated Retrieval (ASAR) system.