Stock Management in

Production

Topic 8
 Introduction
• STOCKS are supplies of goods and materials that are
held by an organisation. They are formed whenever
the organization's inputs or outputs are not used at
the time they become available.
• Stock can refer to;
– Raw materials required for production of goods
– Part finished goods – (Goods in Progress/ WIP)
– MRO (Maintenance/ Repair/ Operating)
– Finished goods
• STOCK MANAGEMENT is the practice of ordering,
storing, tracking, and controlling inventory.
• Stock management applies to every item a
business uses to produce its products or services –
from raw materials to finished goods. In other
words, stock management covers every aspect of
a business’s inventory.
• Stock management may also be called Stock
control, Inventory management, or Inventory
control
• We need to control stock because
– A lot of money can be tied up
– We are obliged to produce financial reports
– It is the key to efficient customer service
 Different types of Stock
There are four main categories of stock or inventory:
i. Raw materials and components: stock that is
ready to be used in the production of goods.
ii. Work in progress: unfinished goods that are
still in production.
iii. Finished goods: items that are ready for sale.
iv. Consumables: stock that will be used in the
daily running of the business and will need
updating, for example, fuel and stationery.
 Benefits of Stock Management
• There are a number of benefits to why a company
choose or need to hold stocks of different
products. In planning any distribution system, it is
essential to be aware of these benefits, and to be
sure that the consequences are adequate but not
excessively high stock levels.
• The most important benefit for holding stock is to
provide a buffer between supply and demand. This is
because it is almost impossible to synchronize or
balance the precise requirements of demand with
the vagaries of supply.
• to keep down production costs
• to accommodate variations in demand
• to take account of variable supply (lead) times
• to take advantage of quantity discounts
• to account for seasonal fluctuations
• to allow for price fluctuations/ speculation
• to help the production and distribution
operations run more smoothly
• to minimize production delays caused by lack of
spare parts
• to provide the customers with immediate service
Costs of Holding Inventories

– Ordering costs
– Inventory Carrying costs
– Opportunity costs of funds blocked
– Shortage/ shortage
Risk of Holding Inventory
– Price decline
– Product Deterioration
– Product Obsolescence
 Tools & Techniques of
Inventory Management/ Control
• ABC Analysis
• Economic Ordering Quantity (EOQ)
• Two Bin Technique
• VED Classification
• HML Classification
• SDE Classification
• FSN Classification
• Order Cycling System
• Just In Time (JIT)
 ABC Analysis
• ABC analysis is an inventory categorization
method which consists in dividing items into three
categories (A, B, C):
– A being the most valuable items,
– C being the least valuable ones.
• This method aims to draw managers’ attention on
the critical few (A-items) not on the trivial many
(C-items).
 The ABC Analysis
The ABC approach states that a company should
rate items from A to C, basing its ratings on the
following rules:
– A-items are goods which annual consumption value is
the highest; the top 70-80% of the annual
consumption value of the company typically accounts
for only 10-20% of total inventory items.
– B-items are the interclass items, with a medium
consumption value; those 15-25% of annual
consumption value typically accounts for 30% of total
inventory items.
– C-items are, on the contrary, items with the lowest
consumption value; the lower 5% of the annual
consumption value typically accounts for 50% of
total inventory items.
 The ABC Analysis
• The annual consumption value is calculated with
the formula:
(Annual demand) x (item cost per unit)
• Through this categorization, the supply manager
can identify inventory hot spots, and separate
them from the rest of the items, especially those
that are numerous but not that profitable.
 Steps for the classification of
items
1. Find out the unit cost and the usage of each material over a
given period;
2. Multiply the unit cost by the estimated annual usage to
obtain the net value;
3. List out all the items and arrange them in the descending
value (Annual Value);
4. Accumulate value and add up number of items and calculate
percentage on total inventory in value and in number;
5. Draw a curve of percentage items and percentage value;
6. Mark off from the curve the rational limits of A, B and C
categories.
 ABC Analysis

Percentage of Percentage value of

items annual usage

Close day to day

Class A items About 20% About 80% control

Class B items About 30% About 15% Regular review

Infrequent
Class C items About 50% About 5%
review
 ABC Analysis-Example

Percentage of Percentage value of

items annual usage

Close day to day

Class A items About 20% About 80% control

Class B items About 30% About 15% Regular review

Infrequent
Class C items About 50% About 5%
review
 Step 1
Calculate the total spending per year
Item number Unit cost Annual demand Total cost per year
101 5 48,000 240,000
102 11 2,000 22,000
103 15 300 4,500
104 8 800 6,400
105 7 4,800 33,600
106 16 1,200 19,200
107 20 18,000 360,000
108 4 300 1,200
109 9 5,000 45,000
110 12 500 6,000
Total usage 737,900

Total cost per year: Unit cost * total cost per year
 Step 2
Calculate the usage of item in total usage
Usage as a % of
Item number Unit cost Annual demand Total cost per year
total usage
101 5 48,000 240,000 32,5%
102 11 2,000 22,000 3%
103 15 300 4,500 0,6%
104 8 800 6,400 0,9%
105 7 4,800 33,600 4,6%
106 16 1,200 19,200 2,6%
107 20 18,000 360,000 48,8%
108 4 300 1,200 0,2%
109 9 5,000 45,000 6,1%
110 12 500 6,000 0,8%
Total usage 737,900 100%

Usage as a % of total usage = usage of item/total usage

 Step 3
Sort the items by usage
Item Cumulative Unit Annual Total cost per Usage as a % of Cumulative % of
number % of items cost demand year total usage total

107 10% 20 18,000 360,000 48,8% 48,8%

101 20% 5 48,000 240,000 32,5% 81,3%

109 30% 9 5,000 45,000 6,1% 87,4%

105 40% 7 4,800 33,600 4,6% 92%

102 50% 11 2,000 22,000 3,0% 94,9%

106 60% 16 1,200 19,200 2,6% 97,5%

104 70% 8 800 6,400 0,9% 98,4%

110 80% 12 500 6,000 0,8% 99,2%

103 90% 15 300 4,500 0,6% 99,8%

108 100% 4 300 1,200 0,2% 100%

Total usage 737,900 100%

 Step 4
Results of calculation

Percentage of Percentage
Cathegory Items Action
items usage (%)

Class A 107, 101 20% 81,6% Close control

109, 105, 102, Regular

Class B 40% 16,2%
106 review

104, 110, 103, Infrequent

Class C 40% 2,5%
108 review
 Economic Ordering Quantity
(EOQ)
• The economic order quantity theory is based on
the Fundamental question of how much to
order?.
• The order quantity is that should be ordered after
taking into consideration the basic idea of cost
reduction.
 Where Storage
2DO cost is given in
Q = % , it is always
H calculated by
multiplying the
% with the
Q = Economic Order Quantity
purchase price
D = Annual usage/demand of raw material
O = Cost of Placing an order per unit, that is
H = Storage cost per unit per order Storage cost = %
X Purchase price
of raw material
 EOQ- Example
• A firm’s annual inventory is 1,600 units. The cost
of placing an order is TZS 50, Holding cost of raw
material/unit is TZS 10.
a. Calculate EOQ
b. Determine annual holding cost and annual ordering
cost
c. If the purchase price of raw material/ Unit is TZS 20,
the carrying costs is expected to be 10% per unit p.a.
Calculate EOQ?
 Ordering Cycling System
• Periodic reviews are made of each item of
inventory & orders are placed to restore stock to
a prescribed stock level
Advantages:
1. Eliminates the shutdown and interruption of
production for annual physical counts
2. Eliminates annual inventory adjustments
3. Trained personnel audit the accuracy of inventory
4. Cause of errors are identified and remedial actions
are taken
5. Maintains accurate inventory records
 When to order decision? -
Example
• A firm’s annual inventory is 1,600 units. The
cost of placing an order is TZS 50, Holding cost
of raw material/unit is TZS 10.
a. Calculate EOQ
b. Determine the reorder level if the firm’s operate
for 312 days and lead time is 4
 Two Bin Technique
Control of Category ‘C’ inventories
Two Bins/Groups
First Bin - just enough to last from the date a new
order is placed until it is received for inventory.
Second Bin - enough to meet current demand over
the period of replenishment.
 VED Classification
• Specifically used for Classification of SPARE
PARTS

 V- part is VITAL( high stock level)

 E- part is ESSENTIAL (moderate stock level )

 D- part is DESIRABLE (minimum stock level )

 HML Classification
• Material classified on the basis of UNIT VALUE

 H- HIGH VALUE
 M- MEDIUM VALUE
 L – LOW VALUE
S.D.E (Scarce, Difficult to Obtain,
Easy to Obtain)
• The criterion in this case is the purchasing
problem in regard to availability. So you put
more efforts of inventory control and
forecasting in items which are scarce and
which are difficult to obtain than those which
are easy to obtain.
 FSN Classification
• Inventory is classified based on the MOVEMENT
OF INVENTORIES from stores
• Inventory technique used to AVOID
OBSOLESCENCE
 F- Fast moving
 S- Slow moving
 N- Non moving
 Just-in-time (JIT) Inventory
Control

• The JIT control system implies that the firm

should maintain a minimal level of inventory and
rely on suppliers to provide parts and
components ‘just-in-time’ to meet its assembly
requirements.
• JIT also known as Zero Inventory Production
Systems(ZIPS), Zero Inventories(ZIN), Materials as
Needed(MAN), or Neck of Time(N0T)
 Components of Stock Management
Process
• For small businesses, there are two main approaches to stock
management:
i. periodic and;
ii. perpetual stock taking.
i. Periodic stock management: this system of inventory
valuation requires physical inventory accounts at specific
intervals.
This method of stock management is suitable for small
businesses with minimal inventory and is much cheaper than
electronic tracking systems.
However, this method is not suitable for large companies with
extensive inventories because physical stock takes are time-
consuming.
ii. Perpetual stock management: this system relies
on electronic tracking and POS systems, to
record and track inventory on a continual basis.
Whilst this is a more expensive system than
physical inventory counts, it gives a more
accurate and up-to-date indication of stock levels
and removes the risk of human error.
Challenges in Stock Management
• Here are 6 common inventory management
challenges that need to be identified to effectively
optimize your inventory.
i. Low Product Turnover
ii. Excess Inventory
iii. Failure to Keep Track of Stock
iv. Poor Service Levels
v. Difficulty identifying demand patterns
vi. Lack of Visibility
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