The Philippine Accounting Standards (PAS) No.

2 defines inventories as “Inventories are

assets which are held for sale in the ordinary
course of business, in the process of
production for such sale or in the form of
materials or supplies to be consumed in the
production process or in the rendering of
services”.
1. Raw materials inventory. Consist of basic
materials purchased from other firms to be
used in the firm’s production operations.
2. Work in Process Inventory. Consist of
partially finished goods requiring additional
work before they become finished goods.
3. Finished goods inventory. Consist of goods in
which the production has been completed but
that are not yet sold.
4. Supplies. These are materials regularly used
by the company but does not form part of the
finished goods they are selling.
Firms must achieve optimal level of inventory to increase
shareholder value.

Minimize investment in inventory without causing

production disruptions

The smaller the level of inventory, the higher the

inventory turnover will be.

Smaller inventory levels also reduce the firm’s short-term

financing requirements.
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1. Decoupling Inventory
2. Storing Resources
3. Irregular Supply and Demand.
4. Quantity Discounts.
5. Avoiding Stock-outs and
Shortages.
 Economic Order Quantity Model: used in
determining the optimal order quantity for an
inventory item.

EOQ considers operating and financial costs.

• Order costs: fixed costs per amount

of order
Key costs • Carrying costs: variable cost per unit
of holding an item in inventory for a
specified period of time
• Total cost: the sum of the order costs
and carrying costs
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 Because the order costs decline and the carrying costs rise as the order
quantity increases in size, the total of the two costs tends to be U-shaped.
The order quantity for which the total cost is minimized is the economic
order quantity (EOQ). 7
  Let S = inventory usage per period (typically on year)
O = order cost per order
C = carrying cost per unit per period
Q = order quantity in units
 Order cost = cost per order x number of orders
= O x S/Q
 Assuming that inventory is used at a constant rate,
carrying cost = C x average inventory = C x Q/2
 Total cost = (O x S/Q) + (C x Q/2)
 EOQ, the order quantity that minimizes total cost:

2SO
EOQ 
C
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 • Assumption: constant rate of usage and
Reorder Points constant time of receipt of materials from
suppliers.

Reorder point = lead time in days x daily usage.

• Garrison Industries uses about 44 units/day (16,000 units/365 days)

• It takes 4 days to place and receive an order.

Reorder point = 4 days x 44 units = 176 units

Garrison maintains safety stock to prevent stock-outs if

faster-than-anticipated usage or delayed orders.
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 • Computerized system to control the flow
of inventory within the production process
Material • Use a master schedule to coordinate
requirements resources flows
planning (MRP) • Manufacturing resource planning II (MRP II)
integrates data from many departments to
generate and coordinate production plans.

• System to ensure that materials arrive

Just-in-time exactly when they are needed for
production.
systems (JIT)
• Vendors play a strategic role in insuring
successful JIT.

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