Introduction
When one compiles a list of assets or any form of items for formal purposes then he is said to be making an inventory. It involves various activities which include: recording of items, time and costs involved, the management of these items, forecasting the profitability, and physical inventory. This process of inventory in most times involves huge investments in assets for most businesses as well as no investments or very low investments to other companies, which are yet to recognize the importance. As markets become more competitive it has become the role of the businessmen or the company management to know which among their products flow faster than the others as well as establishing products that are more profitable and this can only be done through inventory taking and thus it is an important activity to any company.
Critical Aspects of Carrying Cost of Inventory to a Company
There exist very critical aspects of carrying cost of inventory to a company and one such aspect is that it helps the company in making business sound decisions (Stock & Lambert, 2000). For example, during the introduction of a new product in the market, the evaluation and determination of the introductory price to the market, the discounts to be given out and the decision whether to make your own products or buy from other manufacturers so as to determine the profitability of the product are all determined through a careful and accurate inventory making process.
The other critical factor in carrying the cost of inventory of a company is that all inventory investments influence the profit levels of the company thus it is worthy noting that while inventory involves a significant portion of the company’s assets, too much of it can lower the company’s profit in several ways. The first way is out of pocket costs associated with inventory holding, for example, funding for taxes and insurance: If the company did not have the money to finance taxes and insurance expenses, it means that they were funded through borrowed funds and this reduced the operating capital of the business and thus lowering the productivity. Secondly, if the total assets are increased by the amount of inventory investment this reduces the asset turn-over thus decreasing the profitability of the company as well (Stock & Lambert, 2000).
Carrying costs of inventory to a company is an important aspect also due to the fact that it enables the company to understand how the inventories contributed to additional costs, and how such costs can be minimized if possible. The costs of carrying inventory depends with the quality of inventory stored and according to Stock & Lambert (2000) “It represents one of the highest costs of logistics” (193).
Thus, this calls for accurate assessments of the costs involved during inventory taking if the company is ever to make sound business decisions and reach to correct trade-offs within the company and the supply chain. It should be the goal of each and every company to calculate the logistics costs involved and try to minimize them as little as possible as this would result in increased rate of returns.
Finally, another importance of carrying costs of inventory to the company is to show how inventory carrying costs differ according to a firm’s position in the supply chain. It is very critical especially for the company management not to compare itself with other companies without knowing the real position they occupy in the market. This is an important factor and can be explained by the fact that even if two companies were similar in the ways they manufacture and distribute their products, the capital available for the two companies is different and thus one may be favored by its huge capital to produce its products at low costs thereby achieving economies of scale faster than the other thus making profits faster and hence the requirement of different inventory strategies.
Reference
Stock, J. R., & Lambert, M. D. (2000). Strategic Logistics Management, 4th Ed. New York: McGraw-Hill Irwin.