|
Precise control and safeguarding of inventory
is an essential task for a successful and well-
organized company. No firm can survive in the long run without revenue. It is the main
source of revenue generation and, hence, turnover
of inventory is an important focus for every organization. It has a direct relationship with
the profitability of the firm and shareholders'
wealth. Therefore, modern management has been concentrating on efficient inventory
management to ensure handsome returns on the
investments made by shareholders. Inventory
management starts from procurement of raw material to
selling of finished products. A huge investment in inventory may attract low price of material but,
at the same time, it results in some other costs
like storage and spoilage costs and the chances of obsolescence also goes very high. Does it
mean inventory level should be kept low? The answer
is `No', because insufficient inventory of
finished goods may result in potential loss of sale and
in case of manufacturing organizations, if lead
period suddenly goes up due to some uncertain
reasons beyond the control of management, low level
of inventory may result in stoppage in the flow of
production process. During this period, it will turn into a huge loss due to fixed costs which
are to be met, even when there is no production. During an industrial visit to Hindustan
Paper Corporation, Jagiroad, Assam, it has been seen
that stoppage of production due to shortage of
material has resulted a loss of more than Rs. 3,000
per minute. One can imagine the figure of loss if production remains stopped for a single day due
to raw material shortage. Thus, inventory management is an important concern of
modern business.
Fixation of various levels of inventory is very essential for avoiding overstocking and
under stocking of inventories. Stock levels keep
on changing as and when materials are received and issued for production. At a certain point,
materials need to be purchased when a certain stock level
is reached. Therefore, different levels of
inventories are generally set by the firms like reorder
level, minimum level, maximum level and danger
level, keeping in mind the lead period. Lead
period refers to the period in between placing the
order for material and receipt of the materials ordered.
At reorder level, order should be placed. The
store department will initiate the purchase of
materials at this point. The level lies in between
the maximum and minimum limits. Reorder level is calculated by multiplying the maximum
usage with the maximum lead period. Minimum level implies the limit below which stock is not
allowed to fall. The main objective behind fixation of
this level is to protect against stock out of a
particular item. This is calculated by deducting the
product of normal usage and average lead time from
the reorder level. Maximum level is the upper
limit beyond which the quantity of any item is not allowed to rise, to ensure that
unnecessary working capital is not blocked in excessive
stock items. Maximum level can be expressed as _ Reorder Level + Economic Order Quantity
_ (Minimum Usage x Minimum Lead Time). Finally, the danger level, which is fixed below
the minimum level. If stock of a particular item
reaches below this level, urgent action for
replenishment should be taken to prevent stock out
position. Danger level is calculated by multiplying
the average consumption with lead time for
emergency purchases.
In the context of inventory management and control, the Economic Order Quantity
(EOQ) model has emerged as a very important tool for
the management of inventories. EOQ is the quantity
of material to be ordered at one time at which the
cost of ordering and carrying is minimum. The
total inventory costs consist of: Total acquisition
cost, total ordering cost and the total carrying cost.
The inventory acquisition cost is usually
unaffected irrespective of the quantity of material ordered
at one time, unless quantity discounts are
available. Hence, there is need to take care of ordering
costs and carrying costs.
|
