Inventory management including inventory decision

in detail, inventory classifications, models, VMI and

inventory on wheels.

Tina Elizabeth Varghese

School of Management Studies,

CUSAT, Kochi- 22.
E-mail: [email protected]

Abstract: Inventory management is the active control program which allows

the management of sales, purchases and payments. Inventory is a list for
goods and materials, or those goods and materials themselves, held
available in stock by a business. It is also used for a list of the contents of a
household and for a list for testamentary purposes of the possessions of
someone who has died. There are various ways of classifying inventory like
ABC analysis, XYZ analysis, GOLF analysis etc. There are various inventory
management models like Economic Order quantity, Materials Requirement
Planning model etc. Vendor-managed inventory (VMI) is a family of business
models in which the buyer of a product provides certain information to a
supplier of that product and the supplier takes full responsibility for
maintaining an agreed inventory of the material, usually at the buyer's
consumption location.

Keywords: Inventory, ABC analysis, XYZ analysis, GOLF analysis,

VMI, MRPI, MRPII

1.0 INTRODUCTION

Inventory Management and Inventory Control must be designed to meet the dictates
of the marketplace and support the company's strategic plan. The many changes in
market demand, new opportunities due to worldwide marketing, global sourcing of
materials, and new manufacturing technology, means many companies need to
change their Inventory Management approach and change the process for Inventory
Control.
Despite the many changes that companies go through, the basic principles of
Inventory Management and Inventory Control remain the same. Some of the new
approaches and techniques are wrapped in new terminology, but the underlying

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principles for accomplishing good Inventory Management and Inventory activities
have not changed.

The Inventory Management system and the Inventory Control Process provides
information to efficiently manage the flow of materials, effectively utilize people and
equipment, coordinate internal activities, and communicate with customers. Inventory
Management and the activities of Inventory Control do not make decisions or manage
operations; they provide the information to Managers who make more accurate and
timely decisions to manage their operations.

2.0 INVENTORY
Inventory is a list for goods and materials, or those goods and materials themselves,
held available in stock by a business. It is also used for a list of the contents of a
household and for a list for testamentary purposes of the possessions of someone
who has died. In accounting, inventory is considered an asset.
In business management, inventory consists of a list of goods and materials held
available in stock.

2.1 Types of inventory

 Raw materials: The purchased items or extracted materials that are transformed
into components or products.
 Components: Parts or subassemblies used in building the final product.
 Work-in-process (WIP): Any item that is in some stage of completion in the
manufacturing process.
 Finished goods: Completed products that will be delivered to customers.
 Distribution inventory: Finished goods and spare parts that are at various points
in the distribution system.
 Maintenance, repair, and operational (MRO) inventory (often called supplies):
Items that are used in manufacturing but do not become part of the finished product.

2.2 Advantages and disadvantages of keeping inventory

The problem with inventory management is that keeping stock has both advantages
and disadvantages.
The advantages include,
 Inventory allows customers to be served quickly and conveniently (otherwise you
would have to make everything as the customer requested it).
 Inventory can be used so a company can buy in bulk, which is usually cheaper.
 Inventory allows operations to meet unexpected surges in demand.
 Inventory is an insurance if there is an unexpected interruption in supply from
outside the operation or within the operation.
 Inventory allows different parts of the operation to be ‘decoupled’. This means
that they can operate independently to suit their own constraints and convenience
while the stock of items between them absorbs short-term differences between supply
and demand. In many ways this is the most significant advantage of inventory.
The disadvantages of inventory include,
 It is expensive. Keeping inventory means the company has to fund the gap
between paying for the stock to be produced and getting revenue in by selling it. This

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is known as working capital. There is also the cost of keeping the stock in warehouses
or containers.
 Items can deteriorate while they are being kept. Clearly this is significant for the
food industry whose products have a limited life. However, it is also an issue for any
other company because stock could be accidentally damaged while it is being stored.

 Products can become obsolescent while they are being stored. Fashion may
change or commercial rivals may introduce better products.
 Stock is confusing. Large piles of inventory around the place need to be
managed. They need to be counted, looked after and so on.
The objectives of inventory planning and control

Generally the operations objectives of managing the company’s inventories include

the following.

 Quality – products need to be maintained in as good a condition as possible while

they are being stored. For perishable products this means not storing them for very
long.
 Speed – inventories must be in the right place to ensure fast response to
customer requests.
 Dependability – the right stock must be in the right place at the right time to
satisfy customer demand. There is no point having the wrong products in stock.
 Flexibility – stock should be managed to allow the operation to be flexible. For
example, that may mean keeping sufficient stock to allow the operations processes to
switch to producing something else and yet being able to satisfy customers during
that period from existing stock levels.
 Cost – if possible the total cost of managing stock levels should be minimised.
This is the objective of the various quantitative models covered in the chapter.
Stock sometimes has unexpected advantages

In some organizations stock may increase in value while it is being kept. For example
the two photographs on page 378 give examples of the value-adding characteristic of
stock. In the first one wine is being matured. When it is first harvested the wine is of
relatively low value. Keeping it in special casks under the right conditions enhances its
value considerably. Similarly the computer monitors illustrated are increasing in value
in so much as the ones which are likely to fail early in their life are being identified.
They will therefore not be shipped to customers and fail in use, which could damage
the company’s reputation. Another example is where a company deliberately
purchases more stock than it needs because it feels the availability of the material or
the price of the material is likely to change. Of course this is risky. Many companies
have suffered severely by speculative purchasing of this type to avoid price increases
only to see the prices drop.

3.0 INVENTORY MANAGEMENT

Inventory management is primarily about specifying the size and placement of

stocked goods. Inventory management is required at different locations within a facility
or within multiple locations of a supply network to protect the regular and planned
course of production against the random disturbance of running out of materials or

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goods. The scope of inventory management also concerns the fine lines between
replenishment lead time, carrying costs of inventory, asset management, inventory
forecasting, inventory valuation, inventory visibility, future inventory price forecasting,
physical inventory, available physical space for inventory, quality management,
replenishment, returns and defective goods and demand forecasting. Balancing these
competing requirements leads to optimal inventory levels, which is an on-going
process as the business needs shift and react to the wider environment.

Inventory management involves a retailer seeking to acquire and maintain a proper

merchandise assortment while ordering, shipping, handling, and related costs are
kept in check.
Systems and processes that identify inventory requirements, set targets, provide
replenishment techniques and report actual and projected inventory status.
Handles all functions related to the tracking and management of material. This would
include
Management of the inventories, with the primary objective of determining/controlling
stock levels within the physical distribution function to balance the need for product
availability against the need for minimizing stock holding and handling costs

3.1 Major inventory decisions

There are two basic decisions that must be made for every item that is maintained in
inventory. These decisions have to do with the timing of orders for the item and the
size of orders for the item.
 How much?
Lot sizing decision-Determination of the quantity to be ordered.
 When?
Lot timing decision- Determination of the timing for the orders.

4.0 COSTS ASSOCIATED WITH INVENTORY

The costs associated with inventory are as follows:-

 Item Costs
Direct cost for getting an item. Purchase cost for outside orders, manufacturing cost
for internal orders.
 Holding Costs
Costs associated with carrying items in inventory. Storage and other related costs.
 Ordering Costs
Fixed costs associated with placing an order (either a purchase cost for outside
orders, or a setup cost for internal orders).
 Shortage Costs
Costs associated with not having enough inventory to meet demand.

4.1 Behavior of costs for various inventory decisions

When assessing the cost effectiveness of an inventory policy, it is helpful to measure

the total inventory costs that will be incurred during some reference period of time.
Most frequently, that time interval used for comparing costs is one year. Over that
span of time, there will be a certain need, or demand, or requirement for each

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inventory item. In that context, the following describes how the annual costs in each of
the four categories will vary with changes in the inventory lot sizing decision.

Item costs: How the per unit item cost is measured depends upon whether the item
is one that is obtained from an external source of supply, or is one that is
manufactured internally. For items that are ordered from external sources, the per unit
item cost is predominantly the purchase price paid for the item. On some occasions
this cost may also include some additional charges, like inbound transportation cost,
duties, or insurance. For items that are obtained from internal sources, the per unit
item cost is composed of the labor and material costs that went into its production,
and any factory overhead that might be allocated to the item. In many instances the
item cost is a constant, and is not affected by the lot sizing decision. In those cases,
the total annual item cost will be unaffected by the order size. Regardless of the order
size (which impacts how many times we choose to order that item over the course of
the year), our total annual acquisitions will equal the total annual need. Acquiring that
total number of units at the constant cost per unit will yield the same total annual cost.
(This situation would be somewhat different if we introduced the possibility of quantity
discounts. We will consider that later.)

Holding costs (also called carrying costs): Any items that are held in inventory will
incur a cost for their storage. This cost will be comprised of a variety of components.
One obvious cost would be the cost of the storage facility (warehouse space charges
and utility charges, cost of material handlers and material handling equipment in the
warehouse). In addition to that, there are some other, more subtle expenses that add
to the holding cost. These include such things as insurance on the held inventory;
taxes on the held inventory; damage to, theft of, deterioration of, or obsolescence of
the held items. The order size decision impacts the average level of inventory that
must be carried. If smaller quantities are ordered, on average there will be fewer units
being held in inventory, resulting in lower annual inventory holding costs. If larger
quantities are ordered, on average there will be more units being held in inventory,
resulting in higher annual inventory holding costs.

Ordering costs: Any time inventory items are ordered, there is a fixed cost
associated with placing that order. When items are ordered from an outside source of
supply, that cost reflects the cost of the clerical work to prepare, release, monitor, and
receive the order. This cost is considered to be constant regardless of the size of the
order. When items are to be manufactured internally, the order cost reflects the setup
costs necessary to prepare the equipment for the manufacture of that order. Once
again, this cost is constant regardless of how many items are eventually
manufactured in the batch. If one increases the size of the orders for a particular
inventory item, fewer of those orders will have to be placed during the course of the
year, hence the total annual cost of placing orders will decline.

Shortage costs: Companies incur shortage costs whenever demand for an item
exceeds the available inventory. These shortage costs can manifest themselves in the
form of lost sales, loss of good will, customer irritation, backorder and expediting
charges, etc. Companies are less likely to experience shortages if they have high
levels of inventory, and are more likely to experience shortages if they have low levels
of inventory. The order size decision directly impacts the average level of inventory.
Larger orders mean more inventory is being acquired than is immediately needed, so
the excess will go into inventory. Hence, smaller order quantities lead to lower levels
of inventory, and correspondingly a higher likelihood of shortages and their associated

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shortage costs. Larger order quantities lead to higher levels of inventory, and
correspondingly a lower likelihood of shortages and their associated costs. The
bottom line is this: larger order sizes will lead to lower annual shortage costs.

5.0 CLASSIFICATION OF INVENTORY

5.1 Inventory is first classified into four broad groups

 Production inventory- all raw materials , parts and components that are directly
used in the production process and go into making the final product.
 MRO inventory- include all items required in the production process although they
do not go into making the final product. Consumables, spare parts , packing materials
etc.
 In-process inventory- include all semi-finished products formed at various stages
of the production process.
 Finished goods inventory- this comprise of all the final products made by the
company, ready for shipment and sale

5.2 There are various other ways of inventory classification

ABC analysis

ABC analysis is a business term used to define an inventory categorization technique

often used in materials management. It is also known as Selective Inventory Control.
ABC analysis provides a mechanism for identifying items that will have a significant
impact on overall inventory cost, [1] whilst also providing a mechanism for identifying
different categories of stock that will require different management and controls.[2]
When carrying out an ABC analysis, inventory items are valued (item cost multiplied
by quantity issued/consumed in period) with the results then ranked. The results are
then grouped typically into three bands[3]. These bands are called ABC codes.
ABC codes
 "A class" inventory will typically contain items that account for 80% of total value,
or 20% of total items.
 "B class" inventory will have around 15% of total value, or 30% of total items.
 "C class" inventory will account for the remaining 5%, or 50% of total items..
ABC Analysis is similar to the Pareto principle in that the "A class" group will typically
account for a large proportion of the overall value but a small percentage of the
overall volume of inventory.[4]
Another recommended breakdown of ABC classes[5]:
 "A" approximately 10% of items or 66.6% of value
 "B" approximately 20% of items or 23.3% of value
 "C" approximately 70% of items or 10.1% of value
Usage of ABC Analysis

1. In day to day warehouse operations, materials are some time under issued, over
issued, issued and not accounted into the system, misplaced, stolen etc. This results
into inaccuracy in the inventory. Cycle counting is the process to count and reconcile

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the materials. Ideally, every material in the warehouse should be counted during a
fixed interval (every year) for maintaining 100% accuracy, but counting & reconciling
every material is not cost effective and very expensive. To count the accuracy of the
inventory in a cost effective manner, it is recommended to count the materials based
on inventory classification. If A class materials are counted within a fixed interval
(could be six months or a year) then you need to count only 5% to 10% of the total
materials and it will cover 60% to 80% of the inventory value. That means that you
only count 5 % to 10% of the materials and remove the inaccuracy from the inventory
value from 60% to 80%. Similarly B class materials can also be counted on a less
frequency ( from once in 18 months to 24 Months) as the nos of materials become
higher and C class materials at even lesser frequency(Once in 27 months to 36
months) as nos of material becomes more (60% to 85% of the total materials).

2 . An inventory controller shall be concentrating more on the A class items for

reducing the inventory as he/she shall be concentrating only 5% to 10% of the total
items and shall be getting the opportunity to reduce inventory on 60% to 80% of the
value.

3. Any reduction in lead time of A class items shall result in reduction in inventory, so
procurement manager will workout with suppliers to reduce the lead time.
4. On issue of materials, Tight control on A class, Moderate control on B class, Loose
Control on C class. So A class items may be issued after getting the approvals from
Senior Executives of the company. B may be moderately controlled . Very little control
can be exercised while issuing C class item
Important Note: An A class item need not necessarily be a fast moving item.
Alternatively C class may or may not be a fast moving item. ABC analysis is purely
based on the dollar value of consumption.

XYZ Analysis:

XYZ analysis is calculated by dividing an item's current stock value by the total stock
value of the stores. The items are first sorted on descending order of their current
stock value. The values are then accumulated till values reach say 60% of the total
stock value. These items are grouped as 'X'. Similarly, other items are grouped as 'Y'
and 'Z' items based on their accumulated value reaching another 30% & 10%
respectively. The XYZ analysis gives, you an immediate view of which items are
expensive to hold. Through this analysis, you can reduce your money locked up by
keeping as little as possible of these expensive items.

SOS Analysis:

Seasonal, Off Seasonal Report helps you to view seasonal required items.
S- For seasonal Materials
OS - For non-seasonal Materials
Purchase planning has to be done if the material is seasonal as material shall be
available for a particular time period of the year.

Seasonal Items can be further classified into two groups

1. Leechee is seasonal fruit which is available only for one month in year. If any Juice
and pulp company wants to buy this fruit then the procurement department shall have
to plan in advance the requirement and procurement job becomes concentrated only

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for one month. Other than this issue, shelf life and storage is also a big problem as
the plan is consume is throughout the year while the buying time available is only one
month.

2. Some materials are seasonal but are available throughout the year such as grains,
and other non perishable items. These items are bought during season and these
items are cheaply available during season. The company can take the advantage of
economies of scale in buying these materials in bulk. But at the same time the
inventory carrying cost should not go beyond the profit margins while holding the large
inventory
Non-seasonal materials are available throughout the year without any significant price
variation.
Non seasonal items can be Plastics, Metals etc. The prices of these materials are
independent of the season.

HML Analysis

This analysis is done for classifying the materials based on their prices
H -High Price Materials
M-Medium Price Material
L – Low price materials
Procurement department is more concerned with prices of materials so this analysis
helps them to take them the decisions such as, who will procure what based on the
hierarchy and price of material .

Some of the other objective can be as under

Helps in taking the decision such as whether to procure in exact requirement or opt
for EOQ or purchase only when needed

When it is desired to evolve purchasing policies then also HML analysis is carried out
i.e. whether to purchase in exact quantities as required or to purchase in EOQ or
purchase only when absolutely necessary

When the objective is to keep control over consumption at the department level then
authorization to draw materials from the stores will be given to senior staff for H item,
next lower level in seniority for M class item and junior level staff for L class items

Cycle counting can also be planned based on HML analysis. H class items shall be
counted very frequently, M class shall be counted at lesser frequency and L class
shall be counted at least frequency as compared to H & M class

SDE Analysis :

S-Scarce Material i.e. hardly available

D-Difficult material i.e. difficult in sourcing.
E-Easy materials i.e. materials available easily
SDE analysis is done based on purchasing problems associated with items on day-to-
day basis. Some of the purchasing problems are as under: -
 Long Lead Times.
 Scarcity and hardly available

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 Sourcing the same material from many geographically scattered sources
 Uncertain and unreliable sources of supply
Purchasing department classifies these materials and formulates the strategy and
policy of procurement of these items accordingly. So classification of materials is done
based on level of difficulty in sourcing

S Class Materials
These materials are always in shortage and difficult in procurement. These materials
sometimes require government approvals, procurement through government
agencies. Normally one has to make the payment in advance for sourcing these
materials. Purchase policies are very liberal for such materials

D Class Materials
These materials though not easy to procure but are available at a longer lead times
and source of supply may be very far from the consumption. Procurement of these
materials requires planning and scheduling in advance. Particular OEM spares of the
machinery may fall under this category as that OEM may be very far from the ordering
or consumption location.

E Class Material.
These materials are normally standard items and easily available in the market and
can be purchased anytime.

GOLF Analysis:
Government, Ordinary, Local, and Foreign Report help you to do material analysis
based on location and type of organization.
G -Government suppliers
O- Ordinary or non government suppliers
L - Local suppliers
F - Foreign suppliers

FSN Analysis:
Classification of materials based on movement i.e. Fast Moving Slow Moving and Non
Moving. Some times also called as FNS (Fast Moving, Normal Moving and slow
moving).

VED Analysis :
By using this analysis for material we classify materials according to their criticality to
the production i.e. how and to what extent the material M1 is going to effect the
production if the material M1 is not available.
V- Vital,
E- Essential,
D- Desirable.
V class item is the item, if not issued, then the production stop shall result, Water,
Power, Compressed Air are some the Vital class Items
Essential Class of items- If these items are not available then stock out cost is very
high.
Desirable Class of items- If these items are not available then there is not going to be
immediate production loss; stock out cost is very less.

5.3 Another way of inventory classification is as follows

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 Anticipation Inventory or Seasonal Inventory: Inventory are often built in
anticipation of future demand, planned promotional programs, seasonal demand
fluctuations, plant shutdowns, vacations, etc.
 Fluctuation Inventory or Safety Stock: Inventory is sometimes carried to protect
against unpredictable or unexpected variations in demand.
 Lot-Size Inventory or Cycle Stock: Inventory is frequently bought or produced in
excess of what is immediately needed in order to take advantage of lower unit costs
or quantity discounts.
 Transportation or Pipeline Inventory: Inventory is used to fill the pipeline as
products are in transit in the distribution network.
 Speculative or Hedge Inventory: Inventory can be carried to protect against
some future event, such as a scarcity in supply, price increase, disruption in supply,
strike, etc.
 Maintenance, Repair, and Operating (MRO) Inventory: Inventories of some items
(such as maintenance supplies, spare parts, lubricants, cleaning compounds, and
office supplies) are used to support general operations and maintenance.
6.0 MODELS OF INVENTORY MANAGEMENT

There are basically two types of inventory management models. They are;-
PUSH AND PULL MODELS
Push model- these model schedule the order or order goods in advance of customer
demand. Manufacturers push the finished product through the distribution channel to
the intermediaries and finally to the customers. E.g. Economic Order Quantity,
Material Requirements Planning, Manufacturing Resource Planning and Distribution
requirements planning.
Pull model- these models are based on making goods once customer demand is
known. The product is pulled through the distribution channel by the order. This model
can be used to reduce inventory throughout the channel E.g. JIT model.
6.1 Economic order quantity (EOQ) model
The EOQ model is a technique for determining the best answers to the how much and
when questions. It is based on the premise that there is an optimal order size that will
yield the lowest possible value of the total inventory cost. There are several
assumptions regarding the behavior of the inventory item that are central to the
development of the model

EOQ assumptions:

1. Demand for the item is known and constant.

2. Lead time is known and constant. (Lead time is the amount of time that elapses
between when the order is placed and when it is received.)
3. The cost of all units ordered is the same, regardless of the quantity ordered (no
quantity discounts).
4. Ordering costs are known and constant (the cost to place an order is always the
same, regardless of the quantity ordered).
5. When an order is received, all the items ordered arrive at once (instantaneous
replenishment).

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6. Since there is certainty with respect to the demand rate and the lead time, orders
can be timed to arrive just when we would have run out. Consequently the model
assumes that there will be no shortages.
Based on the above assumptions, there are only two costs that will vary with changes
in the order quantity, (1) the total annual ordering cost and (2) the total annual holding
cost. Shortage cost can be ignored because of assumption 6. Furthermore, since the
cost per unit of all items ordered is the same, the total annual item cost will be a
constant and will not be affected by the order quantity.
EOQ symbols:
D = annual demand (units per year)
S = cost per order (dollars per order)
H = holding cost per unit per year (dollars to carry one unit in inventory for one
year)
Q = order quantity
EOQ equation is:
Total Annual Cost
The total annual relevant inventory cost would be the sum of the annual ordering cost
and annual holding cost, or
TC = (D/Q)S + (Q/2)H
This is the annual inventory cost associated with any order size, Q.

6.2 Materials Requirement Planning Model

Material requirements planning (MRP) is a production planning and inventory control

system used to manage manufacturing processes. Most MRP systems are software-
based, while it is possible to conduct MRP by hand as well.
An MRP system is intended to simultaneously meet three objectives:
 Ensure materials and products are available for production and delivery to
customers.
 Maintain the lowest possible level of inventory.
 Plan manufacturing activities, delivery schedules and purchasing activities.

The basic function of MRP system includes inventory control, bill of material
processing and elementary scheduling. MRP helps organizations to maintain low
inventory levels. It is used to plan manufacturing, purchasing and delivering activities.
"Manufacturing organizations, whatever their products, face the same daily practical
problem - that customers want products to be available in a shorter time than it takes
to make them. This means that some level of planning is required."
Companies need to control the types and quantities of materials they purchase, plan
which products are to be produced and in what quantities and ensure that they are
able to meet current and future customer demand, all at the lowest possible cost.
Making a bad decision in any of these areas will make the company lose money. A
few examples are given below:
If a company purchases insufficient quantities of an item used in manufacturing, or the
wrong item, they may be unable to meet contracts to supply products by the agreed
date.
If a company purchases excessive quantities of an item, money is being wasted - the
excess quantity ties up cash while it remains as stock and may never even be used at
all. However, some purchased items will have a minimum quantity that must be met,
therefore, purchasing excess is necessary.

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Beginning production of an order at the wrong time can cause customer deadlines to
be missed.
MRP is a tool to deal with these problems. It provides answers for several questions:
 What items are required?
 How many are required?
 When are they required?
MRP can be applied both to items that are purchased from outside suppliers and to
sub-assemblies, produced internally, that are components of more complex items.

The data that must be considered include:

 The end item (or items) being created. This is sometimes called Independent
Demand, or Level "0" on BOM (Bill of materials).
 How much is required at a time.
 When the quantities are required to meet demand.
 Shelf life of stored materials.
 Inventory status records. Records of net materials available for use already in
stock (on hand) and materials on order from suppliers.
 Bills of materials. Details of the materials, components and sub-assemblies
required to make each product.
 Planning Data. This includes all the restraints and directions to produce the end
items. This includes such items as: Routings, Labor and Machine Standards, Quality
and Testing Standards, Pull/Work Cell and Push commands, Lot sizing techniques
(i.e. Fixed Lot Size, Lot-For-Lot, Economic Order Quantity), Scrap Percentages, and
other inputs
7.0 VENDOR MANAGED INVENTORY

Vendor Managed Inventory simply means the vendor (the Manufacturer) manages the
inventory of the distributor. The manufacturer receives electronic messages, usually
via EDI, from the distributor. These messages tell the manufacturer various bits of
information such as what the distributor has sold and what they have currently in
inventory. The manufacturer reviews this information and decides when it is
appropriate to generate a Purchase Order.

Vendor-managed inventory (VMI) is a family of business models in which the buyer of

a product provides certain information to a supplier of that product and the supplier
takes full responsibility for maintaining an agreed inventory of the material, usually at
the buyer's consumption location (usually a store). A third-party logistics provider can
also be involved to make sure that the buyer has the required level of inventory by
adjusting the demand and supply gaps.
As a symbiotic relationship, VMI makes it less likely that a business will unintentionally
become out of stock of a good and reduces inventory in the supply chain.
Furthermore, vendor (supplier) representatives in a store benefit the vendor by
ensuring the product is properly displayed and store staff are familiar with the features
of the product line, all the while helping to clean and organize their product lines for
the store.

One of the keys to making VMI work is shared risk. Often if the inventory does not
sell, the vendor (supplier) will repurchase the product from the buyer (retailer). In other
cases, the product may be in the possession of the retailer but is not owned by the

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retailer until the sale takes place, meaning that the retailer simply houses (and assists
with the sale of) the product in exchange for a predetermined commission or profit. A
special form of this commission business is scan-based trading whereas VMI is
usually applied but not mandatory to be used.

This is one of the successful business models used by Wal-Mart and many other big
box retailers. Oil companies often use technology to manage the gasoline inventories
at the service stations that they supply (see Petrol soft Corporation).Home Depot uses
the technique with larger suppliers of manufactured goods (ie. Moen, Delta, RIDGID,
Paulin). VMI helps foster a closer understanding between the supplier and
manufacturer by using Electronic Data Interchange formats, EDI software and
statistical methodologies to forecast and maintain correct inventory in the supply
chain.

Vendors benefit from more control of displays and more contact to impart knowledge
on employees; retailers benefit from reduced risk, better store staff knowledge (which
builds brand loyalty for both the vendor and the retailer), and reduced display
maintenance outlays

Consumers benefit from knowledgeable store staff who are in frequent and familiar
contact with manufacturer (vendor) representatives when parts or service are
required, store staff with good knowledge of most product lines offered by the entire
range of vendors and therefore the ability to help the customer choose amongst
competing products for items most suited to them, manufacturer-direct selection and
service support being offered by the store.

8.0 REFERENCES

1. Anonymous, Inventory, http://en.wikipedia.org/wiki/Inventory, downloaded on 31.09.10

2. Anonymous, inventory management, http://www.invatol.com/, downloaded on 31.09.10

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