The past several decades have witnesses marked and steadily increasing changes in management discipline. Numerous planning and control activities formerly performed in a routine manner by clerk have evolved into sophisticated functions with far-reaching effects on company profits.
Inventory control, a vital element in the management of materials, is one of these functions. Business faces a continuing squeeze on profits. At the same time development of analytical techniques and computer capability now permit more sophisticated analysis of inventory cost problems. These two phenomena have combined to transform inventory control into a critical function requiring professional managerial skills
Definition Of Inventories
Inventories are stock of materials of any kind stored for future use, mainly in the production process. Thus, today’s inventory is tomorrow’s production. However, semi-finished goods awaiting use in the next process or finished goods awaiting release for sale are also included in the broad category of inventories, which are nothing but idle resources. Therefore, inventories are materials or resources of any kind having some economic value, either awaiting conversion or use in future.
Apart from these, there are also many indirect materials, such as maintenance materials, fuels and lubricants, etc. Which are used in a manufacturing organsiation. They are also classified as inventories of materials for future use. But they differ only in their use and classification from raw and other direct materials. All of them nothing, yet they are badly required to be stocked and to be and when the needs arise. Although inventories are classified in many ways, the following classification prove convenient for use in further discussion of the topic.
(i) Production inventories: Raw materials, parts, and components which enter the firm’s production process. These may consist of two general types
(a) special items manufactured to company specifications and
(b) standard industrial items purchased “off the shelf”
(ii) MRO inventories: maintenance, repair and operating supplies which are consumed in the production process but which do not become part of the production (e.g lubricating oil, soap, machine repair parts).
(iii) In-process inventories: Semi-finished products found at various stage in the production operation
(iv) Finished-goods inventories: Completed products ready for distribution
Costs involved in holding stocks
There are several basic costs incurred by any organisation which holds stocks of materials.
(i) Interest on capital tied up:
When an organisation build up stock it has first, to purchase that stock from suppliers. In many cases the goods will have to be paid for before those goods are processed by the Organisation, sold and profit earned. Therefore, there is a gap between the organisation paying for the stock and the final selling of the finished item.
This has the effect of committing a great deal of the organisation’s money which will not earn any interest and cannot be used for any other purpose, until the goods are actually sold. If the period of time is a long one, it can be very costly and can lead to cash flow problems for the organisation.
(ii) Materials handling costs:
When stocks are held by an organisation they have to be stored and handled by the stores staff. This will include the use of expensive materials handling equipment, storage facilities and labour time.
(iii) Stock maintenance:
Stocks have to be stored in certain conditions, depending on the item involved (e.g warm, dry, cool, etc). Such environmental needs have to be met if deterioration of the stock is to be avoided. This can result in the building of special storehouses, or the introduction of heating, ventilation and lighting systems, all of which are very expensive.
(iv) Administration of stores:
When goods are held in stock there is a great deal of administrative work involved, including control of stock receipts, issues, stock record cards, bin cards, etc. All these duties take up resources in the form of space, labour, skills and time.
(v) Insurance of stock:
Because of the amount of money tied up when stocks are held, it is vital that the organisation as adequate insurance cover, so that in event of a fire, flood or accident, the company will be able to claim from its insurers sufficient funds to replace the stock lost. Therefore, the more stock is kept, the more money is tied up and so the insurance premiums will rise accordingly. Insurance is very expensive indeed, so much so that most companies are only covered for a certain amount of stock loss, hoping that a total loss will not come about
(vi) Obsolescence costs:
Materials held in stock may become obsolete and thus will add to the total costs of storage.
(vii) Security of stocks:
Materials are cash and need to be stored in secure conditions, but security systems such as CCTV are expensive to buy and install. Stock losses to theft are added to the total cost of storage.
The stores department usually headed by the storekeeper serves management by providing the information required for the physical control of materials, semi finished goods and finished goods. A good store department should minimize wastage arising from deteriorating, obsolescence and material handling and should guide against pilferage.
The duties and responsibilities of the storekeeper.
(i) Ensuring that all receipts are recorded after ascertaining that the deliveries comply with the instruction detailed on the purchase orders and the goods received notes.
(ii) Ensuring that issues are only made against pre-numbered and properly authorized material requisitions.
(iii) Ensuring that all returns to suppliers or from production or customers are properly accounted for.
(iv) Ensuring the correct positioning of all materials in store.
(v) Ensuring that the stores are maintained in a tidy manner.
(vi) Sending out purchase requisition to the purchasing department when any materials reaches re-order level.
(vii) Preventing unauthorized person from entering the stores.
Materials, semi finished goods may be kept in either a central (main store) or a department (sub) store. The following are some of the advantages of a central store.
(a) A small overall staff is required and there is concentration of experts in one department.
(b) Smaller stocks are needed and this helps to reduce storage space and the amount invested in stock.
(c) Fewer obsolete items
(d) Stock checks are facilitated.
(e) Better supervision and security can be made.
The following are some of the disadvantages of centralized storekeeping
(a) Inconvenience to personnel and delays in issuing to departments especially when the store is situated some distance from many departments.
(b) There is increased fire risk in concentrating materials in one store.
(c) Can lead to production stoppage in the production department if there is any hold-up in the central store.
Recording of Stock
There are two main documents for recording the quantities of materials held in the store. They are:
(i) The bin card or stock card kept in the store and
(ii) The stores ledger card or (account) which is kept in the accounting office and forms part of the accounting system.
Reasons why organisations hold Stocks
Having come this far, the next question must be, if holding stock is so expensive, why do it? Why not simply rely on a daily delivery of stock? The reasons are set out below.
(i) Unreliable deliveries of stock: Most organisations find it impossible to rely totally on any of their suppliers to deliver every order exactly on time, every time an order is placed. Few suppliers could boast that they had never been held up by strikes, transport delays, bad weather or administrative errors.
(ii) Bulk discounts: By holding more stock than is needed in any one production period (e.g weekly), the organisation is able to buy in large quantities. Thus the purchasing department can obtain a more advantageous price when, because of bulk buying, the suppliers will have a cheaper unit rate. In a company which spends millions of pounds every year on stock, such discount can make a great contribution to overall levels of profit.
(iii) Reduction in operational risk: Because more stock than is needed is held, there is less risk of a ‘nil stock’ situation coming about which could then stop production. If a supplier does fail to deliver the goods needed, the factory can still be supplied . from stock. The cost of stopping production because of nil stock can be very high indeed. In addition, to fixed costs, there will be:
(a) Loss of profit;
(b) Loss of Sales;
(c) Loss of reputation as a company
(d) The cost of employing labour who are not working.
Reduced purchasing cycle: The purchasing cycle is the sequence of events that has to be gone through before an item is finally delivered to stock, the number of times this cycle has to be gone through is reduced. This cut down the use of management and administrative resources and thus reduces the cost of ordering (i.e typing of orders, postage, negotiations, telephone calls, progressing, invoice checking, payments)
(v) Appreciation of stock value: In times of high levels of price inflation, the holding of stocks, purchased at a certain price, can help to protect the organisation from price increases.
(vi) Increased flexibility of output: By holding a certain amount of reserve stock, the organisation will be in a position to increase its level of output should an increase in demand come about (e.g from changes in tax laws, fashions or habits)
(vii) Advantages of low seasonal prices: There are some product. that are only available at certain periods of the year and therefore the organisation must purchase all its needs at one time (e.g cotton, sugar, cocoa etc). In some cases the price of the product varies according to world markets, currency changes or climatic conditions. By holding a large stock the organisation will be able to buy when prices are low and thus reduce the cost of production. It should be noted that a common problem with stock control is that of ‘bargain buy’: materials that are purchased and stocked for reasons of low price, rather than need.