Visibility Blog

Inventory Management with MRP: Balancing Cost v. Inventory

Posted by Kellie Righini on Aug 25, 2015 11:00:00 AM
Kellie Righini

Inventory management, or inventory control, is an attempt to balance inventory needs and requirements with the need to minimize costs resulting from obtaining and holding inventory. No business can afford the loss of precious dollars by way of waste of goods in its warehouses. Why would a firm hold more inventory than is currently necessary to ensure the firm's operation?

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Here are just a few reasons why companies have excess inventory:

  • Quantity Discount
  • Extended Lead Time
  • Ensure to Meet Demand
  • Keep Operations Running and Avoid Down Time
  • Evade Cost Increase

All these seem to be sound reasons to purchase extra inventory – but are you really saving money? The true cost of inventory entails many elements and goes far beyond the cost of goods sold or raw materials

As stated earlier, inventory management is an attempt to maintain an adequate supply of goods while minimizing inventory costs. We saw a variety of reasons companies hold inventory and these reasons dictate what is deemed to be an adequate supply of inventory. Now, how do we balance this supply with its costs? First let's look at what kind of costs we are talking about.

There are three types of costs that together constitute total inventory costs:

  1. Ordering Costs (also called Setup costs)
    • The cost of the ordering process itself.
    • The inbound logistics costs
  1. Carrying Costs (also called Holding costs)
    • Capital Costs (or financing charges) includes everything related to the investment, the interests on working capital and the opportunity cost of the money invested in the inventory (instead of in treasuries, mutual funds
    • Storage Space Costs: the cost of building and facility maintenance (lighting, air conditioning, heating, etc.), the cost of purchase, depreciation, or the lease, and the property taxes.
    • Inventory Services Costs:  the cost of insurance, IT hardware and software, but also physical handling with the corresponding human resources, management, cycle. Counting, etc
    • Inventory Risk Costs: the risk that the items might fall in value over the period they are stored
  1. Stock-Out Costs (also called Shortage costs): the costs incurred when stock outs take place, such as the overnight shipments and the cost in terms of customer loss of loyalty or the general reputation of the company

 As evidenced above, the costs surrounding inventory are significant. When it comes to inventory control, there are many methodologies. No matter what methodology you use, there are numerous ways to take better control of inventory and decrease its associated costs.

Visibility’s MRP suite (computer-based resource management system) provides the ability to match supply with demand at each stage of the product life cycle. Our MRP module looks at order quantities period by period and, as such, allow discrete ordering (ordering only what is currently needed). In this way inventory levels can be kept at a very low level; a necessity for a complex item with dependent demand.

 

To learn how Visibility helps companies with inventory management click here

Topics: ERP