Function and Form of Inventories

Function and Form of Inventories

 

Understanding where (and why) inventory should be positioned in the supply chain can improve customer service, lower total costs, or increase flexibility.  Proper inventory management requires a thorough understanding of both the functions and the forms of inventory.

 

  • The Functions of Inventory – Inventory policy has a great influence on purchase quantity decisions.  The question on how much to order, when, and how much to carry in stock are key decisions subject to continuous improvement examination along with the focus on quality and customer, employee, and supplier satisfaction.  It is important in making delivery, inventory, or purchase order size decisions to under stand why inventories exist and what the relevant trade-off are.  Inventories exist to: (1) to provide and maintain good customer service; (2) To smooth the flow of good through the productive process; (3) To provide protection against the uncertainties of supply and demand; and (4) To obtain a reasonable utilization of people and equipment.  The following classification of inventory functions reveals the multipurpose roles played by inventory.
    • Transit/Pipeline inventory – used to stock the supply and distribution pipelines linking an organization to its suppliers and customers as well as internal transportation points.
    • Just-In-Time Inventory – small delivered quantities used to reduce transit inventories.  Inventory is not stored, and it is delivered only when it is needed.
    • Cycle Inventory – arise because of management’s decision to purchase, produce, or sell in lots rather than individual items or continuously.  The size of lot (Cycle inventory) is a trade-off between the cost of holding inventory and the cost of making more frequent orders and/or setups (EOQ)
    • Buffer or uncertainty inventories/Safety Stock – exist as a result of variability in demand or supply.
    • Anticipation/Certainty Inventory – stock that is purchased for a well-defined future need
    • Decoupling Inventory – make it possible to carry on activities on each side of a major process linkage point independently of each other.

 

By examining the functions of inventory, it is clear that they are the result of many interrelated decisions and policies with an organization.  Reducing inventory stock is not a simple decision, as one must consider all functions of inventory in the decision making process.

 

  • The Forms of Inventory
    • Raw Materials – stocks of the basic material inputs into the organization’s manufacturing process.
    • Work-In Progress – As labor and other materials are added to the raw material inputs, they are transformed into work-in-progress inventory.
    • Finished Goods – When the total production transformation process is complete, work-in-progress goods are made into finished goods.
    • MRO – inventory used to for maintenance and repair parts.
    • Resale Items – items used for resale to the public or industrial customers.
  • Inventory Function and Form Framework – Given the five types and functions of inventory, there can be up to 25 types of inventory in an organization.  As we discussed in the strategic cost phase of the course, one must acutely manage inventory to free up cash in the organization, some that the firm can maintain its financial health.  The behavior of inventories is a direct result of diverse policies and decisions within an organization.  The best way to manage inventory is to align the diverse interest with corporate goals so that all functional areas of the business are focused on the financial health of the organization, and not just inventory management.