Concept of inventory:
Inventory is defined as a usable resource which is physical and tangible such as materials. In this sense, our stock is our inventory, but even then the term inventory is more comprehensive. Though inventory is a usable resource, it is also an idle resource, unless it is managed efficiently and effectively.
Inventory management boils down to maintaining an adequate supply of something to meet the expected demand pattern subject to budgeting considerations. Inventory could be raw materials, work in progress (WIP), finished products or the spare parts and other indirect materials. Effectiveness of the materials and production functions depend to large extent upon inventory management. Inventory turnover ratio annual Demand / Average Inventory is an index business performance. Sound management gives a higher inventory turnover ratio.
Inventories have to be procured, stored and carried for production system, since a situation when they can be instantaneously available is difficult to assume in Indian setting. Inventories are, therefore, a necessary evil to stay.
Importance of inventory:
Inventories constitute the largest component of current assets in many organizations. Poor management of inventories therefore may result in business failures. A stock out creates an unpleasant situation for the organization. In case of a manufacturing organization, the inability to supply an item from inventory could, bring production process to a halt. Conversely; if a firm carries excessive inventories, the added carrying cost may represent the different between profit and loss. Efficient inventory control, therefore, can significantly contribute to the overall profit position of the organization.
What Function does inventory perform?
Functions that inventory:
In any organizations, inventories add an operating flexibility that would otherwise be lost. In production, work in process inventories are an absolute necessity unless each individual part is to be carried from machine to machine and those machine set up to produce that single part. The many functions inventory performs can be summarized as follows:
Regularizing demand and supply:
Harvest of tobacco is carried out during the concluding part of the summer, but the manufacture of tobacco products such as cigarettes and cigars continues throughout the entire year. In cases like this sufficient raw materials must be purchased during the tobacco producing period to last the entire year. It compels the manufacturer to carry inventory.
In a simple sense, because a commercial vehicle can be driven 100 miles without passing a petrol pump, its tanks must carry enough petrol to avoid run outs.
Economizing purchases or production by lot buying or batch production
If the product does not have the demand sufficient to sustain its continuous production round the year, it is usually produced in batches or lots, on an intermittent basis. During the time when the item is not being produced, sales are made from inventory which is accumulated while the item is being produced. Similarly, a super bazaar selling men’s clothing dos not purchase a new shirt from Double Bull, each time they sell one. Rather they choose to carry with them an inventory of these shirts so that purchasing can be done in larger quantities, thereby allowing lower cost and less paper work.
Allowing organizations to cope with perishable materials:
Organizations selling canned foods, particularly fruits and vegetables, operate at peak production capacity only for a few months each year. They must tore up inventory to supply sufficient to last them through a year’s anticipated demand until the next season. They give thoughtful consideration to the rate of inventory accumulation and depletion throughout the peak production and sales periods each year.
Inventory can store labor:
Though it may sound abstract to talk of “Inventorying” labo, it has been done as a matter of routine. The peak demand for the installation of replacement heating units comes in the falls, just after the old units have been operated fro the first time. The manufacturers of heating units store up excess labor by having their workers produce at a designated arte all year long, then having converted labor into finished heating units they hold them in inventory until the point when demand increases rapidly. Even if demand exceeds current productive capacity, a manufacturer can supply the difference out of inventory at that time.
Executives decide two basic issues while dealing with inventories. These two decisions are made for every item in the inventory.
1) How much of an item to order when the inventory of that item is to be replenished.
2) When to replenish the inventory of that item.
There are many commonly used inventory models which managers use to make the two decisions enumerated above. Inventory models details are beyond the scope of this article.