Inventory Control 1. Introduction Concept of 5 Ms : Men ,Material, Machine, Money and Management.

t. Out of which material are the most vital input resource for any industry or business.

Meaning and Definition of Inventory: Dictionary meaning means stock of goods or a list of goods. It means: o The stock in hand of material at a given time o A list of all physical assets (item wise). o As a verb to determine the quality of items on hand. o For financial and accounting records Definition: Inventory can be defined as the stock of goods , commodities or other resources that are stored at any given period for future production. Examples of the type of inventory held by various organisation: Type of Organisation Manufacturers Hospital Bank Airline Company Type of Inventories held Raw Material, Spare Parts,semi-finished goods, finished goods No. of beds, stock of drugs, specialized personnel Cash reserves, tellers Seating Capacity, Spare parts, specialized maintenance crew

2. Meaning and Definition of Inventory Control Inventory Control is the process by which materials of the correct quality and correct quantity are made available as and when required with due regard to economy in storage and ordering costs, purchase prices and working capitals. It keeps track of inventory that is maintaining stock at desired level (a balance between high and low level). Inventory control includes following aspects: a. Size of Inventory: Stock levels, time schedules, coordinating sales, production and inventory policies. b. Storage of Inventory: storage facilities. c. Assigning Responsibilities: carrying out inventory functions d. Supervising/ Monitoring: overall inventory control activity

3. Need for Inventory: It depicts purpose for holding inventory. There are four main purposes: a. Transaction Motive: For a process like production its necessary to have smoothness between various operations (sales, production process, customer demand etc) of the firm. This motive makes the firm to keep the inventory of finished goods as well as raw materials. The reason for this motive is i. Economics of Scale ii. Specialization iii. Permits purchase and Transportation Economics b. Precautionary Motive 1

A firm should keep some inventory (both raw material and finished goods) for meeting unforeseen circumstances or emergencies. The reason for this motive is i. Inventory as a Buffer ii. Hedges against price Changes iii. Protects against Demand and Lead- Time Uncertainties c. Speculative Motive An opportunity to make profit in case of expected shortage in the market. To meet seasonal demand, sales promotion and to meet customer requirement during periods in which production facility is in-operable. d. To maintain Customers goodwill and Improve Customer Service Through a supporting role to marketing. 4. Classification of Inventories

Inventory

Based on Nature of Material Direct Materia l I. Indirect Transaction Materia Inventory l Based on Nature of Material Speculativ e Inventory

Based on Uses of Material Anticipation Inventories Buffer or Pracautionar y Inventory Cycle Invento ries

II.

Direct Material Inventories These materials undergo transformation in the manufacturing operation and thereafter sent to the distributors or final customers Examples a. Production Inventory (raw material) b. In-Process Inventory(semifinished goods) c. Finished goods Inventories(finished goods ready for shipping) Based on Uses of Material S.No. Transaction Inventory Held for 1. transaction Speculative Inventory Held for making profits in future

Indirect Material Inventories These materials in the inventory are required for manufacturing process but do not undergo transformation in the process. Examples a. MRO Inventory (maintenance, repair and operating supplies) b. Consumables(stationary, fax machine, office furniture etc)

Anticipation Inventory Held for anticipate future demand of product

Buffer Inventory Held for meeting unforeseen situations/emergenc ies

Cycle Inventory Held as purchases are made in lots rather than for the exact amounts which may be needed at a point of time.

2.

Known as

It involves

Production 2

Known as Safety

3.

Movement inventories or Pipeline Inventories Their existence is due to the fact that transportation time is involved in transferring substantial amount of resources.

stocking of material as a measure of speculation.

of specialized items. Examples: crackers before diwali, umbrella and raincoats before rain etc

Stocks

These inventories which are in excess of those necessary just to meet the average demand (during the average lead time period) are held for protecting against the fluctuations in demand and leadtime.

5. Various Levels of Inventory [Fixation of stock Levels] S.No. Levels of Inventory 1 Minimum Inventory Level Definition Represents the lowest quantitative balance of material in hand so that assembly line may not be stopped. Formula for computation Minimum Stock Level is given by=Re-ordered Level-(Average rate of consumption* Lead Time) Factors affecting: Lead Time Inland/Importable Inventory Availability of Inventory Possibility of Interruption in production Nature of Material Rate of Consumption of the material Rate of Consumption of the material Lead Time Nature of Material Max. requirement of material Storage space available for material Price Economy Cost of storage and Insurance Cost of material and Finance available Inventory

Maximum Inventory Level

Represents maximum quantity of inventory which can be kept in store at any time.

Max. Inventory Level=Re-order quantity-(Minimum consumption*Minimum Re-order period) Or => Re-order level+ Reorder Quantity(Average rate of usage* Lead Time)

Re-Order or Ordering Inventory Level

This is the fixed time between maximum stock level and minimum stock level at which time the order for next supply of material from the vendor is to be done. It is the average quantity which must be available for a given period time. This level is below the minimum level and when the actual stock reaches this level, immediate actions has to be taken to replenish stock.

Average Inventory Level

Re-ordering level= Maximum usage per day* Maximum re-order period or maximum delivery time Or =>Maximum level+(Normal usage of average rate of consumption* Average Re-order period or Average Delivery time) Average Stock Level=[Minimum level+ Maximum Level]/2 Or =>Minimum level+ [Re-order Quantity]/2

turnover Nature of supply Economic order quantity Rate of maximum usage Maximum re-order period or maximum delivery time

Danger Inventory Level

5.1. Optimal Level of Inventory: Factors responsible for this level are: 1. Rate of Inventory Turnover: Time period in which the Inventory completes the cycle of production and sales. 2. Type of Product: This factor determines the risk of perishability and obsolescence of the product. 3. Market Structure: This factor determines the variability of sales and the cost revenue relationship. 4. Economics of Production: Sufficient stock cost of new machinery and cost of idle machine time is considered. 5. Costs: Considers the measurable (Storage cost, set up, ordering cost etc) and non measurable (opportunity cost of capital, costs caused by price level change etc) costs. 6. Financial position of Firm: Financially sound (large inventory/stock) or starved firm. 7. Inventory Policy and attitude of Management: also affects the inventory level

6. Inventory Costs

1. Purchase Costs: nominal cost of inventory.(purchase price, may be constant or vary as quantity varies) 2. Ordering Cost or Set-Up Cost: also known as procurement cost. It is associated with processing and chasing of the purchase order, transportation, inspection for quantity etc 3. Carrying Costs:
Capital Costs(influenced by customer service policy) Direct Costs (relate d to levels of inventory carried in system) Storage space Costs (storage requirement forall typesof inventories) Service Cost (Inventory insurance, penalty on business if inventory levels are excessive) Risk Costs (may extend beyond the valueof inventory) Business Risk (related to 2 issues: insufficient inventory or too much) Opportunity Risks (investment alternatives) Incremental increase in Infrastructure Costs (by carrying excess Inventory)

Inventory Carrying Cost Indirect Costs (related tooverall role of inventorywithin an inventory control system)

4. Stock- out Costs: It implies shortage. The other costs are: 5. Ware housing Costs: related to product holding in warehouse 6. Damage, Pilferage and Obsolescence Costs: Risk of damage, shrinkage, etc. 7. Exchange Rate Differentials: For imported inventories, current currency exchange rates in the market. 7. Advantages and Disadvantages of holding Inventory 5

S.No. 1 2 3 4 5

Advantages Disadvantages Avoiding Lost sales Increase in carrying Cost Gaining Quantity Discounts Unnecessary Capital Investment Reducing Ordering Costs Increase in Maintenance Cost Achieving Efficient Production Runs Wastage of Material Reducing risk of production Shortages Loss to Company 8. Objectives of Inventory Control (how inventory helps in attaining various organisational goal)

a. Operating Objectives: i. Availability of Material: ii. To check Wastage iii. To Check Embezzlement and theft iv. For the success of Business b. Financial Objectives: i. Optimum Investment and Efficient use of Capital ii. Reasonable Price iii. Minimizing Costs iv. For Effective Cost Accounting System 9. Scope of Inventory Control Inventory control can be used for: Determining of Inventory Policies: Determining various stock Levels: Determining Economic Order Size: Determining Safety or Buffer Stock: Determining Lead Time: 10. Functions of Inventory Control a) b) c) d) e) f) g) h) i) j) Availability of material Minimise capital Investment Minimising Loss (damage, theft etc) Protect against uncertainties of demand and supply Help in Decision Making Better utilization of storing capacity Maintain stock Delivery on time Prepare material Reports Checking national wastage 11. Essentials of Good Inventory Control System

Following are the elements required: a) b) c) d) e) f) g) h) i) j) Proper Co-ordination Proper Classification Use of Standard Forms Internal Check System Proper store Accounting Proper Issuing System Perpetual Inventory System Fixing of various Stock Levels Determination of Economic Order Quantity Regular Reporting System 6

k) Intelligent and experienced personnel Perpetual Inventory Control System: It is the system of maintaining records of physical movement of stock i.e., record of every purchase and issue and their current balance to facilitate regular checking and to obviate closing down of books for stock taking. This system saves the important time in stocks physical checking at the end of the year. 12. Process of Inventory Control The process of inventory control may be divided into three stages as: States State 1 Name of State Process of purchasing of materials or ordering Procedure/ steps in the process 1. Establishment of purchase Department 2. Preparation of Purchasing Budget 3. Preparation of Purchase Requisite Slip 4. Obtaining the tender or Quotation 5. Sending purchase order 6. Receiving and Inspection of material 7. Returning the defective material 8. Payment of purchased material 1. Receipt of material in Store 2. Issue of material from store 3. Return of material to store 4. Transfer of material 5. Material abstract 1. Issue of material 2. Record of Materials Issued in the Costing Department 3. Return of Materials Issued 4. Periodical Checking of materials 5. Physical Stock Checking of Materials 13. Inventory Control Systems For the proper control of level of inventory, two issues are important: a) Order Quantity: Issue is how much to order for each material. This is called Lot -size or Economic Order Quantity b) Order Points: Issue is when to place an order also known as re-order points. Based on these two issues, The two inventory control systems are defined as follows: S.No. First Order Quantity System (Q-System) Or Reorder point system 1 Inventory is continuously checked and new order is placed when level of inventory reaches a certain point, called the reorder point. 2 Order Quantity (Q) is constant. 3 Order quantity is determined by demand and cost consideration. 4 5 Fixed Order Period system (P-System) Order period is fixed(only after predetermined time)

State 2

Inventory Storing Procedure

State 3

Process of Issue of material

Order Quantity varies with the requirement. Order quantity is determined by available and required inventory level (based on periodic reviews). Time to maintain is higher Time to maintain is less. Size of inventory is less than p system Size of inventory is quite larger 14. Inventory Control Models

Static Inventory Model

Dynamic Inventory Models This model is applicable in case when repeat order is placed. Further classified as: a. Deterministic Models: (Based on the assumption that demand and lead time of an item are known with certainty.) b. Probabilistic Models: (These models take into account the variations in demand and lead time of an item.)
Static Inventory Model

Inventory Models

This model is applicable in case when one order is placed. Example of such product: a. Perishable (bread, vegetables etc) b. Seasonal (coolers, crackers etc)

Dynamic Inventory Models

Deterministic Models

Probabilistic Models