Managing Inventory involves building and maintaining enough product assortments to meet the customer demand. Investment in Managing Inventory forms a significant part of company assets and affects physical distribution costs in a major way. Very little inventory can create shortages of products or out-of-stock situation. This is detrimental to the company and can lead to brand switching, lower sales, and the most serious consequence of losing customers. When too much inventory of products is carried, particularly of slow moving products, costs and risks of product obsolescence, damage, or pilferage increase. To strike a balance, companies focus on determining when and how much to order. [ Managing Inventory ]
To find out when to order, the marketer must know the order lead time, the usage rate, and the safety stocks required. Order lead-time refers to the average time lapse between placing the order and receiving supplies. The usage rate represents the rate at which the inventory of product gets sold during a specified time period. Buffer stock is the extra inventory that is maintained to guard against out-of-stock situation from increased demand or to cover longer lead-time than expected. The following formula can be used to calculate when to reorder:
Reorder Point = (Order Lead Time × Usage Rate) + Buffer Stock
To illustrate, let us assume that order lead-time is 15 days, usage rate is 2 units per day, and buffer stock is 10 units. The point to place the order is when there are 40 units in stock.
In certain cases, marketers employ a fixed order interval approach and stocks are ordered at predetermined intervals when the rate of usage is fairly constant and cost per unit is small.
To determine how much to order, it’s necessary to examine inventory carrying costs and order processing costs. Considering both sets of costs determines Economic Order Quantity (EOQ), which is the order size that has the lowest total of both inventory carrying and order processing costs. However, the aim of minimizing total inventory costs must be weighed against meeting or exceeding customer service level objectives.
Some organizations use Just-in-Time (JIT) approach in countries where this is possible. This system means that products arrive as and when they are needed for use in the production process or for resale. This allows companies to Managing Inventory very low inventory levels and purchases at that time are also in smaller quantities. JIT system reduces physical distribution costs, especially inventory and handling related costs. [ Managing Inventory ]