DBA618 – Operations Management

Reporter: Ricardo S. Ruiz

Date: May 2, 2020

INVENTORY MANAGEMENT AND SCHEDULING

ARTICLE BY ADAM HAYES / MAY 18, 2019

What Is Inventory Management?

Inventory management refers to the process of ordering, storing, and using a company's inventory. These
include the management of raw materials, components, and finished products, as well as warehousing and
processing such items.

For companies with complex supply chains and manufacturing processes, balancing the risks of inventory gluts
and shortages is especially difficult. To achieve these balances, firms have developed two major methods for
inventory management: just-in-time and materials requirement planning: just-in-time (JIT) and materials
requirement planning (MRP)

How Inventory Management Works?

A company's inventory is one of its most valuable assets. In retail, manufacturing, food service, and other
inventory-intensive sectors, a company's inputs and finished products are the core of its business. A shortage of
inventory when and where it's needed can be extremely detrimental.

At the same time, inventory can be thought of as a liability (if not in an accounting sense). A large inventory
carries the risk of spoilage, theft, damage, or shifts in demand. Inventory must be insured, and if it is not sold in
time it may have to be disposed of at clearance prices—or simply destroyed.

For these reasons, inventory management is important for businesses of any size. Knowing when to restock
certain items, what amounts to purchase or produce, what price to pay—as well as when to sell and at
what price—can easily become complex decisions. Small businesses will often keep track of stock manually and
determine the reorder points and quantities using Excel formulas. Larger businesses will use specialized
enterprise resource planning (ERP) software. The largest corporations use highly customized software as a
service (SaaS) applications.

Appropriate inventory management strategies vary depending on the industry. An oil depot is able to store large
amounts of inventory for extended periods of time, allowing it to wait for demand to pick up. While storing oil
is expensive and risky—a fire in the UK in 2005 led to millions of pounds in damage and fines—there is no risk
that the inventory will spoil or go out of style. For businesses dealing in perishable goods or products for which
demand is extremely time-sensitive—2019 calendars or fast-fashion items, for example—sitting on inventory is
not an option, and misjudging the timing or quantities of orders can be costly.

Inventory Accounting
Inventory represents a current asset since a company typically intends to sell its finished goods within a short
amount of time, typically a year. Inventory has to be physically counted or measured before it can be put on a
balance sheet. Companies typically maintain sophisticated inventory management systems capable of tracking
real-time inventory levels. Inventory is accounted for using one of three methods: first-in-first-out (FIFO)
costing; last-in-first-out (LIFO) costing; or weighted-average costing.

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An inventory account typically consists of four separate categories:

1. Raw materials
2. Work in process
3. Finished goods
4. Merchandise

Raw materials represent various materials a company purchases for its production process. These materials
must undergo significant work before a company can transform them into a finished good ready for sale.
Works-in-process represent raw materials in the process of being transformed into a finished product. Finished
goods are completed products readily available for sale to a company's customers. Merchandise represents
finished goods a company buys from a supplier for future resale.

Inventory Management Methods

Depending on the type of business or product being analyzed, a company will use various inventory
management methods. Some of these management methods include just-in-time (JIT) manufacturing,
materials requirement planning (MRP), economic order quantity (EOQ), and days sales of inventory (DSI) .

Just-in-Time Management

Just-in-time (JIT) manufacturing originated in Japan in the 1960s and 1970s; Toyota Motor Corp. contributed
the most to its development. The method allows companies to save significant amounts of money and reduce
waste by keeping only the inventory they need to produce and sell products. This approach reduces storage and
insurance costs, as well as the cost of liquidating or discarding excess inventory.

JIT inventory management can be risky. If demand unexpectedly spikes, the manufacturer may not be able to
source the inventory it needs to meet that demand, damaging its reputation with customers and driving
business toward competitors. Even the smallest delays can be problematic; if a key input does not arrive "just
in time," a bottleneck can result.

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Materials Requirement Planning

The materials requirement planning (MRP) inventory management method is sales-forecast

dependent, meaning that manufacturers must have accurate sales records to enable accurate planning of
inventory needs and to communicate those needs with materials suppliers in a timely manner. For example, a
ski manufacturer using an MRP inventory system might ensure that materials such as plastic, fiberglass, wood,
and aluminum are in stock based on forecasted orders. Inability to accurately forecast sales and plan inventory
acquisitions results in a manufacturer's inability to fulfill orders.

Economic Order Quantity

The economic order quantity (EOQ) model is used in inventory management by calculating the number of units
a company should add to its inventory with each batch order to reduce the total costs of its inventory while
assuming constant consumer demand. The costs of inventory in the model include holding and setup costs.
The EOQ model seeks to ensure that the right amount of inventory is ordered per batch so a company does not
have to make orders too frequently and there is not an excess of inventory sitting on hand. It assumes that there
is a trade-off between inventory holding costs and inventory setup costs, and total inventory costs are minimized
when both setup costs and holding costs are minimized.

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Days Sales of Inventory

Days sales of inventory (DSI) is a financial ratio that indicates the average time in days that a company takes to
turn its inventory, including goods that are a work in progress, into sales.

DSI is also known as the average age of inventory, days inventory outstanding (DIO), days in inventory (DII), days
sales in inventory or days inventory and is interpreted in multiple ways. Indicating the liquidity of the inventory,
the figure represents how many days a company’s current stock of inventory will last. Generally, a lower DSI is
preferred as it indicates a shorter duration to clear off the inventory, though the average DSI varies from one
industry to another.

INVENTORY PROBLEMS AND ITS SOLUTIONS

ARTICLE BY BRIAN SUTTER / JULY 13, 2019

1. Spoilage

If you handle items with expiration dates, like food or even cosmetics, they can become rotten or unusable if
not sold in time. And spoiled products mean your investments go down the drain, along with your potential
profits. For example, the U.S. spends more than $218 billion growing, processing, transporting and
disposing food that's never eaten. Researchers estimate there is $1.9 billion of annual business profit potential
from the revenue and cost savings of implementing various recycling and food waste prevention strategies. So
you could say a solid inventory management system can be your front line of defense against spoilage. You’ll
have access to real-time data to know the lifecycle of your stock, and your warehouse workers can organize
items to ensure older products get sold first.

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2. Dead Stock

An expiration date isn’t the only way your products “go bad.” Dead stock are items that can’t be sold for a
number of other reasons: they’ve gone out of style, out of season, or the products become otherwise irrelevant.
Often an item is declared “dead” after sitting on a shelf for 12 months. Again, an efficient inventory management
system will provide the knowledge you need to order the right amount of these particular items. Sales reports
can aid in recognizing if an item is dead weight before you buy it. These reports are useful for distributors a nd
small businesses looking to buy new products.

3. Storage Costs

Warehousing expenses fluctuate, based upon how much you store during a given season. When your store has
too many products at once or ends up with a product that’s difficult to sell, your storage costs will go up. An
inventory management system can help forecast what items sell and what doesn’t, as well as how many sold.
This accurate forecasting helps you make more informed purchasing decisions, avoiding high storage costs and
saving your business money.

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Suggested Solutions:

1. Par Levels

Par levels are the minimum amount of products that should be on your warehouse shelves at all times. When
your inventory level drops below these predetermined levels, you know it’s time to order more. These levels
are based on how fast items sell and how long it takes to get it them back in stock. And keep in mind that
conditions change, so check your par levels regularly to make sure they still make sense and make adjustments
if needed.

2. First-In First-Out (FIFO)

This is a very important principle in inventory management. It means exactly how it sounds. The stock you get
in first (first-in) should be sold first (first-out), not your newest stock. This concept is especially critical for
perishable products to avoid spoilage. However, FIFO is also a good idea for nonperishables. If something is
always getting pushed to the back of the shelf, it could simply become worn out, eventually go out of style, or
expire.

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3. Relationships

Inventory management isn’t only about technology or in-stock products on the shelves. It’s also about the
people along the supply chain. From quick returns of slow-selling items to restocking popular products or
manufacturing issues…it’s important to maintain good working relationships with suppliers. That relationship
could come in handy someday when you have a problem to solve…and make the process so much smoother.

-END-
Thank you!

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