What is inventory management in supply chain

The supply chain new normal is being shaped by many factors today -- a seemingly never-ending pandemic, port congestions, shipping price surge, raw material shortages and altered consumer demands and even cyberattacks.

According to a survey by The Economist Intelligence Unit and GEP, two-thirds of the supply chain and procurement leaders said their enterprise suffered a 6%-20% hit on their annual revenues as the pandemic decimated markets.

Weaving resilience into supply chains has naturally became the need of the hour, taking precedence over supply chain efficiency.

A solid process of inventory management and control, revamped inventory management strategies, and technological transformation are the way forward.

Let’s begin by exploring the concept of supply chain inventory management.

What is supply chain inventory management?

Inventory refers to raw materials, goods-in-process, finished goods, or merchandise. It is one of the most valuable assets for a company dealing with tangible goods.

When faced with disruptions, companies need the ability to adapt their inventories to always match the demand. That means ensuring the goods aren’t overstocked, understocked, or delivered after substantial delays, regardless of disruptions like pandemics, cyberattacks, or natural disasters. That’s where supply chain inventory management can help.

Inventory management is the process that ensures the adequate availability of these goods across the supply chain of a company — manufacturing facilities, warehouses, and the last point of sale.

Several inventory management techniques can help companies minimize the impact of a supply chain disruption and ensure business continuity. These include the JIC (just-in-case) methodology, FIFO (first-in, first-out), the EOQ (economic order quantity) model, and the safety stock methodology, among others.

Now let’s see look at four best practices for a solid process of inventory management and control, which will improve the chances of success of your inventory management strategies.

Four ways of ensuring more efficient supply chain inventory management

1. Maintain alternative suppliers for your core business

Having alternative suppliers spread across geographies is a great way to ensure that the supply of essential goods for your business remains uninterrupted. While this may not seem extremely efficient, it certainly helps mitigate risks from black swan events.

Another step is to maintain reserve or safety stocks to prevent operations from grinding to a halt completely.

Car manufacturer Volkswagen has regional supply chains in China and Europe. When the pandemic affected Volkswagen’s supply chain in China, the company switched to its European suppliers and then switched back to China again when the pandemic shut down Europe, according to the survey report.

2. Re-evaluate your sourcing strategies and suppliers

In the survey, 44% of respondents believed their companies relied too much on suppliers from some countries. In the future, they would prefer securing suppliers from a wider range of countries, and possibly near-shore alternatives.

More businesses are evaluating sourcing strategies that involve local suppliers and greater transparency to build resilient supply chains that can be monitored more closely.

Some, like Schneider Electric, are planning to cut down their suppliers by half — from 12,000 to 5,000 by 2022-23 — to work closely with a select number of suppliers, according to the report.

3. Embrace technology and digital transformation of your supply chains

The survey reported that less than 40% of the companies have adopted digital platforms and advanced analytics, with less than a third using the cloud or IoT. That must change for inventory management to be effective.

Advanced inventory and warehouse management software can help companies tap into real-time data for better visibility and more accurate forecasting. AI and advanced analytics can help companies track crucial metrics, such as inventory turnover, gross margin, and customer order fill rate and improve overall supply chain visibility. Inventory management software helps companies understand how their goods move through their warehouses automatically.

4. Become less siloed and more collaborative as an organization

The goal of effective supply chain inventory management is to guarantee that the right goods are in the right place at the right time. Isolated departments and siloed organizational data reduce the transparency needed to ensure effective inventory management. That’s why facilitating a smoother flow of information across departments is the key.

Conclusion

As the new normal becomes more uncertain, supply chain disruptions are likely to continue growing in scale and complexity. Besides following the above steps for supply chain inventory management, make inventory management strategies an essential part of your business plan to mitigate risks, revenue losses, and ensure business resilience. 

Turn ideas into action. Talk to GEP.

GEP helps enterprise procurement and supply chain teams at hundreds of Fortune 500 and Global 2000 companies rapidly achieve more efficient, more effective operations, with greater reach, improved performance, and increased impact. To learn more about how we can help you, contact us today.

Alex Zhong
Director, Product Marketing

Alex has more than 20 years of practical experience in supply chain operations and has advised many Fortune 500 companies on their digital transformation. At GEP, he leads product marketing for the company’s AI-enabled supply chain solution. He is passionate about the role technologies play in driving supply chain excellence and business growth.

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Inventory management refers to the process of ordering, storing, using, and selling a company's inventory. This includes the management of raw materials, components, and finished products, as well as warehousing and processing of such items.

• Inventory management is the entire process of managing inventories from raw materials to finished products.
• Inventory management tries to efficiently streamline inventories to avoid both gluts and shortages.
• Two major methods for inventory management are just-in-time (JIT) and materials requirement planning (MRP).

A company's inventory is one of its most valuable assets. In retail, manufacturing, food services, and other inventory-intensive sectors, a company's inputs and finished products are the core of its business. A shortage of inventory when and where it's needed can be extremely detrimental.

At the same time, inventory can be thought of as a liability (if not in an accounting sense). A large inventory carries the risk of spoilage, theft, damage, or shifts in demand. Inventory must be insured, and if it is not sold in time it may have to be disposed of at clearance prices—or simply destroyed.

For these reasons, inventory management is important for businesses of any size. Knowing when to restock inventory, what amounts to purchase or produce, what price to pay—as well as when to sell and at what price—can easily become complex decisions. Small businesses will often keep track of stock manually and determine the reorder points and quantities using spreadsheet (Excel) formulas. Larger businesses will use specialized enterprise resource planning (ERP) software. The largest corporations use highly customized software as a service (SaaS) applications.

Appropriate inventory management strategies vary depending on the industry. An oil depot is able to store large amounts of inventory for extended periods of time, allowing it to wait for demand to pick up. While storing oil is expensive and risky—a fire in the UK in 2005 led to millions of pounds in damage and fines—there is no risk that the inventory will spoil or go out of style. For businesses dealing in perishable goods or products for which demand is extremely time-sensitive—2021 calendars or fast-fashion items, for example—sitting on inventory is not an option, and misjudging the timing or quantities of orders can be costly.

For companies with complex supply chains and manufacturing processes, balancing the risks of inventory gluts and shortages is especially difficult. To achieve these balances, firms have developed several methods for inventory management, including just-in-time (JIT) and materials requirement planning (MRP).

Some firms like financial services firms do not have physical inventory and so must rely on service process management.

Inventory represents a current asset since a company typically intends to sell its finished goods within a short amount of time, typically a year. Inventory has to be physically counted or measured before it can be put on a balance sheet. Companies typically maintain sophisticated inventory management systems capable of tracking real-time inventory levels.

Inventory is accounted for using one of three methods: first-in-first-out (FIFO) costing; last-in-first-out (LIFO) costing; or weighted-average costing. An inventory account typically consists of four separate categories: 

1. Raw materials — represent various materials a company purchases for its production process. These materials must undergo significant work before a company can transform them into a finished good ready for sale.
2. Work in process (also known as goods-in-process) — represents raw materials in the process of being transformed into a finished product.
3. Finished goods — are completed products readily available for sale to a company's customers.
4. Merchandise — represents finished goods a company buys from a supplier for future resale.

Depending on the type of business or product being analyzed, a company will use various inventory management methods. Some of these management methods include just-in-time (JIT) manufacturing, materials requirement planning (MRP), economic order quantity (EOQ), and days sales of inventory (DSI).

• Just-in-Time Management (JIT) — This manufacturing model originated in Japan in the 1960s and 1970s. Toyota Motor (TM) contributed the most to its development. The method allows companies to save significant amounts of money and reduce waste by keeping only the inventory they need to produce and sell products. This approach reduces storage and insurance costs, as well as the cost of liquidating or discarding excess inventory. JIT inventory management can be risky. If demand unexpectedly spikes, the manufacturer may not be able to source the inventory it needs to meet that demand, damaging its reputation with customers and driving business toward competitors. Even the smallest delays can be problematic; if a key input does not arrive "just in time," a bottleneck can result.
• Materials requirement planning (MRP) — This inventory management method is sales-forecast dependent, meaning that manufacturers must have accurate sales records to enable accurate planning of inventory needs and to communicate those needs with materials suppliers in a timely manner. For example, a ski manufacturer using an MRP inventory system might ensure that materials such as plastic, fiberglass, wood, and aluminum are in stock based on forecasted orders. Inability to accurately forecast sales and plan inventory acquisitions results in a manufacturer's inability to fulfill orders.
• Economic Order Quantity (EOQ) — This model is used in inventory management by calculating the number of units a company should add to its inventory with each batch order to reduce the total costs of its inventory while assuming constant consumer demand. The costs of inventory in the model include holding and setup costs. The EOQ model seeks to ensure that the right amount of inventory is ordered per batch so a company does not have to make orders too frequently and there is not an excess of inventory sitting on hand. It assumes that there is a trade-off between inventory holding costs and inventory setup costs, and total inventory costs are minimized when both setup costs and holding costs are minimized.
• Days sales of inventory (DSI) — is a financial ratio that indicates the average time in days that a company takes to turn its inventory, including goods that are a work in progress, into sales. DSI is also known as the average age of inventory, days inventory outstanding (DIO), days in inventory (DII), days sales in inventory or days inventory and is interpreted in multiple ways. Indicating the liquidity of the inventory, the figure represents how many days a company’s current stock of inventory will last. Generally, a lower DSI is preferred as it indicates a shorter duration to clear off the inventory, though the average DSI varies from one industry to another.

There are other methods to analyze inventory. If a company frequently switches its method of inventory accounting without reasonable justification, it is likely its management is trying to paint a brighter picture of its business than what is true. The SEC requires public companies to disclose LIFO reserve that can make inventories under LIFO costing comparable to FIFO costing.

Frequent inventory write-offs can indicate a company's issues with selling its finished goods or inventory obsolescence. This can also raise red flags with a company's ability to stay competitive and manufacture products that appeal to consumers going forward.