SOUTHWESTERN INSTITUTE OF BUSINESS AND TECHNOLOGY

DISCIPLINE…ACCOUNTABILITY…PROFESSIONALISM…HUMILITY
NAUTICAL HIGHWAY, PANGGULAYAN, PINAMALAYAN, ORIENTAL MINDORO
Contact No.: +63917-127-8500 / +63912-448-6518

NAME: ______________________________________________________________
TEACHER: __________________________________________________________
YEAR AND BLOCK: _________________________________________________
COURSE CODE: SCM 3
Introduction:

This module includes Basic Inventory Concepts , Basic Inventory Management, Financial Aspects of
Inventory Strategy, Inventory Carrying Costs, the Impact of Inventory Turnover on Inventory Carrying Costs and
Symptoms of Poor Inventory Management.

Objectives

At the end of the unit, the learners must be able to:

• Discuss the the basic inventory concepts, management and financial aspects of inventory strategy.
• Familiarize with the impact of inventory turnover on inventory carrying costs.
• Explain the symptoms of Poor Inventory Management.

INVENTORY MANAGEMENT
INVENTORY MANAGEMENT
It is important to manage inventory efficiently as it plays an important role in various aspects of business.
Thus, inventory management includes proper planning of buying, managing, warehousing, and accounting of
inventory. Businesses having proper inventory management systems are able to know, what to buy, how much
to buy, where to buy, at what time to buy, where to store and etc.

BASIC INVENTORY CONCEPT

Inventory is classified into the following concepts:
A. Raw Material
These are the inputs used by the business to manufacture goods smoothly. The quantity of raw
materials to be held by a business depends on: The rate at which raw materials are utilized, Time it takes
to restock raw materials and other factors like government policies, availability of raw materials etc.
B. Work-In-Progress
Work-in-progress refers to the semi-finished goods that are still under production and have not
reached the final stage of the finished product. The quantity of work-in-progress of a business depends
on the length of its manufacturing process. Here, length of production process means the time it takes to
convert the raw materials into finished goods. Greater the time gap, more is the quantity of work-in-
progress of the business.
C. Finished Goods
Finished goods refer to the final goods sold to the customers. Businesses keep stock of finished
goods to avoid supply shortages. The amount of finished goods in inventory depends on the nature of
business, demand for the goods etc.

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FINANCIAL ASPECTS OF INVENTORY STRATEGY
The following are some ways in which inventory management affects financial performance:
A. Cash Flow: Inventory ties up cash that could be used for other purposes such as investments or debt
repayment. Effective inventory management reduces the amount of inventory held, which improves cash
flow.
B. Carrying Costs: Effective inventory management allows businesses to optimize their inventory levels to
avoid excess inventory and reduce carrying costs. By analyzing their inventory turnover rate, lead times,
and demand patterns, companies can determine the appropriate stock levels to maintain, which reduces
the risk of overstocking or stockouts.
C. Stockouts: Insufficient inventory levels can result in stockouts, which can lead to lost sales and reduced
customer satisfaction. Effective inventory management ensures that enough inventory is available to
meet customer demand, reducing the risk of stockouts.
D. Profitability: Effective inventory management can lead to significant cost savings and increased
profitability. By reducing waste, avoiding stockouts, and optimizing warehouse space, businesses can
enhance productivity, reduce costs, and ultimately achieve better financial results.

INVENTORY CARRYING COST

Carrying costs are among the top inventory management challenges companies deal with. These
expenses arise from keeping products shelved at a warehouse, distribution center or store and include storage,
labor, transportation, handling, insurance, taxes, item replacement, shrinkage, and depreciation. Inventory
carrying costs are a crucial metric that helps determine whether you’re running an efficient operation. High
carrying costs could mean your organization has more inventory on hand than it needs based on demand, that
you need to adjust the frequency with which you place orders with manufacturers or distributors or that you could
do better at keeping stock moving.

10 COMPONENTS OF INVENTORY CARRYING COST

1. Cost of Capital
Cost of capital, usually the biggest portion of inventory carrying costs, includes the purchase price
of the products plus any interest and other fees if the business took on debt to pay for that inventory.
Tying money up in products could affect cash flow and, consequently, increase the need for and cost of
additional capital. To reduce the cost of capital, invest in forecasting that leads to smaller or more
strategic purchases. You could also negotiate a lower purchase price with suppliers.
2. Cost of Storing Inventory
A company can often re-imagine its warehouse layout or how it stores products of different
shapes/sizes to reduce storage costs. Paring down inventory may even allow a company to move to a
smaller warehouse, another way to trim storage costs.
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 3. Employee Cost
This is simply the cost of labor associated with receiving and putting away products, fulfilling
orders and other touchpoints. Businesses can often rearrange their warehouses to increase employee
productivity by, for example, storing the most popular items near packing stations or supplementing
human workers with automation. Experimenting with different picking methods and using software that
maps the most efficient pick paths for employees are worth considering if labor costs are rising.
4. Opportunity Cost
If you overspend on inventory, that ties up money you could have used for marketing, new hires,
real estate, and countless other investments—many of them more valuable to the organization than items
sitting on a shelf.
5. Obsolescence
Obsolete inventory stock that can no longer be sold because it’s reached the end of its lifecycle—
can lead to a spike in inventory carrying costs. Products become obsolete after they depreciate to the
point of having no value and must be written-off. Organizations can minimize obsolete inventory by finding
ways to offload stock while it still has some value, perhaps through deep discounting, donating it or by
selling it to a liquidator. Otherwise, you’ll likely pay to dispose of it. Without performing regular checks,
companies may be holding obsolete inventory in the warehouse that incurs added costs and ties up
space in the warehouse; so, it’s important that items are disposed of promptly before they become
obsolete.
6. Insurance/Taxes
Many companies invest in an insurance policy to protect one of their most valuable assets:
inventory. Then if a flood or fire destroys a store or warehouse, all is not lost. But the more product in the
warehouse, the more that insurance policy will cost. Similarly, the more inventory you hold, the higher
your taxes. An organization can pare down both insurance and tax expenses by keeping fewer products
or only its highest-performing goods in the warehouse.
7. Administrative Costs
Administrative costs encompass a wide variety of expenses, including property taxes, facility
maintenance and cleaning, transportation, and equipment depreciation. Generally, if a company holds
more inventory, it has higher administrative costs, in part because it needs a larger facility.
8. Material Handling
Labor and the number of “touches” a product requires—from putting it in a warehouse bin to
printing a shipping label—is a big part of the money spent on material handling. But machinery,
equipment, and damage to products after you take possession are also part of this expense category. A
company may not need as much machinery or equipment, or it may use them less frequently and reduce
the need for maintenance and repair if it stores fewer items in its facility.

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 9. Shrinkage
When inventory is lost after your company purchased it but before it’s sold to a customer, that’s
shrinkage. Sources of inventory shrinkage include theft, fraud, damage in transit or record-keeping
mistakes. As with other inventory carrying costs, the more stock a business holds, the more money it will
commonly lose to shrinkage. An organization could identify and terminate employees who are stealing,
talk to vendors about common causes of damaged goods and perform more frequent physical inventory
counts to reduce shrinkage.
10. Delayed Innovation
If a company is constantly focused on moving excess stock, it’s likely not innovating and
brainstorming ways to, for example, add a feature or new product requested by customers. Businesses
can find themselves stuck in this loop if they are consistently carrying too much inventory. Optimizing
stock levels will free up resources for research and development.

THE IMPACT OF INVENTORY TURN-OVER ON INVENTORY CARRYING COSTS

The relationship between inventory turnover and carrying costs is a crucial aspect of inventory
management. Inventory turnover measures how quickly a company sells and replaces its inventory. On the other
hand, carrying costs refer to the expenses incurred in storing and maintaining inventory. A high inventory turnover
rate means that a company is selling its products quickly, which translates to fewer storage costs. Conversely,
a low inventory turnover rate indicates a slow-moving product that requires more storage space, leading to
higher carrying costs. The relationship between these two factors is essential in determining the efficiency
and profitability of a company's inventory management.

HERE ARE SOME INSIGHTS TO FURTHER UNDERSTAND THE IMPACT OF INVENTORY TURNOVER ON
CARRYING COSTS:

1. Inventory turnover and carrying costs often have an inverse relationship. When inventory turnover is high,
carrying costs are low, and vice versa.

2. Carrying costs are not just limited to storage expenses. They also include insurance, taxes, depreciation, and
obsolescence costs. These additional carrying costs can significantly impact a company's bottom line, especially
if they are not factored into the inventory management process.

3. Increasing inventory turnover can be an effective way to reduce carrying costs. Companies can achieve this
by implementing better inventory management practices, such as demand forecasting, supplier management,
and efficient order fulfillment processes. By reducing the time it takes to sell inventory, companies can decrease
their carrying costs and improve their profitability.

4. Carrying costs can also be reduced by optimizing the inventory level. Holding too much inventory can lead to
high carrying costs, while holding too little inventory can result in stockouts and lost sales. By finding the right
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balance and optimizing inventory levels, companies can reduce their carrying costs while ensuring that they have
enough inventory to meet customer demand.

SYMPTOMS OF POOR INVENTORY MANAGEMENT

1. Canceling orders
Not only is this a surefire way to hurt production efficiency, but you also stand a good chance of
losing clients and damaging your reputation in the process.
2. Higher Shrink
Shrink happens when you have a surplus of inventory. Shrink can come in the form of damaged
parts, parts that have become outdated, and employee theft. Having a high shrink is the equivalent of
throwing money away and is yet another reason getting your inventory under control is crucial.
3. High Lead Times
When your employees have to sort, sift and hunt for the parts and pieces they need, your lead
times can start to suffer. Having too much inventory is just as bad as not having enough, and either
instance impacts your lead times.
4. Damaged Relations with Suppliers
A quick way to annoy your suppliers is to lose control of your inventory. Extra-large or rush orders
put a strain on your suppliers, especially when it happens frequently. Losing favor with your suppliers can
put you in a bad position, especially when it comes down to crunch time.
5. Decreased Cash Flow
When your inventory is out of control you can also expect a significant decrease in cash flow.
Ordering raw materials is best done in bulk as it can cut down on freight and shipping charges as well as
lower the price point. Poor inventory also affects your ability to forecast accurately, which can really hurt
when it comes to settling on product delivery time for your clients

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 SOUTHWESTERN INSTITUTE OF BUSINESS AND TECHNOLOGY
DISCIPLINE…ACCOUNTABILITY…PROFESSIONALISM…HUMILITY
NAUTICAL HIGHWAY, PANGGULAYAN, PINAMALAYAN, ORIENTAL MINDORO
Contact No.: +63917-127-8500 / +63912-448-6518

Name: __________________________ Year/ Block: _______________

Teacher: ________________________ Date: ____________________

Direction: Choose the letter that corresponds to your answer. STRICTLY NO ERASURES

1. A high-tech manufacturing company has received circuit boards, microprocessors, and other electronic
components for integration into their latest product. What type of inventory does this represent?
a) Raw materials
b) Work-in-progress (WIP)
c) Finished goods
d) Safety stock
2. A biomedical research lab is currently conducting experiments using vials of specialized chemicals. What type
of inventory is being utilized in this stage?
a) Finished goods
b) Raw materials
c) Work-in-progress (WIP)
d) Safety stock
3. A luxury watchmaker has excess inventory of assembled timepieces awaiting final quality checks before being
packaged and shipped to retailers. What type of inventory is this?
a) Raw materials
b) Work-in-progress (WIP)
c) Finished goods
d) Safety stock
4. An aerospace manufacturer has partially assembled aircraft components awaiting final assembly and testing.
What type of inventory is this?
a) Raw materials
b) Finished goods
c) Safety stock
d) Work-in-progress (WIP)
5. A pharmaceutical company has implemented a just-in-time (JIT) inventory system to reduce excess inventory
holding costs. Which type of inventory will be most impacted by this change?
a) Raw materials
b) Finished goods
 c) Safety stock
d) Work-in-progress (WIP)
6. A haute couture fashion house has cut fabric, sequins, and embellishments ready to be sewn into one-of-a-
kind evening gowns. What type of inventory does this represent?
a) Raw materials
b) Finished goods
c) Safety stock
d) Work-in-progress (WIP)
7. A pharmaceutical packaging facility has sealed medication bottles ready for labeling and distribution. What
type of inventory is this?
a) Raw materials
b) Finished goods
c) Safety stock
d) Work-in-progress (WIP)
8. A manufacturing facility experiences a significant increase in insurance premiums due to higher risk factors
associated with storing hazardous materials. Which component of inventory carrying cost is impacted by this
increase?
a) Opportunity cost
b) Insurance
c) Administrative cost
d) Material handling
9. A company experiences delays in product development due to outdated inventory management practices.
Which component of inventory carrying cost is affected by these delays?
a) Delayed innovation
b) Cost of capital
c) Employee cost
d) Material handling
10. A distribution centre invests in employee training programs to improve efficiency and reduce errors in
inventory management. What component of inventory carrying cost does this investment aim to address?
a) Cost of capital
b) Administrative cost
c) Employee cost
d) Material handling
11. A company incurs additional costs for storage space rental to accommodate increased inventory levels.
Which component of inventory carrying cost is impacted by this expenditure?
a) Cost of storing inventory
 b) Opportunity cost
c) Insurance
d) Shrinkage
12. A retail store invests in advanced inventory tracking technology to minimize stockouts and improve customer
satisfaction. What component of inventory carrying cost does this investment target?
a) Cost of capital
b) Opportunity cost
c) Employee cost
d) Delayed innovation
13. A manufacturing company experiences a decline in market share due to delayed introduction of innovative
products caused by inventory management issues. What component of inventory carrying cost is affected by
this decline?
a) Delayed innovation
b) Cost of capital
c) Employee cost
d) Material handling
14. A retail store experiences decreased profitability due to high administrative costs associated with manual
inventory management processes. Which component of inventory carrying cost is affected by this decrease?
a) Administrative cost
b) Cost of capital
c) Shrinkage
d) Material handling
15. A company incurs additional costs for expedited shipping to mitigate stockouts and meet customer demand.
Which component of inventory carrying cost is impacted by this expenditure?
a) Opportunity cost
b) Shrinkage
c) Insurance
d) Material handling