Page 154 - DMGT523_LOGISTICS_AND_SUPPLY_CHAIN_MANAGEMENT

Unit 7: Inventory Management

Notes
Example: High inventory at retail outlets may help in making the goods easily available
to customers and also result in a growth in sales, but it will also increase costs and bring down
profitability.
These are two major issues in conflict with each other that need to be resolved, in order to
optimize the inventory carried by the organization.
Excess inventory is a cost burden to industry in terms of capital tied up, the cost of obsolescence
and the cost of servicing product in the supply chain. However, having the right amount of
inventory to meet customer requirements is critical. Inventory management is about two things:
not running out, and not having too much.
Essentially, inventory is a reserve system to prevent stockouts. However, as important as it is to
prevent such a stockout, you also don’t want to hold onto too much inventory because holding
costs can become a major encumbrance. So how do you balance the two and what is the right
amount? More importantly, when should you reorder in order to prevent a stockout. The answer
to this can be determined by obtaining and applying the appropriate inventory models in
decision-making.

The heart of inventory decisions lies in the identification of inventory costs and optimizing the
costs relative to the operations of the organization. As inventory is a necessary but idle resource,
stock levels and inventory costs in manufacturing need to be minimized.

Notes Large holdings of inventory also cause long cycle times which may not be desirable.

Figure 7.1: Cost of Inventory with Time

C storage
B
assembly
storage
subassembly
COST
fabrication storage
Storage
A
Raw Finished
Material Work-in-Process Goods
O
Manufacturing Cycle Time
Throughput Time
Materials TIME Product
Acquisition Shipment
OA = material cost
AB = labour cost
BC = factory overhead
OC = total product cost
Source: Upendra Kachru, (2010), “Exploring the Supply Chain,” Excel Books
The total inventory held is additive in nature. Raw materials are converted to finished goods
through a number of incremental processes. Regardless of the operating process, all production
costs incurred during a particular period to the jobs or products produced during that time
period are assigned to the inventory. These processes also add to the cost of inventory held by
the organization. Therefore, the cost of inventory increases with time. This is shown in Figure 7.1.

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