Inventory & types of Inventory

Inventory is the accounting of items, component parts and raw materials that a
company either uses in production or sells.
• Raw Materials:
Raw materials are the materials a company uses to create and finish products. When
the product is completed, the raw materials are typically unrecognizable from their
original form, such as oil used to create shampoo.
• Components:
Components are similar to raw materials in that they are 
the materials a company uses to create and finish products, except that they remain
recognizable when the product is completed, such as a screw.
• Work In Progress (WIP):
WIP inventory refers to items in production and includes raw materials or
components, labor, overhead and even packing materials.
• Finished Goods:
Finished goods are items that are ready to sell.
• Maintenance, Repair and Operations (MRO) Goods:
MRO is inventory — often in the form of supplies — that supports making a product
or the maintenance of a business.
 .Packing and Packaging Materials:

there are three types of packing materials. Primary packing protects the product and
makes it usable. Secondary packing is the packaging of the finished good and can
include labels or SKU information. Tertiary packing is bulk packaging for transport.
• Safety Stock and Anticipation Stock:
Safety stock is the extra inventory a company buys and stores to cover unexpected
events. Safety stock has carrying costs, but it supports customer satisfaction.
Similarly, anticipation stock comprises of raw materials or finished items that a
business purchases based on sales and production trends. If a raw material’s price
is rising or peak sales time is approaching, a business may purchase safety stock.
• Decoupling Inventory:
Decoupling inventory is the term used for extra items or WIP kept at each
production line station to prevent work stoppages. Whereas all companies may
have safety stock, decoupling inventory is useful if parts of the line work at different
speeds and only applies to companies that manufacture goods.
• Cycle Inventory:
Companies order cycle inventory in lots to get the right amount of stock for the
lowest storage cost
 Types of inventory

Transit Inventory:
Also known as pipeline inventory, transit
inventory is stock that’s moving between the
manufacturer, warehouses and distribution
centers. Transit inventory may take weeks to
move between facilities.
Excess Inventory:
Also known as obsolete inventory, excess
inventory is unsold or unused goods or raw
materials that a company doesn’t expect to
use or sell, but must still pay to store.
 Inventory control

Inventory control is an activity of checking a shop’s stock and to

maintain the inventory at desired levels, keeping in view the best
economic interest of an organization. In simple words, inventory
control is a process of ensuring that a business maintains the
adequate quantity of stock to meet the forecasted demand with
minimum holding cost.
Advantages of inventory control
• Maintaining an optimum level of inventories
• Helps in laying the procurement process considering the wait-
time, lead-time etc.
• Periodical inspection of inventories
• Guides us on storing and issuance of inventories from godowns.
• A systematic record of movement of materials.
• It helps to lay out plans for physical verification of inventories.
 Objectives of inventory control

• Material Availability.
• Better Level of Customer Service.
• Keeping Wastage and Losses to a Minimum.
• Maintaining Sufficient Stock.
• Cost-Effective Storage.
• Cost Value of Inventories Can Be Reduced.
• Optimizing Product Sales.
Inventory control methods:
JUST IN TIME
Just-In-Time (JIT) is a purchasing and inventory control method in which
materials are obtained just-in-time for production to provide finished
goods just-in-time for sale. JIT is a demand-pull system. Demand for
customer output (not plans for using input resources) triggers
production. Production activities are “pulled” not “pushed” into action.
 Objectives of JIT

(i) Zero inventory

(ii) Zero breakdowns
(iii) 100% on time delivery service
(iv) Elimination of non-value added activities
(v) Zero defects.
Just-in-time advantages and disadvantages
The main advantages of JIT are that it can improve production efficiency and competitiveness.
It does this by:
• preventing over-production
• minimising waiting times and transport costs
• saving resources by streamlining your production systems
• reducing the capital you have tied up in stock
• dispensing with the need for inventory operations
• decreasing product defects
Disadvantages:
• Requires high degree of delegation
• Requires change in philosophy and culture
• Vulnerability in breakdown
• Work only in regular products 
• Requires highly reliable n flexible suppliers
• Requires a super coordination between workforce and managers
 VMI

Vendor Managed Inventory (VMI) is a business model where the buyer of a product provides information to a vendor of that
product and the vendor takes full responsibility for maintaining an agreed inventory of the material, usually at the buyer's
consumption location.
Advantages of Vendor Managed Inventory
• There are a number of benefits to vendor managed inventory. Here are some to consider:
• Improved efficiency. Having too much inventory can be costly and take up precious real estate on your shelves, while not
enough inventory can cost you sales and delay customer orders. Having the right balance is important not only for your
budget, but for your shelf space, and your customer satisfaction. What’s more, a VMI system may handle it for you by
generating purchase orders automatically, meaning there is less potential for data entry errors.
• Cost reduction. Having to carry extra stock can be expensive, while inadvertently running out can cause disruptions and lost
sales. With a vendor managed inventory, there will be fewer orders, no more expensive “rush” orders, and you won't have
to worry about returning overstocks. Your staff also can focus on other tasks, so you can maximize productivity.
• Reduced complexity. Working with a VMI partner to handle your inventory means not having to deal with multiple vendors.
With all of that back and forth removed, and a predictable and reliable inventory delivery schedule, it’s fewer details to
worry about.
• Improved data insights. As the vendor and business relationship grows, the supplier can anticipate demand and make data-
driven decisions to handle seasonal or market trends.
Disadvantages
• Loss of control. Giving over access to your data to a third party can be uncomfortable for some businesses. You might not
want your inventory to be controlled by an outsider, especially if you’re unsure of that vendor’s ability to handle your
unique needs. Plus, you may have reservations about handing over your data because of security concerns.
• Limited options. Once you go with a VMI partner, it may cause a big disruption to that supply chain should you become
unsatisfied with their service. Perhaps you may find other suppliers that are more cost-effective or have better products –
but being in a VMI relationship might dissuade you from making a change.
• Less agile market responsiveness. If you feel that your expertise regarding your business’ demand fluctuations is your
strong suit, going the VMI route might not be the best option for you. A VMI supplier will work with your data insights, but
those might not accurately reflect your sales forecast or your anticipated, sometimes unpredictable, market shifts
 ABC Analysis

ABC analysis is an inventory management technique that

determines the value of inventory items based on their
importance to the business. ABC ranks items on demand, cost
and risk data, and inventory mangers group items into classes
based on those criteria. This helps business leaders
understand which products or services are most critical to the
financial success of their organization.
• Therefore, most businesses have a small number of “A” items,
a slightly larger group of B products and a big group of C
goods, a category that that defines the majority of items.
Use this formula for ABC inventory analysis:
• (Annual number of items sold) x (Cost per item) = (Annual
usage value per product)
 ABC Analysis

• A items: This is your inventory with the highest annual consumption value. It should be your highest priority and rarely, if ever, a 
stockout.
• B items: Inventory that sells regularly but not nearly as much as A items. Often inventory that costs more to hold than A items.
• C items: This is the rest of your inventory that doesn’t sell much, has the lowest inventory value, and makes up the bulk of your
inventory cost.
• Inventory categorization is essential with physical products because it protects your profit margins and prevents write-offs and losses
for spoiled inventory. It is also the first step in reducing obsolete inventory, supply chain optimization, increasing prices, and forecasting
demand.
• How to Perform ABC Analysis
• A thorough ABC analysis begins with identifying the objective you’re trying to reach. Once you have that, collect the necessary
information to categorize the items. Once the classes are in place, closely track and make decisions based on the resulting data.
• Here’s how to perform an ABC analysis step-by-step:
• Identify the Objective: An ABC analysis can help you meet one of two targets: lower procurement costs or raise cash flow by optimizing
inventory levels of the right items based on customer sales or production.
• Collect Data: The most common data to collect is the annual spend on each item. This data is in raw purchase dollars. If it’s easy to
calculate, you can gather the weighted cost, including gross profit margin, ordering and carrying cost data.
• Sort by Decreasing Order of Impact: Use the ABC analysis formula to rank each inventory item’s order by cost — from highest to lowest
impact.
• Calculate the Sales Impact: For each inventory item, calculate its impact on sales as a percentage by dividing the annual item cost by
the aggregated total of all items spent. This number is the percent, or fraction, that you will use to compare items in the list. Here’s the
formula:% Impact = (annual item cost) / (aggregated total of all items spent) x 100
• Sort Items into Buy Classes: Once you define the classes, work on contract renegotiation, vendor consolidation, shifting strategic
sourcing methodology or implementing e-procurement. Making changes in these areas can provide significant savings or ensure the in-
stock availability of Class A items. Take a holistic view rather than being strict about the 80/20 rule.
• Analyze Classes: Once categories and strategic cost management are defined, schedule reviews to monitor the success or failure of
decisions.
 ABC benefits

ABC Analysis Benefits

• A long list of benefits can result from applying ABC analysis to inventory management, including:
• Increased Inventory Optimization: The analysis identifies the products that are in demand. A company can then use its
precious warehouse space to adequately stock those goods and maintain lower stock levels for Class B or C items.
• Improved Inventory Forecasting: Monitoring and collecting data about products that have high customer demand can
increase the accuracy of sales forecasting. Managers can use this information to set inventory levels and prices to increase
overall revenue for the company.
• Better Pricing: A surge in sales for a specific item implies demand is increasing and a price increase may be reasonable, which
improves profitability.
• Informed Supplier Negotiations: Since companies earn 70% to 80% of their revenue on Class A items, it makes sense to
negotiate better terms with suppliers for those items. If the supplier will not agree to lower costs, try negotiating post-
purchase services, down payment reductions, free shipping or other cost savings.
• Strategic Resource Allocation: ABC analysis is a way to continuously evaluate resource allocation to ensure that Class A items
align with customer demand. When demand lowers, reclassify the item to make better use of personnel, time and space for
the new Class A products.
• Better Customer Service: Service levels depend on many factors, like quantity sold, item cost and profit margins. Once you
determine the most profitable items, offer higher service levels for those items.
• Better Product Life Cycle Management: Insights into where a product is in its life cycle (launch, growth, maturity or decline)
are critical for forecasting demand and stocking inventory levels appropriately.
• Control Over High-Cost Items: Class A inventory is closely tied to a company’s success. Prioritize monitoring demand and
maintaining healthy stock levels, so there’s always enough of the key products on hand.
• Sensible Stock Turnover Rate: Maintain the stock turnover rate at appropriate levels through methodical inventory control and
data capture.
• Reduced Storage Expenses: By carrying the correct proportion of stock based on A, B or C classes, you can reduce the
inventory carrying costs that come with holding excess inventory.
• Simplified Supply Chain Management: Use an ABC analysis of inventory data to determine if it’s time to consolidate suppliers
or shift to a single source to reduce carrying costs and simplify operations.
 Disadvantages
• Parameter Instability: ABC analysis often results in managers assigning up to 50% of items to a new category every quarter or year. Often,
companies are not aware of the changes until there is a problem with demand, and the need to reassess may take up valuable time and
jeopardize customer satisfaction.
• Limited Pattern Consideration: The standard ABC method will not account for factors like new product introductions or product seasonality. For
example, a new product may have low sales volume because it has no buying history. ABC analysis has a somewhat static perspective on
demand and will generate inventory inefficiencies whenever demand is shifting or unclear.
• Low Information Extraction: ABC class information may not provide all the statistical data or detail needed to make informed, strategic
management decisions.
• High Resource Consumption: Giving disproportionate weight to trivial issues is known as bikeshedding, which can be an unfortunate
consequence of ABC analysis. Since ABC analysis is easy to grasp, staff may inject their opinions or request their own variants making ABC
analysis a resource-consuming process rather than a time-saving tool.
• Value Blindness: ABC analysis ascribes product importance based on revenue or frequency of use, but some items may not hold to this
paradigm. For example, a retail display item may rarely sell but may attract a lot of customers (who will buy other products) based on its novelty.
In aerospace, a specific part for a plane may not be used often and have little market value, but it may be a fundamental safety function.
• System Incompatibility: ABC inventory analysis conflicts with traditional costing systems and is out of compliance with generally accepted
accounting principles (GAAP) requirements. If you must run multiple costing systems, labor costs will rise alongside inefficiency.
• Undersupply or Oversupply Issues: One ABC analysis disadvantage is it looks at dollar-based values, rather than the volume that cycles through
inventory, so there is a risk of running out of Class B or C items. The opposite can occur, too. You may have excess low-class items that
accumulate in inventory if you reorder them without regular reviews.
• Loss Risk: Just because B and C items do not have as high a value as Class A products does not mean they no value. One of the limitations of ABC
analysis is that excess stocks are always in jeopardy of obsolescence or damage. Therefore, the inventory that habitually goes uncounted or
unmonitored may be subject to theft.
• Mandatory Standardization: The ABC method is only successful if every item is subject to the standardization of materials, which includes how
they are named, stored, and consistently rated and monitored.
• Arbitrary Categorization: Without preset boundaries or agreed-upon standards for each category, classifying goods depends on the manager's
professional judgment. So this can be a relatively subjective process.
• Business Limitations: ABC analysis is not useful for companies that have an equable annual consumption value of inventory items by type. For
instance, a company that sells the same version of an item like candy, nails or socks, may not be able to sort stock based on the Pareto Principle.
• High Resource Consumption: Companies with a significant number of inventory items will have to hire additional staff or buy special equipment
to control inventory using ABC categorization.
 FSN Analysis

FSN Analysis is an inventory management technique that is based on the rate of

consumption of spares and goods in an organization. This analysis divides the
inventory into three categories based on their speed or rate of utilization, their
consumption rate, and average stay. FSN stands for Fast-moving, Slow-moving,
and Non-moving.
Fast-moving inventory
Fast-moving inventory comprises inventory that moves in and out of stock fastest
and most often. Therefore these goods have the highest replenishment rate.
Items in this category generally comprise less than 20% of the total inventory.
• Slow-moving inventory
Items in this category move slower, so their replenishment is also slower. This
category comprises around 35% of the total inventory in an organization.
Non-moving inventory
• The last category of this analysis is the least moving portion of the inventory and
also includes the dead stock. Replenishment of such inventory may or may not
occur after utilization. This category can go as high as 55%-60% of the total
inventory in organizations.
 FSN

• FSN Analysis and calculation

FSN analysis makes use of a few parameters to arrive at the three categories of goods in the
inventory. Since it is a scientific analysis and not based on the judgment of a few
individuals, formulas are used to arrive at figures which tell us if a good belongs to a fast-
moving or slow-moving, or non-moving category.
• Average Stay: Number of cumulative days inventory is held/ (Opening Balance of the good +
Number of goods received during the period)
• Consumption Rate:  Total number of goods issued/ Total period
• The next step is to calculate the Cumulative average stay and Cumulative consumption rate.
• Cumulative average stay: Average stay of the item + Average stay of all goods having an
average stay more than itself
• Cumulative consumption rate: Consumption rate of the item + Consumption rate of all
goods that are consumed faster
• Percentage average stay: (Cumulative average stay of the item/ Cumulative average stay of
all goods) x 100
• Percentage consumption rate: (Cumulative consumption rate of the item/ Cumulative
consumption rate of all goods) x 100
 FSN
Interpretation
• As per Cumulative average stay, FSN analysis goods have three categories:
• Fast-moving goods comprise of 10% or lesser of the average cumulative stay calculated.
• Slow-moving goods comprise of 20% or lesser of the average cumulative stay calculated.
• Non-moving goods comprise of 70% or lesser of the average cumulative stay calculated.
• Therefore as per the classification, fast-moving goods stay only 10% or lesser of the
cumulative average stay of the total inventory. In other words, they have the quickest
movement time of all the inventory.
• As per the cumulative consumption rate, the three categories will be:
• Goods with a 70% or less consumption rate are fast-moving.
• Goods with 20% of the cumulative consumption rate are slow-moving.
• Items with 10% or lesser of the cumulative consumption rate are non-moving.
• Therefore, again we see that as per the classification, goods that are consumed the
quickest are the fast-moving goods. Those with the lowest consumption rates are non-
moving goods.
• Both the parameters, i.e., the average stay of goods in the inventory and consumption
rate of that product, should be simultaneously calculated and used. It helps to arrive at
accurate FSN analysis results, and inventory management decisions can be effectively
taken based on it.
 FSN benefits

• It helps to identify the “deadstock.” The management needs to invest only as

per the actual stay and consumption of that product and not make extra
purchases. Also, it can identify which item is not moving at all and dispose of
it at discounted rates.
• FSN analysis also helps in space management effectively. Slow-moving and
non-moving categories of goods can be bought only in limited quantities to
avoid jamming of storage space. Also, fast-moving goods can be stored at
locations near to entry and exit points of godowns or warehouses that have
clear access all the time. It would help in saving time and labor.
• This analysis can be an excellent buying guide in the case of seasonal
products. The management will have a clear picture of the time of the year
when a product turns into a fast-moving one from a slow or non-moving
category. As a result, it can time its purchase accordingly.
• FSN analysis helps to effectively allocate monetary resources to items that
are fast-moving and beneficial for the organization. As a result, it helps to
avoid blocking money in the slow-moving or non-moving category of goods.