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Value Chain Management: Inventory Management

Introduction

Today, business operations have become too complex. Everyday there are new changes in methods of operation and management. The interrelationship between competition, consumers and convergence in business has resulted to great challenges in business management across the world. The level of sensitivity of the economy to external environment together with the rapid changes in globalization has made it hard for business operators to predict the trend to be taken in future. Increase in competition has resulted in business organizations opting to implement changes in their products and services. The only remaining option for business organizations to cope with all these challenges is coming up with viable mechanisms of managing their value chains. The meaning of the term value also varies with customer demands. One of the major actions being taken by organizations in bid to improve their value chain management is introduction of inventory management (Chay 2006, para. 1).

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Inventory refers to a list of goods or raw materials available within a specific business. Managing the inventory entails accounting for, and storing the good or raw materials owned by a business. This is required in different locations within a business or in many locations for the case of networked business operations in order to help in reducing delays experienced as goods or raw materials is transported from one location to another. They also facilitate in ensuring that an organization does not run out of raw materials or goods thus ensuring a smooth running of the business all the time. Inventory management is involved with managing the replenishment lead time. This is the period taken from when goods are ordered for replenishment to the time when they are received. Managing carrying cost of the inventory is also found in the scope of inventory management as well as inventory forecasting, visibility and valuation (Chopra & Sodhi 2004, p. 55).

A successful inventory management ensures that there is a balance between cost incurred in its management and the benefits accrued from the inventory. Most of small business operators do not understand the various costs attributed to inventory management. Some of these include storage cost, tax, insurance costs and money held by goods stored. Problems encountered when trying to balance the cost incurred in inventory management include; problem of ensuring that there is a wide assortment of goods and at the same time ensuring that fast moving goods are not reduced. Making sure that there is a wide assortment of goods helps in meeting the varied customer needs thus increasing business profit. Insisting on providing widely assorted goods would lead to reduction in the volume of fast moving goods. This in return would affect business turnover leading to reduction in profit. Striking a balance between these two opposing forces becomes a problem in inventory management (Indian Institute of Materials Management 2007, para. 1).

Business obtain low purchase price if they buy products in large volume. However, this may be a problem to the business if the products happen to move slowly. The problem in predicting buying behavior of the customers makes it hard for business organizations to know the actual amount of inventory to purchase. For smooth running of business operations, there is need for every business to ensure that it has enough inventories on hand. Business operators make their inventory orders in bulk to ensure that they have enough products all the time in their business. However, there reaches a time when new products are introduced into the market substituting the old. This leads to the old product become obsolete. Cases of products becoming obsolete while still in business inventories, greatly affects profit margin of business. Ordering for adequate inventory on hand that will not reach its obsolete period before leaving the business is a major problem to business operators (Chopra & Sodhi 2004, pp. 60-61).

Benefits of inventory management

In every business operation, inventory management involves tracking, handling and managing goods or raw materials held by a business. Managing business inventory effectively helps the business in gaining a competitive advantage in the market. Inventory management helps in ensuring that business has a wide variety of products. This meets various customer needs leading to their satisfaction. As a result, the business sees customers returning for another purchase. Eventually, they become loyal to the business helping it overcome competition. Inventory management helps in improving the profit margin of the business. An effective inventory management helps the business to strike a balance in inventory on hand. This helps in not making a lot of purchase that would be costly to store. It also ensures that the purchased stock does not become obsolete while in shelves (Brooame 1999, para. 4).

Good inventory management helps business operators in tracking sales pattern of various items. In return, it helps them in identifying products that contributes to the profit margin within the business as well as those with high turnover rate. This assists them when it comes to placing orders for products from their suppliers. They are able to order for only those goods they know that they do well in their business and drop those that perform poorly paving room for new products to be introduced in the business. Through inventory management, it is possible to ascertain the performance of the business. This is because business operator understands the amount of inventory in the business, amount of inventory not paid for by customers as well as the amount of inventory his or her business has not paid for. This helps in setting price for the products to increase profit (Cooper & Slagmulder 2004, p. 48).

Strategies for effective inventory management

Inventory mainly makes the large part of the business assets. Businesses that conduct their operations through use of inventories, requires having an effective inventory management system. This is because poorly managed inventory can lead to business running at a loss consequently leading to its closure. In a competitive environment such as the one experienced in retail business, the aim of the retail operators is to increase profit margin and at the same time reduce inventory cost. This implies that effective inventory management in a retail business can greatly impact on its performance. Some of the inventory management strategies that can be adopted by these businesses to ensure that their businesses make profit include; ascertaining the value of the inventory. Accurate determination of inventory level facilitates in ascertaining the financial position as well as business performance. There are instances where systems used in business running are able to reconcile the value of inventory as business continues with its operations (Algara & Charen 2008, para. 2). This makes it easy for operators to know the level of their inventory regularly. However, there are instances where retailers are required to conduct physical count of goods to accurately know the level of their inventory. Despite there being numerous expenses incurred during daily running of business activities, understanding the value of business inventory helps in determining pricing mechanisms and profit. Without proper inventory management system, a retail operator can review his or her inventory account balance. However, this method can not cover for goods already in the inventory but not reflected in available records or goods that were sold and not recorded. This underlines the need for an inventory management system that is capable of accounting for all inventory transactions conducted within the business.

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Having a clear understanding of valuation methods used in inventory is another strategy required for effective inventory management. The main reason for inventory management is to ensure that your business runs at a profit. Having good understanding of the valuation method you are using in inventory management can significantly impact on the profit margin made by the business. First in First Out (FIFO), Standard Cost and Weighted Average includes some of the methods used in inventory valuation. Assumptions made when applying FIFO technique are that the first item to be purchased will be first to be sold. This happens to retails businesses where items purchased first, are placed in front while those purchased later are placed behind on shelves (Algara & Charen 2008, para. 3). Even if the actual trend of the inventory will not follow this trend, the inventory cost and valuation follows the method. The cost recorded on sales is assumed to be the cost of the oldest items. Valuation therefore depends on the value of the most recent cost. This leads to increase in profit and tax in the business and at the same time reduction in item cost. Standard cost on the other hand, uses a fixed cost recorded physically for every item and any differentiation in cost is accounted for in a separate account. This allows a retailer to have control on the pricing technique being used thus helping to get rid of unwanted valuation changes. Being able to predict effects of the valuation method being used can lead to one using the most productive valuation method thus improving profit of the business.

Knowing the amount of cash owned by the business facilitates in effectively managing the inventory. Since inventory is a liquid asset, it significantly affects cash balance in a business. This makes many business organizations ensure that they are cautious in the way they monitor and track their inventories. Businesses that entirely depend on bank statement to establish their performance are likely to incur heavy losses if they happen to maintain huge amount of inventories. There might arise a situation where bank statement shows that a business has made a lot of sales but this is not the case in the actual ground. Business may make its sales on credit and this not be accounted for in the bank statement. A business may also acquire goods on credit which are not accounted for in the bank statement. From the banks’ statement, the business might appear to be making a lot of profit only to realize later that it is running at a loss. Good inventory management system can help in tracking cash flow in the business thus reducing chances of a business facing cash hardships (Algara & Charen 2008, para. 5). One method of managing this problem would be introducing a purchase order that tracks any inventory purchase order made by the business. This can then be use in determining the amount of money a business is expected to pay for the goods. This can help in knowing when good are received in the business and placed in the inventory. Having effective methods of inventory tracking facilitate in knowing the amount of cash available in the business as well as that owed by creditors.

Understanding the profit margin of the business can lead to effective management of business inventory. In most cases, it is possible for business operators to predict the profit made by their businesses. However, identifying some of the areas where the profit is accrued from becomes a problem. Basing profit on inventory cost helps business operators to track and manage inventory cost. It is hard for business organizations having a wide variety of inventories to understand the contribution of every product in the profit margin. Turnover of different products can significantly affect the profit margin of the business. In case where a business operator has two products and wishes to drop one of the product to allow for introduction of another new product, there is need for the business operator to clearly understand the contribution made by each product in the profit margin. Making judgment based on gross profit might lead to one dropping the more profitable product. Using the rate of turnover per product can help in determining the best product to drop. Despite a product having low gross profit, it might have a high turnover rate. The size and space occupied by each item also contributes to inventory cost. In areas where a business has limited space, it may opt to keep products that occupy less space despite them having less profit (Cougar Mountain 2009, para. 3).

How consumers influence inventory management

Looking for ways to meet the ever changing consumer demands is one of the factors that are leading to significant changes in inventory management. Every day customer demand is evolving due to emergence of substitute products for some goods as well as quality products. Every now and then consumers are coming up with new buying trends. This has made it hard for business operators to predict their future purchasing trend thus making it hard for them to manage their inventories. To curb this, retailers are opting to run their businesses based on consumer interests and behaviors. There are numerous ways in which consumers affect inventory management activities within business world. Some of these ways are consumer needs. There are various products that are generally preferred by consumers. These goods may make a consumer travel far and wide in search of the product. As a result, business operators ensure that they have assorted their inventories in a manner that they ensure that the most preferred products are always available in their inventories. This involves managing their inventories based on the buying pattern of the customers. If they predict that buying trend of one product is going to increase, retailers ensure that they have stocked a lot of the product in their inventories (Singh & Parpia 2010, para. 7).

Desire by customers to have their shopping experience simplified is another factor that affects inventory management. Today’s budget-conscious, hasty and environment friendly customers prefer visiting one stop shops where they are capable of conducting all their shopping at once without having to shift from one shop to another. This helps in saving time, money as well as fuel used in traveling from shop to shop in search of products. For retailers to win more customers they need to manage their inventories in a manner that they meet all the needs of their customers. As a result, inventories are altered to ensure that they contain all the required products. Products are placed at strategic places to make it possible for customers to access them whenever they require them. For instance, retailers who deal in women clothes ensures that their inventories have stocked skirts, shoes, blouses and other women products to ensure that their customers do not go to other shops in search of these products (Tompkins Associates 2009, para. 4-7). The rapid change in consumer preference makes inventory managers to focus more on how their customers prefer to buy products in order to ensure that they have included everything in their inventories. Changes in customer needs also affect inventory management practice. The current economic environment is leading to changes in consumer needs every day. This has made use of previous buying trend to predict consumer needs an ineffective method. As consumer needs changes, retailers need to liaise with their suppliers in order to ensure that they have acquired the required products. For many years retailers have been using their past sales information in determining the products to include in their inventory. This data however, has failed to respond effectively to the changing needs of the customers. There have been cases where retailers have found themselves in shortage of some of the urgently required products. As a result, retailers now perform analysis on consumer purchasing behavior in order to determine what to be included in their inventory and what to remove from their inventory.

For effective management of the inventory information must be recorded and stored regarding customer purchasing behavior as well as orders made by customers. This information plays a vital role in predicting the amount of goods to be purchased by the retailers. There arises a case where customers make orders and later realize that they are not in a position to pay for the amount orders. This leads to either the entire order being canceled or part of the order being canceled. This cancellation leads to distortion of information stored in the inventory system. In addition, it leads to increase in inventory management cost as some cancellation may be done late when good have already been received in the inventory. Clearing such products from the inventory becomes hard. Products take long in the inventory before being sold leading high inventory management cost (Cheung & Zhang 1998, para. 6).

How business processes affect inventory management

Various processes conducted in business organizations determine the type of products to be in the business inventory. Alterations made in business in bid to meet the ever changing customer needs leads to changes in inventory management. Some of these processes include product assortment and product replenishment. In an attempt to improve business profit, business operators introduce assorted products in their businesses. This leads to introduction of new products as well as elimination of some products from the business inventory. Through the help of business intelligence, retailers are able to analyze buying pattern for various products leading to them increasing or reducing the volume of these products in the inventory (Kieso, Warfield & Weygandt 2007, para. 4). Through performance of pre-season analysis, business operators are able to determine the amount of stock per product to include in their next order. They are also able to determine the performance of each product in the business thus making informed decision on the products to include or exclude in the inventory.

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The rate of sales in a business affects the manner in which a business inventory is managed. The main aim of a business is stock products that will ensure it makes the highest profit possible. As a result, business operators keep on reviewing their inventory records to determine stock with the highest gross profit as well as turnover rate. When they identify that certain goods have a high turnover rate, alterations are made in the inventory to ensure that these products are availed in plenty (Merchants OS 2010, para. 5). This helps in making sure that the products do not go out of stock. There are some goods that take long before they are sold. Such goods may become obsolete while still in store or be substituted with other products before they are disposed by a business. In such instances, business operators alter their purchase order to ensure that their inventory contains an amount of these products that will not get obsolete before leaving their shops. For businesses that deal with distribution of products, their inventory depends on the available space and the volume they can manage to distribute at a minimal cost. Those with adequate space can make their purchase in bulk before distributing.

Inventory management in retail stores

Inventory management is addressed in various fields of business operations such as in wholesale stores, warehouses and retail stores. One of the major problem that hinders growth in retail stores in the inability to effectively manage their inventories. Retail inventory management involves tracking stock in retail business. This is from when stock is ordered; shipped, received, stored till when it leaves the retail shop. This can help in sustaining business profit and curbing theft and loss of stock. There is need for retail stores to have enough space to store a wide number of products as well as varieties (Brinlee 2009, para. 4). This is in order to exploit the opportunity of winning potential customers who might shop elsewhere if they found their stores not stocking all the products they require. Retail inventories appear slightly different from other inventories due to variety of products found in retail stores. An effective inventory management system for retail shops should be able to track and manage the entire inventory in the store. It should be able to give an account of every item in the store. The system should be able to reflect how every item is performing in the store. This will help retail operators in making informed decisions before making their next order. It also helps in knowing the amount of available stock in the retail hence helping retailers in determining their profit and setting their prices.

For effective management of inventories in retail stores, retailers need to use some form of computer software. For small retail businesses, operators can manually manage their inventories. Some of the systems used in managing inventories in retail business include barcodes and readers system that scan the bar code of every product when entering and leaving the store, point-of-sale-terminals where products leaving the store are recorded and job costing and inventory system which is an automatic system that updates inventory levels in stores that have computerized their systems. Various activities take place when managing retail inventories. As soon as an item is sold, it is immediately removed from the system (Lejeune & Yakova 2005, p. 87). The same happens when an item is received into the store. This ensures that the store have accurate information of the available stock. In case of computerized systems, physical count of stock in the store is regularly conducted to reconcile the value in the system with the actual value of stock in the store. Sales report is reviewed regularly to determine products that are not selling in the store. Products that take long before selling are discounted to help in disposing them and their next order volume reduced.

Conclusion

Success of any business organization heavily depends on the ability to monitor and track its inventory. Proper inventory management helps the business in striking a balance between the cost incurred in stock control and benefits accrued from the stock. This is because; information gathered from inventory records allows business operators to set favorable prices for their products. Inventory records also help in predicting the buying pattern of the customers making it possible for business operators to meet all consumer needs for their customers. For good management of inventory, retail stores need to delegate the task to specific individuals or department. This will help in getting better information on the available stock in the business and how well it sells.

Reference

Algara, R., & Charen, S. 2008. 5 Ways Business Intelligence Can Enhance Inventory Management. Web.

Brinlee, D. 2009. Retail Inventory Management. Web.

Brooame, J. 1999. The Benefits of Smart Inventory Management. Web.

Chay, S. 2006. Inventory Management – Good Practices and Benefits. Web.

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Cheung, K. L., & Zhang, A. 1998. The impact of inventory information distortion due to customer order cancellations. Web.

Chopra, S., & Sodhi, M. 2004. Managing Risk to Avoid Supply-Chain Breakdown. MIT Sloan Management Review 46 (1), pp. 53–62.

Cooper, R., & Slagmulder, R. 2004. Achieving Full-Cycle Cost Management. MIT Sloan Management Review, 46 (1), pp. 45–53.

Cougar Mountain. 2009. Inventory Management: 10 Areas that can Make or Break Your Business. Web.

Indian Institute of Materials Management. 2007. Purpose of Inventory Management. Web.

Kieso, D., Warfield, T., & Weygandt, J. 2007. Intermediate Accounting 8th Canadian Edition. Canada: John Wiley & Sons.

Lejeune, M., & Yakova, N. 2005. On Characterizing the 4 C’s in Supply Chain Management. Journal of Operations Management, 23(1), pp. 81–100.

Merchants OS. 2010. What is inventory Management? Web.

Singh, G., & Parpia, L. 2010. Customer-Centric Strategies for Assortment Management. Web.

Tompkins Associates. 2009. Inventory Management. Web.

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