Inventory Management Techniques

Inventory Management Techniques There are several inventory control techniques available, and which technique is used is determined by the nature and ease of the organization. An ideal inventory control technique, however, should cover all items and all stages of inventory control, starting from the stage when the material is received from the supplier until it is put to use. Some of the most commonly used techniques are as follows:

1) Economic Order Quantity (EOQ):

Ordering costs and Carrying costs are taken into consideration while determining Economic Order Quantity. Ordering cost is basically the costs associated with receiving an inventory while carrying costs include handling warehousing and allied costs. The imbalance between these two costs can affect the profits adversely, so a balance needs to be maintained besides keeping both of them at a minimum level.

EOQ may also be calculated with the help of the following formula: EOQ formula 

EOQ = Square root of [(2 x demand x ordering cost) / carrying cost]

where, D = Demanded Annual quantity (in units)

O = Cost of ordering/placing (fixed cost)

h/ic = Cost of holding one unit/Annual carrying cost per unit.

Calculation of Number of Orders

Number of Orders per Year = Annual Demand / EOQor Q

2) Re-order Level:

The point at which the storekeeper makes a fresh request for the purchase is known as the reorder level. Generally, it lies between the maximum and the minimum level. It is fixed in such a way that by the time the purchase order reaches the inventory level does not fall below the minimum level and after the receipt again reaches the maximum level. It is determined by the following formula:

Reorder Level formula 

Reorder Level = Maximum Consumption x Maximum Reorder Period.


= Minimum level + Consumption during the Time Required to Get Fresh Supply.


= Safety Stock + Consumption during Lead Time.

Normal Reorder Period = Maximum Reorder Period +Minimum Reorder Period / 2

3) ABC Analysis:

For material control purposes, the materials may be divided into different categories. In the case of manufacturing concerns, it is observed that sometimes a small percentage of the quantity of items comprises of high value, and other times the large quantity of material comprises of lesser value. Also, there may exist some moderate situations, where items are average in number and average in value.

So, based on this, the material may be classified into categories A, B, and C. Category A includes items that are about 70% of the value and only 10% of the quantity. About 20% of the value and the same percentage of the quantity makes Category B. Residual 10% of the value and 70% of the quantity forms Category C. These percentages may vary a bit depending upon the nature of the organization.

4) VED Analysis: ( Inventory Management Techniques )

In VED analysis, the items are classified on the basis of their criticality to the production process or other services. Under this system of classification ‘V’ stands for vital, ‘E’ stands for Essential and ‘D’ stands for desirable. Vital are those items without which the production process cannot be completed, while Essential items are those, whose shortage may bring an inefficient production system. This efficiency may be temporary in nature. Desirable items are those items, which are required but will not result in the loss of production.

5) Just In Time:

Just-In-Time production is defined as a “philosophy that focuses attention on eliminating waste by purchasing or manufacturing just enough of the right items just in time”.

JIT is a Japanese management philosophy of manufacturing, according to which only the quantity is purchased at the right time and in the right place.

A definition of JIT could be that, it is a manufacturing system whose goal is to optimize processes and procedures by continuously pursuing waste reduction and work simplification, improving timeliness, Quality productivity, and flexibility.

JIT has also been called as a hand-to-mouth approach to production by some observers. The main aim is to avoid any surpluses and fit a precise requirement in a precise time.

6) Inventory Turnover: (Inventory Management Techniques)

This ratio is calculated by dividing the cost of goods sold by the average inventory. This ratio is usually expressed as ‘x’ a number of times. The following is the formula:

Inventory Turnover Ratio formula

Inventory Turnover Ratio = Cost of Goods Sold / Average Inventory

It also helps to show the average time taken for clearing the stocks. This can easily determine by calculating the inventory conversion period. This period is calculated by dividing the number of days by inventory turnover. The formula may be as:

Inventory Conversion Period = 12 months/52 weeks/365 days divide by Inventory Turnovere Ratio

7) Inventory Control of Spares and Slow-Moving Items:

Stores and spares are items that are necessary to keep equipments and machines working properly. Shortage of even a single item of stores and spares may bring the production process to a halt. A firm should maintain the proper level of this inventory and should avoid over or under-stocking.

Stores and Spares Inventory Turnover = Annual Consumption of Stores and Spares / Stores and Spares Inventory

Stores Spare Holding Period = 365 / Turnover of Stores and Spares

Objectives of Inventory ManagementClick here

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