Inventory control is a system which ensures the provision of the required quantity of inventories of the required quality at the required time with the minimum amount of capital investment. Thus, the main function of inventory control is to obtain the maximum inventory turnover with sufficient stock to meet all requirements.
Techniques of Inventory Control for Stock Management
The following top 7 techniques may be used to control the size of inventory in a manufacturing Concern.
1. Fixing the Maximum – Minimum Limits of Inventory
In order to have a proper check on the investment in inventory, it is necessary to fix the minimum and the maximum limits of inventory so that there should be no overstocking of materials nor storage of raw materials.
In fixing the levels of inventories, the following two factors should be Borne in mind:
- The time lag between indenting and receiving of the raw materials like Lead time.
- Rate of consumption during the Lead time.
Under this system, and order of sufficient size is placed when a minimum point in inventory is reached to bring the inventory to the maximum point.
Past experience may help the fixing of minimum and maximum points in inventories.
2. Re-ordering level of Ordering Level
It is a point If material reaches this point, Orders for fresh supplies of materials are placed with the suppliers.
The point is fixed somewhere between the maximum and minimum point in such a way that the quantity available between the minimum level and this point is sufficient to meet the requirements of production up to the time fresh supplies are received.
Reordering level may be decided in the following manner
Reordering Level = Minimum Level + (Time in acquiring the materials × Rate of consumption)
In fixing the ordering level, a danger level is also considered. It is a level at which normal issues of materials are stopped or made at specific instructions of purchase officer.
Purchase officer at this point makes the efforts to get the materials available within an earliest possible time. This level is below the minimum level of stock.
3. Economic Order Quantity(EOQ)
EOQ is an important factor in controlling the inventory. It is a quantity of inventory which can reasonably be ordered economically at a time. It is also known as ‘Standard Order Quantity’, ‘Economic Lot Size’, or Economic Ordering Quantity’.
In determining this point ordering costs and carrying costs are taken into consideration. Ordering costs are basically the costs of getting an item of inventory and it includes the cost of placing an order.
Carrying cost includes costs of storage facilities, property insurance, loss of value through physical deterioration, cost of obsolescence. Either of these two costs affects the profits of the firm adversely and management tries to balance these to costs.
The balancing Or reconciliation point is known as economic order quantity.
The quantity may be calculated with the help of following formula:
EOQ = √(2A.S./CH)
- A = Annual Quantity used in (Units).
- S = Cost of placing an order (fixed cost).
- CH = Cost of holding one unit for one year.
Economic order quantity may be well understood with the help of the following example:
Suppose, the annual demand for the product is 5000 units, the ordering cost is $20 per unit ad the holding cost is $5 per unit per annum.
The economic order quantity shall be-
CH = Cost of holding one unit for one year.
EOQ = √(2AS/CH)
EOQ = √(2×5000×20 / 5)
EOQ = √40000 or 200 Units
Thus, there should be 25 orders in a year of 200 units. At this point, the aggregate costs per year are minimum.
Economic order quantity model is, however, based on certain assumptions which do not hold true in actual life. The assumptions are:
- The firm knows fully the annual demand for materials,
- The rate of usage per year is constant, and.
- Orders for replacement of inventory are placed when inventory riches at the zero level.
4. Inventory Turnover Ratio
It is one of the techniques for exercising control over inventory. The ratio is calculated for each item of inventory with the help of following formula:
Cost of material consumed or sold during the period / Cost of average inventory held during the period
Average stock can be calculated as follows-
Opening Stock + Closing Stock / 2
Comparison of such ratio with those of the previous years will reveal the following items of inventory.
1. Slow Moving Items
These items have a low turnover ratio. These items should be kept at a minimum possible level.
2. Dormant Items
These are items with no demand. These items should be scraped to minimize losses.
3. Fast Moving Item
These items are very much in demand. Adequate Inventory of such items should be maintained to ensure uninterrupted promotion and sales.
5. Statically Inventory Control System
Statistical models are used by some firms to find out their widely spread distribution system with the help of computer etc.
It helps the management in taking inventory management decisions.
But this inventory control system is valid only if the sufficient information for cost comparison is available and the data has accurately complied, otherwise it is very difficult to find out the alternatives.
6. A.B.C. Analysis System
Under this system, a value item analysis (popularly known as ABC analysis) is prepared where there are many items in the inventory.
It attempts to relate how the inventory value is concentrated among the individual items.
Under this inventory control system, all the items in the inventory are grouped into three categories A, B, and C.
The classification is made on value usage rate and the criticality of item.
After classification as A, B, and C, they are ranked by their value. The pattern of three types may be as follows-
|Category||% of Total Quantity||% of Total Value|
Category A items are the costliest and the most important, category B items are less costly, and category C items are the least costly items.
Therefore, A category items should be given utmost attention and its level is strictly controlled.
Ordinary routine is adapted for category B items and category C items need to be devoted to minimizing expenses and effort in the task of controlling inventories.
ABC analysis saves time and energy in controlling inventory. But this technique does not take into consideration the significance of different items in the production process. (The classification is on the basis of value) and the relative scarcity of items.
7. Perpetual Inventory System
Under this system, a regular record is mentioned for each item of inventory.
In order to facilitate regular checking and two of obviating closing down of work for stock-taking, a method of recording stock balances after each receipt and issue of materials is adopted.
To ensure the accuracy of perpetual inventory system records, physical verification of stores is made by the program of continuous stock taking.
This is done by an independent internal audit staff which compares the physical quantity with the quantity recorded in the Bin card and the stores’ ledger.
The checking may be done at frequent intervals.
Discrepancies between the actual balance of stores and quantity shown by the store’s ledger may be due to any of the following reasons:
- Losses due to the inherent nature of the material concerned such as shrinkage, evaporation, etc.
- Losses because of break and the bulk issuing materials in small lots as in sawing wood, loss in pouring liquid in bottles, etc.
- Climate conditions causing deterioration like absorption of moisture, crumbling, etc.
- Small defective units example bolts and nuts.
- A clerical error like errors in posting or calculations of receipts, issue, and balances on bin cards, or on stores ledger.
- Breakage and pilferage.
- Entering transactions on the wrong Bin card or in wrong stores ledger.
The following measures are necessary to prevent discrepancies:
- Proper storage conditions should be provided. A Separate bin card should be allotted for each item of inventory.
- Responsibility of various members of staff should be fixed and be held responsible for any loss due to careless handling of stores.
- Abnormal losses should be investigated.
- All losses should be immediately recorded both in the Bin card and stores ledger.
- Movement of material should be only after proper authorization. A systematic procedure should be investigated. 22 Types of Planning – Explained (Business Management).
- The storeroom should be properly guarded to avoid pilferage.
- The inventory sheet should record the actual quantity found on physical verification, quantity recorded in Bin card and also in the stores’ ledger of finding a market for the product where the manufacturer is new and has no roots in foreign countries is all the more difficult. In this trade, special agencies known as “Indent House” or ‘Trading House’ work as an agent as well as ‘middleman‘ for the manufacturers. For the import of goods, these indent houses render valuable services.
Thus, different types of salesman serve different types of Business and render valuable services in selling.
Therefore, you know the all major Techniques of Inventory Control for Stock Management.