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A Brief Overview of Inventory Planning and Control
In any business, inventory is a key area of concern as inventory is what is sold. Though, on the surface this may seem to be merely a physical construct, inventory and inventory management principle easily extend to service or other intangible product offerings. Perhaps the first principle of inventory is that, inventory is money, or rather a representation of invested capital that is listed on the balance as a liability. While inventory is properly represented as a liability, a more accurate way to think of it is that is an asset in the waiting.
A typical retail store may have millions of dollars in inventory on the floor. If it is the right product, priced right, in the right place at the right time, it will likely sell. Though the 3-P's just mentioned are the crux of the marketeer's problem, they are also the problem of the inventory or replenishment analyst on the store side and the problem of the manufacturing and shipping division of the supplier.
Both the vendor and the supplier seek inventory optimization, that is, managing from their perspective the same issues with which the marketeer wrestles. The daily issues of this perspective are focused on the same four variables with typical examples listed below:
- Product - Is a certain SKU present in the regular modular only or checkout lane modular also? Are there multiple SKU's for a certain product (i.e., single or multi-packs)? A new SKU is being phased in to the modular set, is the are corresponding reduction in another product? Is replenishment on the old item 'turned off'? If I have a certain product, is there a complimentary product that should also be sold, ideally with modular adjacencies?
- Placement - Is a particular product in all stores (i.e., riding lawnmowers in NY City, snow shovels, even in January, in Mexico)? Does this product go into all stores simultaneously or should it be staged (i.e., lawn care product in southern stores first)? Are there any new stores that should be added to the shipped to list? Is a particular product a 'regular' item or does it go on a 'special' display/store location (i.e., holiday)?
- Price - Are all the prices indicated on the shelf or on the product? Are the prices correct? Are prices updated annually or monthly? Is the item on 'deal' (i.e., advertised special for which we might anticipate the 'standard' 20% lift in velocity)?
From the perspective of the vendor, a store or even a whole chain of store only has a [short-term] fixed floor area, 'backroom' area and so many storage areas and trucks that can be in transit to manage not simply one product at one location but the full range of products at all locations. This, in essence, is the problem of inventory: managing and ideally optimizing the coming and going of all products at all locations. For the manufacturers, the problem is essentially the same, only with a different perspective: all of their products at all of the locations at which they are sold. The daily issues of this simply detail. Consider the perspectives of WalMart and 3M: one US retail operation and the one US division of one multinational manufacturer:
- WalMart has approximately 3,000 US stores, if there is one case of one product from 3M going to each store in the chain, this alone represents shipping 36,000 items (12 per case) just one time. Consider the number of products shipped, received and sold for all products at each store.
- 3M Stationary Products Division, Tape & Adhesives section, has over 50 SKUs. Each peg on the display holds from 6 to 15 units of product. Each product comes in varying numbers per box, from 4 to 24, with from 1 to 6 boxes per case (the minimum order quantity).
- WalMart has the largest trucking fleet of any US corporation and has number distribution centers and warehouses. 3M has 1-2 factories per product and 3-4 key distribution points. Some items are 'warehouse items and therefore have a lead time of 3-4 days while other items have lead times of up to 21 days.
The myriad issues that result from this collaborative efforts is significantly enhanced but the good management of 'the inventory problem'. From the number of units to build and subsequently ship (and to where) until the items are sold, the units exist as inventory.
A Brief Discussion of EOQ and other Methods for Inventory Control
To manage the issues discussed just prior is but one matter, to manage them optimally is another and that is really the goal of any inventory planning and control system. Realizing that any business decision is one in which the principle of the trade-off is employed, one can then begin to methodically examine the variables. For example, in the simplest example in which the costs of placing an order and the costs of carrying inventory are minimized. This optimal point is deemed the Economic Order Quantity.
While, in theory, the method works perfectly, its simplicity is also what limits it in the real world in which additional variables and varying assumptions run rampant. For example, EOQ does not, or, has trouble taking into account the following variables/assumptions:
- Product cost assumptions such as fixed batch costs
- Product prices which may be variable and thus would change velocity and subsequent sales/demand forecasts
- Failure to adequately consider or cost out of stocks or backorders
- Failure to adequately consider lead times, special deals or seasonal items (Eason, 2003).
Regardless, EOQ is the starting place for the consideration or both additional variables as well as the consideration of other models such as JIT, or the 'just-in-time' method in which the goal is -0- inventory. This is more applicable to a manufacture side though its principles do have applicability in retail. In this method, the basic assumption that has generally been borne out through research is that inventory carrying costs are generally far higher than one might initially think (Schniederjans & Cao, 2001). JIT is achieved by precisely the right quantity of material/product to its destination just-in-time. Another somewhat similar method is ERP or enterprise resource programs. ERP leverages technology to provide firm-wide view of the materials at various stages in the work process. This data is merged with other firm information such as sales/demand forecast to create a optimized forecast for all raw materials, parts and finished products at any point in time.
In summary, whether using EOQ, JIT, ERP or any other combination of letters for inventory optimization, the key is to understand and purposefully manipulate the variables of business to prioritize and manage the inherent trade-offs of any business function.
Works Consulted
Bean, J. (2005), former 3M Business Analyst, Interview on May 21, 2005. [Mr. Bean had significant work in maintaining in stock levels to between 98.5-99.5% on Stationary and Tape products]
Eason, J. (2003, May). Setting Target Inventory Levels for New Products [Masters Degree Thesis, University of Arkansas, Fayetteville, Arkansas, US].
Piasecki, D. (2001, January). Optimizing Economic Order Quantity. IIE Solutions. pp. 30-39.
Schniederjans, M. & Q. Cao. (2001). An alternative analysis of inventory costs of JIT and EOQ purchasing. International Journal of Physical Distribution & Logistics, (31), 2, pp. 190-117.
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