This document provides an overview of inventory management. It defines inventory as the physical stock of economic resources held to support smooth operations. The objectives of inventory management are to minimize costs and maximize production efficiency. Inventory is classified into direct categories like raw materials, work in process, and finished goods as well as indirect categories like safety stock. Factors that affect inventory levels include demand, ordering cycles, and economic parameters. Different inventory control systems are discussed, including EOQ which aims to minimize total inventory costs by balancing ordering and carrying costs. Costs associated with inventory holding include carrying costs, shortage costs, ordering costs, and procurement costs.

1. INVENTORY
MANAGEMENT
Devan P D
Kumaraguru College of Technology
Coimbatore

2. Contents
• Introduction
• Definition
• Objectives of Inventory
• Functions of Inventory
• Classifications of Inventory
• Factors Affecting Inventory
• Inventory Control Systems
• Cost Associated with Inventory

3. Introduction
• Inventory is an idle resource which is not utilized for a longer
period.
• Inventory may be in any form ( Men or Money or Material).
• In general, goods are procured, stored and used for day to day
functioning of the organization.
• Inventory control- Correct quality and quantity of material is made
available at the right time.
• Inventory Management answers two questions viz. How much to
order? and when to order?

4. Definition
• The word inventory means a physical stock of economic resources
that are for smooth and efficient running of future affairs of an
organization at the minimum cost .
• A scientific method of finding out how much stock should be
maintained in order to meet the production demands & be able to
provide right type of material at right time, in right quantities at
competitive prices.

5. Objectives of Inventory
• To maintain the minimum level of waste, surplus, inactive, scrap
and obsolete items.
• To minimize the inventory cost.
• To maximize the efficiency in production and distribution.
• To maintain the overall inventory investment at the lowest level.
• To supply the raw material, sub-assemblies, semi-finished goods,
finished goods, etc. to its users as per their requirements at right
time and at right price.

6. Why inventory is essential?
• Without inventory no business activity can be performed, whether
it being a manufacturing organization or service organization .
• Irrespective of the specific organization, inventories are reflected
by way of a conversion process of inputs to outputs.
• To avoid economically impractical and physically impossible
delivering/getting right amount of stock at right time of required.
• To meet unexpected demand and achieve return on investment.
• To order largest quantities of goods, components or materials from
the suppliers at advantageous prices.

7. Functions of Inventory
• Increase the profit through manufacturing and marketing support
• Geographical Specialization
• Decoupling
• Balancing supply and demand
• Safety stock (Buffer stock)

8. Classification of Inventories
Direct Inventories Indirect Inventories
1.Raw material inventories 1.Fluctuation Inventories
2.Work-in -process inventories 2.Anticipation inventory
3. Finished goods inventories 3.Lot size inventory
4.Spare parts inventories 4.Transportation Inventories
5.Decoupling inventories

9. Direct Inventories
1. Raw material
It is an unprocessed material, or primary commodity, is a
basic material that is used to produce goods, finished products, or
intermediate materials that are feedstock for future finished
products.

10. 2. Work in Process Inventory
These inventories are of semi-finished type, which are accumulated
between operations or facilities. As far as possible, holding of
materials between operations to be minimized if not avoided.

11. 3. Finished goods inventories
After finishing the production process and packing, the finished
products are stocked in stock room.

12. 4.Spare parts inventories
Any product sold to the customer, will be subjected to wear and tear
due to usage and the customer has to replace the worn-out part.
Hence the manufacturers always calculate the life of the various
components of his product and try to supply the spare components
to the market to help after sales service.

13. Indirect Inventories
1. Fluctuation Inventories
These inventories are carried out to safeguard the fluctuation in
demand, non-delivery of material in time due to extended lead-time.
These are some times called as Safety stock or reserves. The level
of this stock will fluctuate depending on the demand and lead-time
etc.

14. 2. Anticipation inventory
• When there is an indication that the demand for company’s
product is going to be increased in the coming season, a large
stock of material is stored in anticipation.
• Some times in anticipation of raising prices, the material is
stocked. Such inventories, which are stocked in anticipation of
raising demand or raising rises, are known as anticipation
inventories.

15. 3. Lot size inventory or Cycle inventories
• This situation happens in batch production system. In this system
products are produced in economic batch quantities.
• It some time happens that the materials are procured in quantities
larger than the economic quantities to meet the fluctuation in
demand.
• In such cases the excess materials are stocked, which are known
as lot size or cycle inventories.

16. 4.Transportation Inventories
When an item is ordered and purchased they are to be received from
the supplier, who is at a far of distance.
The materials are shipped or loaded to a transport vehicle and it will
be in the vehicle until it is delivered to the receiver.
Similarly, when a finished product is sent to the customer by a
transport vehicle it cannot be used by the purchaser until he
receives it. Such inventories, which are in transit, are known as
Transportation inventories.

17. 5. Decoupling inventories
These inventories are stocked in the manufacturing plant as a
precaution, in case the semi finished from one machine does not
come to the next machine, this stock is used to continue a
production. Such items are known as decoupling inventories.

18. Factors Affecting Inventory
• Economic Parameters
• Demand ( Deterministic or Probabilistic)
• Ordering Cycle
• Delivery Lag
• Time Horizon
• Stages of Inventory
• Number of Supply Echelons
• Government’s and Organization’s Policy

19. 1. Economic Parameter
• Purchase Price
• Procurement Costs
• Selling Price
• Holding Costs
• Shortage costs
• Information Processing System Operating Costs

20. 2. Demand
• The demand for raw material or components for production or
demand of goods to satisfy the needs of the customer, can be
assessed from the past consumption/supply pattern of material or
goods.
• The demand may be deterministic or probabilistic or static in nature.

21. 3. Ordering Cycle
• The ordering cost is related with the inventory situation time
measurement.
• An ordering cycle can be identified by the time period between two
successive placements of orders. The later may be initiated in one of
two ways as:
a) Periodic Review
b) Continuous Review

22. 4. Delivery Lag / Lead Time
• Lead-time is the time between placing the order and receipt of
material to the stock. In production models, it is the time between
the decision made to take up the order and starting of production.
• This time in purchase models depends on many uncontrollable
factors like transport mode, transport route, agitations etc. It may
vary from few days to few months depending on the nature of
delay.

23. 5. Time horizon
• The time period for which the optimal policy is to be formulated
or the inventory cost is to be optimized is generally termed as the
Inventory planning period or Time horizon.
• This time is represented on X - axis while drawing graphs. This
time may be finite or infinite.

24. 6. Stages of Inventory
• In the sequential production process, if the items/parts are stocked
at more than one point they are called multi-stage inventories.

25. 7. Number of Supply Echelons
• There are several stocking points in the inventory system.
• These stocking points are organized in such that one points act as
a supply source for some other points.

26. 8. Government’s and Organization’s Policy
• There are different governments and as well as organization
policies such as import and export, availability of capital, land,
labour, pollutions systems, etc.
• The government has laid down some policy norms for items to be
imported as well as for other items like highly inflammable,
explosive and other important materials.
• Similarly, an organization also has certain policies based on the
availability of capital, labour, etc. All these policies affect
organization inventories level.

27. INVENTORY CONTROL SYSTEMS
• p-system (Fixed Period System)
• q-system (Fixed Quantity System)
• pq – System
• ABC Analysis
• VED analysis (Vital, Essential, Desirable Analysis)
• XYZ Analysis based on the inventory value
• FNSD - Based on usage rate of items
• EOQ

28. a) p - System or Fixed Period System
• Inventory is replenished at fixed time intervals.
• The quantity of order depends on rate of consumption in that
period.
• Period of ordering is constant but quantity ordered per order will
differ and hence it is called as fixed period system.

29. (b) q - System or Fixed Quantity System
• The quantity ordered per order is constant but the period of placing
order will differ.
• Every time we place the order for the same quantity. This system is
also known as Two-Bin System.
• The time required to consume all the material in the bin depends on
the rate of demand.
• Depending on the rate of consumption, the time of placing will defer,
but each time the order is placed for the same quantity.

30. c) pq - System / Optional Replenishment System
• In some situations the cost of reviewing the inventory such as
stock of certain chemicals where expert surveying is necessary to
assess the stocks is high.
• Further, in some other context the cost of ordering is very
significant. In such cases, the Optimal Replenishment model can
be applied.
• When the stock on hand and stock on order falls below certain
level (say ‘x’) then an order is placed enough to bring the stock up
to a level ‘X’.
• Here ‘x’ represents re-order level and ‘X’ denotes the desired
inventory level.

31. (d) ABC Analysis of Inventory
• This is sometimes known as Always Better Control. This system
of control is also known as Selective Approach System.
• A-Class: These items are less in number, but consumes large
portion of the total inventory investment. (70% of inventory).
• B-Class: There will be certain materials, whose total annual
consumption cost will be somewhere in between 20 to 25 % of
total inventory investment.
• C-Class: The class of items will be large in number may be 30 to
35 % of total number of items stored, but consumes only 5 to 10
% total inventory investment.

32. (e) VED analysis (Vital, Essential, Desirable Analysis)
• In VED analysis the criticality of the item is most important than
the cost factor of the item.
• Here V stands for Vital items, E stands for Essential items and D
stands for Desirable items.
Vital items (V): V- items are more critical in nature, that is,
without which the system cannot run.
• In absence of critical items the organization has to come to stand
still and it cannot keep up delivery promises.
• The idle cost and the penalty for not meeting the delivery
promises may be a very big loss to the organization.

33. Cont…
Essential items (E):
• When demand arises are not available, they may not stop the
operation of the system, but they reduces the efficiency of the
system.
• Ex:- For a automobile vehicle, horn, head light bulb are essential
item. If they are not there, the vehicle still can be run but with
risk.

34. Cont…
Desirable items:
• These items are of the nature, if they are not available, they will
not stop the system from working nor they reduce the efficiency of
the system.
• But it is better to have them in stock to run the system without any
difficulty.

35. (f) XYZ-analysis
• In XYZ - Analysis classification is made on the closing Inventory
value of the item. By wrong purchase policy there might be an
excess stock at the year ending stock verification.
• This shows that unnecessarily inventory is lying in the store. If we
combine ABC analysis with XYZ analysis, we can get more
benefits and unnecessary stock may be reduced.

36. (g) FNSD - Based on usage rate of items
• In FNSD, classification of items depends on the usage rate of the
items or movement of the items.
• Here F stands for Fast moving items, N for Normal moving items,
S for Slow moving items and D for Dead items.
• This analysis is useful in optimal utilization of storage area or
space available for storing the materials.
• This also helps in saving the issue time of material. This analysis
is useful to combat obsolete items.

37. Summary

38. EOQ-Economic Order Quantity
• For keeping the inventory and inventory cost low, it is necessary
to procure the item in as small consignments as possible.
• But this can mean placing larger number of orders at intervals and
higher overall ordering cost.
• This conflicting situation is solved by the EOQ method. The EOQ
method helps in finding appropriate levels for holding inventories.
• It facilitates the fixation of ordering sequence and the quantities so
as to minimize the total materials costs.
Total annual cost = (purchase cost) + (order cost) + (holding
cost)

39. Assumptions of the EOQ Model
• Demand is known and constant
• Lead time is known and constant
• Receipt of inventory is instantaneous
• Quantity discounts are not available
• Variable costs are limited to: ordering cost and carrying (or
holding) cost
• If orders are placed at the right time, stock outs can be avoided

40. EOQ Model Total Cost
At optimal order quantity (Q*): Carrying cost = Ordering cost

41. Minimizing EOQ Model Costs
• •Only ordering and carrying costs need to be minimized (all other
costs are assumed constant)
• As Q (order quantity) increases:
-- Carry cost increases
-- Ordering cost decreases

42. COSTS ASSOCIATED WITH INVENTORY
• Inventory Carrying Cost
• Shortage cost
• Set up cost
• Purchasing cost

43. Inventory Carrying Cost
• Rent /depreciation for the building in which the stock is stored.
• Cost of equipment if any and cost of racks and any special
facilities used in the stores.
• Interest on the money locked in the form of inventory or on the
money invested in purchasing the inventory.
• The cost of stationery used for maintaining the inventory.
• The wages of personnel working in the stores.
• Cost of depreciation, insurance.
• Cost of deterioration due to evaporation, spoilage of material etc.

44. Shortage cost or Stock - out cost
• Some times it so happens that the material may not be available
when needed or when the demand arises.
• In such cases the production has to be stopped until the
procurement of the material, which may lead to miss the delivery
dates or delayed production.
• When the organization could not meet the delivery promises, it
has to pay penalty to the customer.
• Here to avoid the stock out situation, if the organization stocks
more material, inventory carrying cost increases and to take care
of inventory cost, if the organization purchase just sufficient or
less quantity, then the stock out position may arise

45. Set up cost or Ordering cost or Replenishment Cost
Set up cost:
• The term set up cost is used for production or manufacturing
models.
• Whenever a job is to be produced, the machine is to set to
produce the job.
• That is the tool is to be set and the material is to be fixed in the
jobholder. This consumes some time.
• During this time the machine will be idle and the labour is
working. The cost of idle machine and cost of labour charges are
to be added to the cost of production.

46. Ordering Cost or Replenishment Cost :
• The term Ordering cost or Replenishment cost is used in purchase
models.
• Whenever any material is to be procured by an organization, it has
to place an order with the supplier.
• The cost of stationary used for placing the order, the cost of salary
of officials involved in preparing the order and the postal expenses
and after placing the order enquiry charges all put together, is
known as Ordering cost

47. Procurement Cost :
• These costs are very much similar to the ordering cost / set up
cost.
• This cost includes cost of inspection of materials, cost of returning
the low quality materials, transportation cost from the source of
material to the purchaser‘s site.
• This is proportional to the quantity of materials involved. This
cost is generally represented by ‘b’ and is expressed as so many
rupees per unit of material.
• For convenience, it always taken as a part of ordering cost and
many a time it is included in the ordering cost / set up cost.

48. Purchasing Cost
• This is the actual purchase price of the material or the direct
production cost of the product.
• It is represented by ‘p’. i.e. the cost of material is Rs. ‘p’ per unit.
This may be constant or variable.
• If more per order is purchased, ordering cost is reduced and
because of discount, material cost is reduced but inventory cost
will increase.
• Materials manager has to take into consideration these cost –
quantity relationship and decide how much to purchase to keep the
inventory cost at low level.