ZenVentory

Inventory can be  valued by using a number of different methods.  The most common of the these methods are the FIFO, LIFO and Average Cost Method.  Although these are not the only way to account for inventory we can briefly discuss the implications of how each method impacts the value of inventory with in your organization.

FIFO or First-in-First-out is most closely related to the flow of inventory through your organization.  This is where the first items purchased are the first items sold or consumed during production.

LIFO or Last-in-First-out is a method that is closely tied with the current cost of a particular good as it represent what was most recently purchased and those are the items first to sell or be used.

Average Cost Method of accounting for inventory takes an average, as the name implies, of all of the costs of all of your inventory.  It is calculated by dividing the total number of  units you have on hand by the total cost of goods.  You will arrive at an average unit cost for for each unit of your inventory.

Depending on how you value your inventory or which method you use,  you can arrive at different figures for the same events over a period of time.   I know that may sound confusing, but  take the example of FIFO accounting.  Lets say that your costs are rising as they so often do and each time you place an order it costs more for the same amount purchased as the previous order.   Since FIFO accounting requires you to sell the first item purchased first your per unit cost will be lower that the last time you made a purchase.  Ultimately resulting in a higher profit margin.  Conversely, if you use the LIFO method your profit margin will appear to be smaller even though the only thing that we changed is the method of accounting for the inventory.  The Average Cost method will come somewhere between the two figures.

Although the warehouse and accounting department serve different functions within an organization they are closely related as it is the inventory that is the key component to driving the business.  To learn more about Financial accounting and its impact on inventory valuation consult your local CPA for advise on how to run your operation and which method is best for you.  However you slice it, Zenventory, web based inventory software for your organization will be able to handle the dynamic world of accounting and inventory management.

F.O.B. is an acronym for the commonly used term FREE ON BOARD.  Although this term is widely used in the shipping and trucking industry it is important to discuss why it is vital to understand its implications on your inventory.  There are two types of F.O.B. freight.  There is F.O.B. Origin and F.O.B. Destination.  F.O.B. origin typically is understood that the freight costs are the responsibility of the buyer.  However the question that I propose is, who owns the inventory and at what point  does the title of the merchandise switch hands? When an item is F.O.B. Origin the buyer takes responsibility of both the shipping costs as well as the ownership of the material as soon as the items leaves the shipper’s dock.  Conversely,  when the items are F.O.B. Destination, it is the responsibility of the shipper to cover the freight costs, as well as to ensure that the material arrives to it’s destination in satisfactory condition.  Only when the recipient accepts delivery do they gain title of the items.  F.O.B. Destination protects the buyer from the risk of loss, damage, or theft during transit.

If items travel F.O.B. Origin there is a great probability that the system will reflect items in-stock even though they have not reached their designated location.  These would be instances of the paper life of an item traveling faster than the item itself.  Inventory management Software must understand how the shipment is placed with a particular vendor and when to make the proper adjustments to the system.  In transit may be an interim status set by the software between the time the items were shipped and received.  This would alert the warehouse personnel why there may be a discrepancy in their counts and what the inventory system reflects.  To learn more on how to manage the differences between the actual life and the paper life of your inventory contact us and see the power of Zenventory Web Based Inventory management software.

Now that we have discussed the different types of stock we can now talk about some of the costs that are associated with having inventory.  Generally speaking costs can be divided into two main groups.  Ordering costs and holding costs.  Ordering costs can simply be described as the cost of the personnel that actually place the orders and the costs associated with expediting or shipping the product.  Holding costs, on the other hand, are a little deeper.  There are storage costs such as building rent, material handling equipment, labor to receive and manage the inventory, stock losses like theft and damage just to name a few.

Maintaining inventory is import for several reasons.  In order to plan, schedule, and be prepared for the dynamic world of the supply chain, inventory can act as a bridge between what you need and what you produce.  Inventory enables you to establish a level of predictability with in your business.

There are times when demand fluctuates or spikes and having adequate amounts of stock on hand to meet those fluctuations or peaks provides a level of protection or insurance if you will.  When a customer relies on the fact that your organization will have a certain product on hand, it is your inventory that solidifies your value as a provider, vendor, or business partner in the eyes of the customer.  There is no worse feeling than when a customer requires an item urgently, and they look to you to get them out of the jam only to find out that you cannot deliver the product due to insufficient stock.  A balancing act must be maintained as to not overstock and tie up too much money on material that does not turn quickly.

On the other side of the coin supply can also fluctuate.  Raw materials may become scare for a variety of reasons and the availability of what you need may become increasing difficult to obtain.  Inventory protects your organization from circumstances that are out of your control or line of sight.

Inventory is a key function of price protection.  As we all know prices are on the move and they usually move upwards.  When holding stock on the floor you insulate yourself from the cyclical price increase that we all experience.  Many times you can receive a discount if you buy in bulk.   Also, if you are ordering less often then the costs associated with ordering, like freight, are minimized.  A wise purchasing department utilizes blanket purchase orders to lock in the price over a period of time but not carry the stock in house limiting their exposure to over spends on inventory.

Inventory is important for certain organizations to protect pricing, customer satisfaction, to control fluctuations in supply and demand, and limit overall exposure to the changes of the business climate.  I will discuss how some organizations view inventory as waste like a JIT or Just-in-time operations in a later addition to this post.

In order to truly understand how to manage inventory we must first understand what are the different types of inventory or stock, why it is important to have or not have inventory, what to do with unused inventory, and the many financial implications of carrying or holding inventory within your organization. We also need to be able to know the differences between physical and paper inventory and how they impact our companies in different ways.

Inventory can be viewed both as tangible and intangible.  Tangible inventory is what is actually on the shelves or in the warehouse.  Intangible inventory is what your system states that you currently have on the floor or shelves.  It is vital that these two numbers be very close to exact as decisions are made based on what the system or paper is showing to be in stock.  If there are great discrepancies between these two numbers then the probability of an overspend or an under order is likely.

Inventory is categorized in several groups.  First, there are the raw materials that are needed to create a finished product.  Take the example of a bakery.  The raw materials of  a cake would be ingredients such as eggs, flour, and sugar.  The raw materials are made into sub assemblies also known as “WORK IN PROGRESS” .  This would cake batter in the previous example.  Works in progress are raw materials that are in the process of becoming finished products.  It is important to keep WIP to a minimum as too many unfinished projects can lead to variety of problems within the supply chain.  Finally, once all of the parts and  sub-assemblies are combined to make a complete item you arrive at the FINISHED PRODUCT.  A chocolate cake, ready for sale and consumption would be the finished product in the bakery example used above.

There are also functional types of stock like CONSUMABLE stock.  These are the items that an organization uses on a day to day basis to maintain it’s business function.  Consumables could be  coffee, copy paper, cleaning supplies, packaging materials or any items that they use and are not for resale.

An additional stock category would be Service and Repair stock,  or S&R for short.  Spare parts, lubricants  and fluids or any items that are required to help maintain your business machines viability would fall into this category.  Business machines could be anything from a computer to a forklift.  If they require items to be kept on hand to keep them up and running properly, then these items would fall into the S&R category of inventory.  S&R items will not become obsolete providing the machine that they are used to maintain remains in use.