INVENTORY MANAGEMENT
CONTENTS:
1) Executive summary2) Introduction to the concept3) Industry profile4) Company profile
a) Back ground and inception of the companyb) Nature of the business carriedc) Vision , mission and quality policyd) Product/services profilee) Area of operation – global/national/regional ownership patternf) Competitors informationg) Infrastructural facilitiesh) Achievement award i) Workflow model (end to end)
5) Mckinsey’s seven S Model a) Structureb) Skillc) Styled) Strategye) Systemf) Staffg) Shared value
6) Research methodologya) Title of the project
b) Statement of the problemc) Objectivesd) Operational definitionse) Data collectionf) Statistical tools used for research g) Sampling techniques – sampling unit, sample size and sampling
method.h) Plan of analysis i) Limitations
7) Data analysis and interpretation8) Summary of the findings9) Suggestions10) Conclusions – future growth11) Learning experience12) Annexure
a) Financial statementsb) Questionnairesc) Bibliography.
EXECUTIVE SUMMARY
Title of the project
“A STUDY ON INVENTORY MANAGEMENT”
STATEMENT OF PROBLEM
A study of inventory management at ABB LTD is undertaken in order to
know the inventory performance and position of the company and to know the
strength and weakness and to assess the profitability of the company.
Inventories constitute most significant part of assets of large majority of the
companies in India. Inventory a double edged sword is usually an asset of an
organization, if not used properly it will become liability. It is therefore
absolutely very important to manage inventories efficiently and effectively in
order to overcome unnecessary investment. And “To identify the
problems/challenges involved in the Inventory Management process at ABB
ltd.”
OBJECTIVES OF THE STUDY
The main objectives of the study are:-
OBJECTIVES:
1. To study the tools and techniques of inventory management adopted at ABB Ltd.
2. To study the inventory control measures in inventory management.
3. To study the demand forecast of inventory management at ABB Ltd.
4. To study how ABC analysis and aging schedule is implemented in inventory management.
5. To determine the stock level in inventory management at ABB Ltd.
6. To identify problems related to inventory management and to find out suitable measures to overcome them.
7. To study the methods of valuation of inventory on ABB Ltd.8. To study the inventory management procedure.9. To make a comparative study of inventory management in last
5 years using ratio analysis technique.
Methodology of data collection
a) Primary data
The primary data is collected by personal interviews with officials.
b) Secondary data
Files, annual reports, periodicals, manuals and text book. Which have already
been passed through the statistical process are the secondary data used.
c) Field work
This was under taken individually to collect various information regarding the
study by visiting following sections.
Stores department
Information regarding stocking of materials receipts and issues to workshops.
Inventory control procedures in various wards inside the department were
obtained.
Accounts department
Remaining all the information was obtained from accounts department through
personal interviews with section officials.
Plan of analysis
The analysis and interpretation was collected from finance department thus
processed and tabulated is in the form of tables and graphs. The table thus
obtained by calculating average, percentage, turnover ratio, graphs and diagram
in respect of the stock of raw materials sales & inventory control procedures
and thus to draw conclusion from the analysis done.
Scope of the study
This study is to find the facts and opinions of inventory management and
control at ABB plant.
In accordance with the present trends it aims mainly at finding out the
inventory control procedures at ABB.
This study gives the brief information about the inventory management of
the indo ABB ltd
The study was done by using annual reports, inventory manual…etc.
Limitation of the study
Time restriction was only 30 days of project work in the organization.
The information, which was needed, could not be made public by the
organization.
The study are related to ABB ltd Bangalore only
The finding and suggestion cannot be generalized.
The study covered a wide concept hence wide collection and coverage of
information was not easily possible.
Every enterprise needs inventory for smooth running of its
activities. It server as a link between the production and
distribution process. The greater a time lag, the higher the
requirement of inventory the unforeseen fluctuation of inventory
demand and supply of goods, fluctuating inventory prices,
necessitate the need for inventory management.
The investment inventory constitutes the most significant
part of the current assets inventory of the under taking. Thus it is
very essential to have a proper control and management of
inventory.
Meaning and nature of inventory
The general meaning of inventory is stock of goods or list of goods
inventory. In accounting language it means stock of finished goods.
For inventory manufacturing concern it includes raw materials, work
in progress, consumables finished goods and spares etc.
1) Raw materials:
If forms a major input inventory in organization. The quantity
of raw materials required will be determined by the rate of
consumption.
2) Work in Progress :
The work in progress is that stage of stocks, which are in
between raw materials and finished goods.
3) Consumables :
These are the material, which are needed to smoothen, the
process of production. These do not directly go into
production, but act as catalyst.
4) Finished Goods :
These are the goods, which are ready to sale for the
consumers. The stock of finished goods provides as buffer
between production and market.
5) Spares:
Spares also from a part of inventory. The stocking policies
differ from industry to industry.
Inventories cost account for nearly 55 percent of the cost of
production, as it is clear from an analysis of financial statements of
large number of private and public sector organizations. So, It
essential to establish suitable procedures for proper control of
materials from the time of purchase order placed with supplier until
they have been consumed properly and accounted for.
Definition:
The term inventory refers to assets, which will be sold in future
in the normal course of business operations. The assets, which
the firm stores as inventory in anticipation of need, are raw
materials, work-in-progress/process, and finished goods.
Inventory often constitute a major element of a total working
capital and hence ft has been correctly observed, 'Good
inventory management is good financial management’.
Inventory control is a system, which ensures the provision of
the required quantity at the required time with the minimum
amount of capital.
Inventories are the second largest asset category for the
manufacturing firms next to plant and equipment.
Inventory control includes scheduling, the requirements,
purchasing, receiving and inspecting, maintaining stock records
and stock control. Inventory control is a matter of coordination.
A proper material control helps in improving the input-output
ratio.
Objective of inventory management
The main objective of inventory management are operational and
financial. The operational object means availability of materials and
spares in sufficient quantities for undisturbed flow of production.
The financial objective means investments in inventories should not
remain idle and minimum working capital should be locked in it.
THE OTHER OBJECTIVES ARE:
1) To ensure continues supply of inventories to the production.
2) To avoid over stocking and under stocking.
3) To maintain optimum level of investment in inventories.
4) To keep material cost under control, to keep low cost of
production.
5) To eliminate duplication in ordering or replacing stocks.
6) To minimize losses through, deterioration, pilferage, wastage
and damages.
7) Designing structures for good inventory management.
8) Perpetual inventory control of materials.
9) To ensure right quality of goods at reasonable prices. Analysis
of prices cost and value.
10) To facilitate data for short and long term planning and control of
inventory.
NEED FOR INVENTORY CONTROL:
If a cost accounting system is to be effective there must be a
proper control of inventory and supplies form the time orders
are placed with suppliers until they have been effectively
utilized in production.
Materials are equivalent to cash and they make up an important
part of the total cost. It is essential that materials should be
properly safeguarded and correctly accounted. Proper control of
material can make a substantial contribution to the efficiency of
a business. The success of a business concern largely depends
upon efficient purchasing, storage, consumption and
accounting.
In a large firm the planning and routing department is
responsible for arranging how and where the work is to be done
and issue instructions. It sets definite time schedules so that
necessary materials are delivered to the proper department in
proper time not too long before hand neither lest it should
interfere with other work nor after they are required as this
result in idle time.
Business firm keep inventories for different purposes. Every
firm big or small trading or manufacturing has to maintain some
minimum level of inventories. Based on some motives the
inventories are maintained.
a. Transaction motives:
Every firm has to maintain some level of inventory to meet the
day-to-day requirements of sales, production process, customer
demand etc. In this finished goods as well as raw material are
kept as inventories for smooth production process of the firm.
b. Precautionary motive:
A firm should keep some inventory for unforeseen
circumstances also like loss due to natural calamities in a
particular area, strikes, lay outs etc so the firm must have some
finished goods as well as raw-materials tc meet circumstances.
c. Speculative motive:
The firm may be made to keep some inventory in order to
capitalize an opportunity to make profit due to price
fluctuations.
REASONS AND BENEFITS OF INVENTORY:
The optimal level of maintaining inventory is a subjective
matter and depends upon the features of a particular firm,
(i) Trading firm:
In case of a trading firm there may be several reasons for
holding inventories because of sales activities that should not
be interrupted. More over it is not always possible to procure
the goods whenever there is a sales opportunity as there is
always a time gap required between purchase and sale of
goods. Thus trading concern should have some stock of finished
goods in order to under take sales activities independent of the
procurement schedule.
Similarly, a firm may have several incentives being offered in
terms of quantity discounts or lower price etc by the supplier of
goods. There is trading concern inventory helps in a de-inking
between sales activity and also to capitalize a profit of
opportunity due to purchase made at a discount will result in
lowering the total cost resulting in higher profits for the firm.
(ii) Manufacturing firm:
A manufacturing firm should have inventory of not only the
finished goods, but also of raw materials and work-in-progress
for following reasons.
(a) Uninterrupted production schedule:
Every manufacturing firm must have sufficient stock of raw
materials in order to have the regular and uninterrupted
production schedule. If there is stock out of raw materials in
order to have the regular and uninterrupted production
schedule. If there is stock out of raw material at any stage of
production process then the whole production may come to a
half. This may result in custom dissatisfaction as the goods
cannot be delivered in time more over the fixed cost will
continue to be incurred even ff there is no production.
Further work-in-progress would let the production process run
smooth. In most of manufacturing concerns the work in
progress is a natural outcome of the production schedule and it
also helps in fulfilling when some sales orders, even if the
supply of raw-materials have stopped.
(b) Independent sales activity:
Inventory of finished goods is required not only in trading
concern but manufacturing firms should also have sufficient
stock of finished goods. The production schedule is a time
consuming process and in most of the cases goods cannot be
produced just after receiving orders. Therefore, every firm has
to maintain minimum level of finished goods in order to deliver
the goods as soon as the order is received.
Costs involved in inventory:
Every firms maintains inventory depending upon requirement
and other features of firm for holding such inventory some cost
will be incurred there are as follows:
(a) Carrying Cost;
This is the cost incurred in Keeping or maintaining an inventory
of one unit of raw materials, work-in -process or finished goods.
Here there are two basic cost involved.
(i) Cost of storage:
It includes cost of storing one unit of raw materials by the firm.
This cost may be for the storage of materials. Like rent of
spaces occupied by stock, stock for security, cost of
infrastructure, cost of insurance, and cost of pilferage,
warehousing costs, handling cost etc.
(ii) Cost of financing:
This cost includes the cost of funds invested in the
inventories .It includes the required rate of return on the
investments in inventory in addition to storage cost etc. The
Carrying cost include there fore both real cost and opportunity
cost associated with the funds invested in the inventories.
The total carrying cost is entirely variable and rise in directly
proportion to the level of inventories carried.
Total carrying cost = (carrying Cost per unit) x (Average
inventory)
(b) Cost of ordering:
The cost of ordering includes the cost of acquisitions of
inventories. It is the cost of preparation and execution of an
order including cost of paper work and Communicating with the
supplier.
The total ordering cost is inversely proportion to annual
inventory of firm. The ordering cost may have a fixed
component, which is not affected by the order size: and a
variable component, which changes with the order size.
Total Ordering Cost = (No.Of orders) x (cost per order).
(c) Cost of stock out:
It is also called as Hidden cost. The stock out is the situation
when the firm is not having units of an item in stores but there
is a demand for that Item either for the customers or the
production department .The stock out refers to zero level
inventory .So there is a cost of stock out in the sense that the
firm face a situation of lost sales or back orders .The stock outs
are quite often expensive. Even the good will of firm also be
effected due to customers dissatisfaction and may lose
business in case of finished goods, where as in raw materials or
work in process can cause the production process to stop and it
is expensive because employees will be paid for the time not
spend in producing goods.
The carrying cost and the ordering cost are opposite forces and
collectively. They determine the level of inventors in a firm.
Total cost =(cost of items purchased) +(Total Carrying
and ordering cost)
Valuation of Inventory:
The methods of valuing inventory are combination of the actual
cost and replacement cost plans. The chief advantage of the
cost or net realizable value rule is that it is conservative. Hence
the methods of Valuation of inventory are quite independent of
system of mincing.
In balance sheet closing stock is shown under current assets
and is also credited to manufacturing or trading accounts. The
inventories are valued on the basis as follows.
Cost of raw materials in stock may include freight charges
and carrying cost. But such cost should not exceed market
price,
Work -in -process is generally valued at cost, which includes
cost of materials, labor. And the proportionate factory
overhead, as it is reasonable according to degree of
completion,
Cost of finished goods wound normally to be total or full
cost it includes prime cost plus appropriate amount of the
overhead. Selling and distribution cost is deducted on the
other hand work in progress may be valued at work in
progress may be Valued at work cost, marginal cost, prime
cost or, even at direct materials.
ISSUE PRICING METHODS:
There are two categories:
(i) Cost prices:
(a) FIFO (First in First out)
(b) LIFO (last in first out)
(c) Specific price
(d) Base stock price
(e) HIFO (highest in first out)
(ii) Derived from cost prices:
(a) Simple average price
(b) Weighted average price
(c) Periodic simple average price
(d) Periodic weighted average price
(e) Moving simple average price
(f) Moving weighted average price
(iii) Notional prices:
(a) Standard price
(b) Inflated price
(c) Re-use price
(d) Replacement price
First in First out (FIFO)
This is the price paid for the material first taken into stock from
which the material to be priced could have been drawn.
Under this method stocks of materials may not be used up in
chronological order but for pricing purpose it is assumed that
items longest in stock are used up first. The method is most
suitable for use where in material is slow-moving and
comparatively high unit cost.
Advantages:
i. Price is based on actual cost and not on basis of
approximations such as no profits or losses arises by
reasons of adopting this method.
ii. The resulting stock balance generally represents fair
commercial valuation of stock.
iii. It is based on traditional principles.
Disadvantages:
i. The number of calculations in the stores ledger involved
tends to be complicated with increase in clerical error.
ii. The cost of consecutive similar jobs will differ if the
price changes suddenly,
iii. In times of rising prices, the charge to production is
unduly low as the cost of replacing the material will be
higher.
Last in first out (LIFO)
This is the price paid for the material last taken into stock from
which the materials to be priced could have been drawn. This
method also ensure material being issued at the actual cost. Its
use is based on the principle that costs should be as closely as
possible related to current price level. Under this method
production cost is calculated on basis on replacement cost.
Advantages:
i. Production is charged at the most recent prices so that it is
based on the principle that cost should be related to current
price levels.
ii. It obviates the necessity for continuously ascertaining the
replacement price.
iii. Neither profit nor loss is usually made by using this method.
iv. In the times of rising prices there is no wind fall profit as
would have been obtained under FIFO method.
Disadvantages:
i. Needs more clerical work.
ii. Compassion among similar jobs is very difficult.
iii. Stock valves relating to prices of the oldest cost on hand
may be entirely out of the current replacement prices.
Weighted average price:
This is the price which is calculated by dividing the total cost of
material in the stock from which the material to be priced have
been drawn, by the total quantity of material in the stock. This
method differs from all other methods because here issue
prices are calculated on receipts of materials and not on issue
of materials. Thus as soon as new lot is received a new price is
calculated and issues are then taken.
Advantages:
i. This method is advantageous where the price varies
widely as its use even out the effect of these wide
variations.
ii. The basis of price calculations is a simple one involving
only the division of total amount of material in stock by
quantity in stock.
iii. Calculation of new prices arises only when receipt of
stocks are received.
iv. Stock records under this method give a fair indication of
the stock values, which can be used in financial
analysis.
Disadvantages:
This method is completed than simple average because it takes
into consideration the total quantities and total costs in stock.
i. Profit or loss may be incurred as in simple average
price,
ii. As LIFO or FIFO this method calls for many calculations,
iii. In order to calculate the accurate value of issues the
average price must normally be calculated to four to
five decimal places.
Standard price:
It is the predetermination of fixed price on basis of a
specification of all factors affecting price like the quantity of
materials in hand and to be normally purchased and rate of
discount compared with existing price including or excluding
freight and ware housing expense.
A standard price for each material is set and the actual price
paid is compared with standard. It is paid exceeds the standard
a loss will be realized if not profit will be obtained.
Advantages:
i. This method is easy to operate.
ii. Comparing the actual prices with the standard price will
determine the efficiency of purchase department.
iii. The effect of price variations is eliminated from job
costs.
iv. It reduces classical costs by eliminating detailed cost
records.
v. In times of inflation or price fluctuations is very difficult
to fix a standard price.
vi. This method also incurs a profit or loss on issues and
closing stock.
Inflated price:
This is the price, which includes a charge designed to cover
the cost
of contingencies or related costs
This price includes not only the cost involved in bringing
the material
to the purchases premises but also the loss due to
evaporation and
Breakage etc. as well as carrying costs.
MATERIAL PURCHASING AND PURCHASING PROCEDURE
Purchase of material is one of the important function of material
management. At times more than 50% of the total product cost is
material.
Functions of Purchase Department
1. Deciding the items to be purchased based on demand.
2. Selection of sources of supply.
3. Collection the price information.
4. Placing the ordered.
5. Follow-up the ordered.
6. Checking the invoices.
7. Maintenance of purchase records.
8. Maintenance of vendors relations.
PURCHASE PROCEDURE
Purchasing procedure start with the initiation of purchase
requisitions and ends with the receipt of materials in the stores.
CENTERIZED PURCHASING
It is most important and relevant to large organizations operating
deferent plants may or may not be located at different places. For a
single place organization decentralization might be feasible on a
very limited place. But where as M & M Ltd., is a multiple plants
operating organization.
In Mahindra and Mahindra Centralized purchasing procedure is
following to purchase of materials.
Centralized purchasing avoids duplications of efforts and
working at cross purpose from one plant to another.
Centralized purchasing permits consolidation of order of
materials commonly used for two or more plants. The
ultimately results in greater buying power, favorable
contracts and trade agreements.
Easier to maintain the quality of purchased parts / items
through centralized testing and inspection. It is also
possible to conduct testing and inspection facilities.
Centralized purchasing permits to avail facilities like
quantity discounts and cash discounts thus its helps to
reduce cost.
It is beneficial to vendor also in case the size of order
constituted major proportion of his total production capacity
INVENTORY MANAGEMENT TECHNIQUES
Based on the classification
Based on order quantity
Based on the records
ABC analysis VED analysis
HML analysis
Aging schedule
Determination Determination Economic Inventory Inventory
ABC ANALYSIS:
ABC analysis classifies various inventory into three sets or
groups of priority and allocates managerial efforts in proportion
of the priority the most important item are classified into class-
A, those of intermediate importance are classified as "class-B"
and remaining items are classified into class-C'.
The financial manager has to monitor the items belonging to
monitor the items belonging to different groups in that order of
priority and depending upon the consumptions.
The items with the highest value is given top priority and soon
and are more controlled then low value item. The re-rational
limits are as follows.
Determination Determination Economic Inventory Inventory
Category % of Items % of total materials
A 5-10 70-85
B 10-20 10-20
C 70-85 5-10
Procedure:
(i) Items with the highest value is given top priority and
soon.
(ii) There after cumulative totals of annual value of
consumption are expressed as percentage of total
value of consumptions,
(iii) Then these percentage values are divided into three
categories.
ABC analysis helps in allocating managerial efforts in proportion
to importance of various items of inventory.
ECONOMIC ORDER QUANTITY:
After various inventory items are classified on the basis of the
ABC analysis the management becomes aware of the type of
control that would be appropriate for each of the three
categories of the inventory items.
The determination of the appropriate quantity to be purchased
in each lot to replenish stock as a solution to the order quantity
problems necessitates resolution of conflicting goals. Buying in
a higher average inventory level will assure.
(i) Smooth production / sale operation and
(ii) Lower ordering or setup costs. But it will involve higher
carrying costs. On the other hand small orders would reduce
the carrying cost of inventory by reducing the average
inventory level but the ordering costs would increase, as there
is a likelihood of interruption in operations due to stock-outs. A
firm should not place either too high or small orders on the
basis of a trade off between benefits derived from the
availability of inventory and the cost of carrying that level of
inventory, appropriate or optimum level of order to be placed
should be determined. The optimum level of inventory is
popularly referred to as the economic order quantity or
economic lot size. It may be defined as that level of inventory
order that minimizes the total lost associated with inventory
management. It is based on some assumptions, which are
restrictive.
a. The firm knows with certainty the annual usage of a
particular item of inventory.
b. Rate at which the firm uses inventory is steady over time.
c. The orders placed to replenish inventory stocks are
received at exactly that point in time when inventories
reach zero.
d.
EOQ can be illustrated by
(i) Trial and error approach,
(ii) Mathematical approach.
Trial and Error approach:
In this approach the procedure of procuring the inventory is
assumed the smaller the lot the lower is average inventory and
vice versa and high average inventory would involve high
carrying costs. This approach is used for determination of EOQ
uses different permutations and combinations of lots of
inventory purchases so as to find out the least ordering and
carrying cost combinations. The carrying cost and acquisition
cost for different sizes of order to purchase inventories are
computed and the order size with lowest total cost of inventory
is EOQ.
Mathematical Approach:
The EOQ quantity can use a short-cut method calculated by
following
EOQ=
Where,
A = Annual usage of inventory
B = Buying cost per order
C = carrying cost per unit
Limitations:
While using EOQ it should be noted that it suffers from
shortcomings, which are mainly due to the restrictive nature of
the assumptions on which it is based.
The important limitation is assumption of a constant
consumption usage and, the instant replenishment of inventory
is of doubtful validity
There may be unusual and unexpected demand for stocks to
meet such [contingencies the firm has to keen additional
inventories like safety stocks. Another weakness is to assume
known annual inventories is open to question and there is
likelihood of a discrepancy between the actual and expected
demand leading to wrong estimate of EOQ.
VED ANALYSIS:
Vital Essential and Desirable analysis is done mainly for
control of spare parts keeping in view of the criticality to
production.
Vital spares are spare the stock-out of which even for a short
time will stop production for quite sometime. Essential spares
are spares the absence of which cannot be tolerated for more
than a few hours a day. Desirable spares are those, which are
needed, but their absence for even a week or so will lead to
stoppage of production.
THE RE-ORDER LEVEL:
The re-order level is the level of inventory at which the fresh
order for that item must be placed to procure fresh supply. The
re-order level depends upon
a) Length of time between the placement of an order
and receiving the supply.
b) The usage rate of the item. The inventory is
constantly being used up. The rate at which the
inventory is being used up. The rate at which the
inventory is being used up is called the usage
rate.
The reorder level can be determined as follows:
R = M+tu
R = Reorder level
M = Minimum level of inventory
T = Time gap / delivery time
U = Usage rate
The reorder level and inventory patterns have be shown as
follows:
The figure shows that if the usage rate is constant, the orders
are made at even intervals for the same amounts each time
and the inventory goes to zero just before an order is received.
Safety Stock:
The safety stock protects firm from Trade offs due to
unanticipated demand for the items level of inventory
investment is however increased by the amount of safety stock.
Safety level is ascertained in inventory as a part because there
is always an uncertainty involved in time lag usage rate or
other factor.
Usually smaller the safety level greater the risk of stock-outs. If
stock-levels are predictable then there is a chance of stock out
occurring. However stock inflows and outflows are
unpredictable or lesser predictable it becomes to carry
additional safety stock to prevent unexpected stock outs so
usage rate is estimated if cost is low then no safety stock is
needed.
JUST-IN-TIME INVENTORY:
The basic concept is that every firm should keep a minimum
level of inventory on hand, relying suppliers to furnish stock
just in time as and when required. JIT helps in emphasizing
sufficient levels of stocks to ensure that production will not be
interrupted. Although the large inventories may be bad idea
due to heavy carrying JIT is a modern approach to inventory
management and the goal is essentially to minimize such
inventories and there by maximizing the turnover.
JIT system significantly reduces inventory-carrying cost by
requiring that the raw materials be procured just in time to be
placed into production. Additionally the work in process
inventory is minimized by eliminating inventory is minimized by
eliminating inventory buffers between different production
departments.
If JIT is to be implemented successfully there must be a high
degree of coordination and co-operation between the supplier
and manufacturer and among different production centers. JIT
does not appear to have any relation with EOQ however it is in
fact alters some of the assumptions of EOQ model. The average
inventory level under the EOQ model is defined as
Average inventory= 1/2 EOQ + safety level JIT attacks this
equation in two ways.
(i) By reducing the ordering cost
(ii) By reducing the safety stock.
The basic philosophy in JIT is that the benefits, associated with
reducing inventory and delivery time to a bare minimum