Most of us have heard about how organizations are increasing their profitability by reducing inventories level to the lowest degree possible. This had its roots back to 1970 and 1980 with the JIT discovery which finally evolved into Lean, companies started to use these methodologies till this date the vouge of optimizations and carry less inventory among supply chain partners, which in turn will reduce products costs, reduce the waste level, and carrying cost to be cost-effective. This is actually true, but it would be so hard to implement because it would require specific circumstances to apply these methods.
While that is not the case always we will try to illustrate a different approach to manage inventories than lean’s perspective.
So why inventories are important?
There are many reasons why inventories are important:
- You can use it as a hedge if there is an anticipated price change.
- You can use it to decouple production from the distribution center (DC), so if you have shut down at the plant, the DC can continue to serve customers individually.
- You will need safety stocks policies to guard your organization against demand uncertainty.
- You can use inventories to match the demand with supply rate as per the Drum-Buffer-Rope scheduling.
If you think of any supply chain that is moving goods from the initial supplier to the downstream end consumer, at the various stages of supply chain you will find levels of inventory being carried. The manufacturer will carry inventory, the wholesaler will carry inventory, the distributor will carry inventory, the retailer will carry inventory.
And because inventories costs, all of that contributes to the overall costs in the supply chain, so as a result, it is very important that we manage inventory effectively.
So, what are the costs related to inventories?
- Item cost.
- Ordering cost.
- Carrying cost.
- Stockout cost.
- Capacity related costs.
But to hold the right amount of inventory at the right time and the right place of the supply chain is fairly difficult, that is why we need to discuss the order quantities and decision rules:
- Lot-For-Lot (L4L): that means you only order the quantities you need. This method prevents inventory build because inventory is always replenished to the exact desired level.
- Reorder quantity: While fast and easy, it does not minimize the cost involved. It produces lot-size inventory levels, and it can result in high inventories of the item that are frequently in demand since an entire case or more may be ordered but nit consumed quickly.
- Orders n periods of supply: Sometimes called period order quantity a lot-sizing technique under which the lot size is equal to the net requirements for a given number of periods.
That is all great information, but how or when to use any of those techniques to manage inventory wisely and reduce the total costs? Answer A.B.C inventory control.
A.B.C inventory control system is designed to answer the questions how much to order and in which order quantity:
An item will represent 10 to 20 percent of the total units but about 70 to 80 percent of value, and because of high value, it is preferred to use the L4L technique.
B items takes about 20 percent of the items and 20 percent of the value, which can be handled by a type of fixed order quantity like reorder quantity.
C items usually represents about 10 to 20 percent of the value but 60 to 70 percent of the items, it can be managed by periodic replenishment.
When to order (determining when the to reorder point is reached):
- Perpetual inventory system: computer records or manual document transaction is posted so that the current record of the inventory is maintained.
- Two-bin inventory system: a type of fixed order system in which inventory is carried in two bins. Workable bin and replenishment lead time bin. Physical bins do not exist.
- Kanaban System: Much like the two-bin system, kanban provide visual signals such as cards, light, or an empty container to signal when reordering and the quantity to reorder.
Auditing inventory records:
Periodic Inventory Audit: The primary purpose for periodic inventory audit is to provide the value of assets for financial accounting, and external auditors may direct the process. This the objective is to determine the total asset value in dollar as accurate as possible. However, the audit is usually done only once a year, any improvement in inventory accuracy will tend to be short-lived. Also finding the root cause of the inventory inaccuracies is not the focus. The focus is usually getting the job done accurately and as quickly as possible to enable production to resume.
Usually, the process of periodic counting involves counting each inventory of items at least twice and recording the count each time. Is some cases sampling is used because there are too many items to count. When the counts agree, and when they agree with the inventory record, this inventory is not counted again. When there are discrepancies between the two, these inventories get closer to scrutiny.
of this topic that it is not about how less to carry inventory as we have seen that there is a stock out the cost can be found in the dissatisfied customers and missing revenue opportunity, also the costs of expediting new purchase orders and manage this purchase cycle. But not to carry much inventory that maybe damage or become obsolescence. The goal is to carry the appropriate amount that serves to maintain the customer service level and compete in new markets to create growth by applying the above-mentioned techniques.
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