The inventory management is usually not the direct operating responsibility of the financial manager, the investment of funds in inventory is a very important aspect of financial management. Consequently, the financial manager must be familiar with way to control inventories effectively so that capital may be allocated efficiently. The greater the opportunity cost of funds invested in inventory, the lower the optimal level of average inventory, and the lower the optimal order quantity, all other things held constant. This statement can be verified by increasing the carrying costs. The Economic Order Quantity model can also be used by the financial manager in planning for inventory financing.
When demand or usage of inventory is uncertain, the financi0al manager may try to effect policies that will reduce the average lead time required to receive inventory once an order is placed. The lower the average lead time, the lower the safety stock needed, and the lower the total investment in inventory, all other things held constant. The greater the opportunity cost of funds investment in inventory, the greater the incentive to reduce this lead time.
The purchasing department may try to find new vendors that promise quicker delivery, or it may pressure existing vendors to deliver faster. The production department may be able to deliver finished goods faster by producing a smaller run. In either case, there is a trade-off between the added cost involved in reducing the lead time and the opportunity cost of funds tied up in inventory. This discussion serves to point out the value of inventory management to the financial.
Relatively short transit times from vendor plants to customer plants â€“ less than one day â€“ are necessary if customer production operation (using process) is to get the parts it requires â€˜just-in-timeâ€™. Toyota, in Japan, for example has most of its suppliers located within 60 miles of its plants.
The using process must always be able to rely on receiving only good parts from its suppliers. The Japanese concept is that every operation must regard the next operation as the ultimate customer. Quality control efforts are aimed at controlling the production process, not on inspection to weed out the bad.
Manageable supplier network
A minimum number of suppliers and long-terms contracts with them helps make â€˜just-in-timeâ€™ systems work. Most Japanese auto companies use fewer than 250 parts suppliers. By contrast, General Motors Corporation uses about 3500 suppliers for assembly operations alone.
Controlled transportation system
Key to this is short, reliable transit lines between suppliers and users. Japanese auto companies use only trucks (their own or under contract to them) to have parts shipped. Deliveries occur several times a day from each supplier at prescheduled times.
In the factory, the supplying process must be able to react quickly to produce whatever parts are taken by the using process. Key to this is quick tool-change capability. In Japan, for example, automated press lines can change tools within 6 minutes.
Small lot sizes
Most Japanese companies that use â€œjust-in-timeâ€? systems require lot sizes to be less than 10% of a dayâ€™s usage. The idea is to achieve a lot size of one piece, so that every time one vehicle is produced, one of each part of the vehicle is also produced.
Efficient receiving and material handling
Most Japanese companies, for example, have eliminated formal receiving operations. Whole sides of plants act as receiving areas and parts are delivered as close as possible to the points of use. Special design trucks are used to eliminate need for truck wells.
Strong management commitment
â€œJust-in-timeâ€? system is plant-wide. Management must make available company resources to assure that the system works and it must stand firm during conversion to â€œjust-in-timeâ€? systems when the going can be very rough and prolonged.