Chapter 22 Inventory management

Question 1

What is stock?

Answer 1

Stock (inventory) is materials and goods required to allow for the production and supply of products to the customer

Question 2

What are the 3 forms of inventory?

Answer 2

1 Raw materials and components
2 Work in progress
3 Finished goods

Question 3

What can happen without effective stock management?

Answer 3

1 There might be insufficient stocks to meet unforeseen changes in demand
2 Out-of-date stocks might be held if an appropriate stock-rotation system is not used e.g. for fresh foods or for fast-changing technological products
3 Stock wastage might occur due to mishandling or incorrect storage conditions
4 Very high stock levels may result in excessive storage costs and a high opportunity cost for the capital tied up

Question 4

Stock-holding costs: Opportunity costs

Answer 4

The working capital tied up in stocks could be put for other uses e.g. used to pay off loans or left in a bank to earn interest.

Question 5

Stock-holding costs: Storage costs

Answer 5

Stocks have to be held in secure warehouses. They often require special conditions, such as refrigeration. Staff will be needed to guard and transport the stocks. These are all costs that add to the firm’s overheads

Question 6

Stock-holding costs:Risk of wastage and obsolescence

Answer 6

If stocks are not used or sold as rapidly as expected, then there is an increasing danger that they can become damaged and/or outdated. This will lower the value of such stocks.

Question 7

Costs of not holding enough stocks: Lost sales

Answer 7

If a firm is unable to supply customers ‘from stock’, then sales could be lost to firms that hold higher stock levels

Question 8

Costs of not holding enough stocks:Idle production resources

Answer 8

If stocks of raw materials and components runs out, then production equipment will have to stop. This will leave expensive equipment idle and labour with nothing to do.

Question 9

Costs of not holding enough stocks:Special orders could be expensive

Answer 9

If an urgent order is given to a supplier to deliver additional stock due to shortages, then extra costs might be incurred in administration of the order and the special delivery charges could be more expensive.

Question 10

Costs of not holding enough stocks:Small order quantities

Answer 10

By ordering in small quantities, the firm may lose out on bulk discounts, and transport costs could be higher as so many deliveries have to be made.

Question 11

What is Optimum order size?

Answer 11

Economic order quantity is the optimum or least-cost quantity of stock to re-order taking into account delivery costs and stock-holding costs

Question 12

What is Buffer stocks?

Answer 12

Buffer stocks are the minimum stocks that should be held to ensure that production could still take place should a delay in delivery occur or should production rates increase.

Question 13

What is maximum stock level?

Answer 13

This may be limited by space or by financial cost of holding even higher stock levels.

Question 14

what is Re-order quantity?

Answer 14

The re-order quantity means the number of units ordered each time.

Question 15

What is Lead time?

Answer 15

The lead time is the normal time taken between ordering new stocks and their delivery.

Question 16

What is Re-order stock level?

Answer 16

The re-order stock level is the level of stocks that will trigger a new order to be sent to the supplier.

Question 17

What is Just-in-time (JIT) stock control?

Answer 17

Just-in-time is a stock-control method that aims to avoid holding stocks by requiring supplies to arrive juts as they are needed in production and completed products are produced to order

Question 18

What are the requirements that a business must meet in order to use JIT successfully?

Answer 18

1 Relationships with suppliers have to be excellent
2 Production staff must be multi-skilled and prepared to change jobs at short notice
3 Equipment and machinery must be flexible
4 Accurate demand forecasts will make JIT a much more successful policy
5 The latest IT equipment will allow JIT to be more successful
6 Excellent employee-employer relationships are essential for JIT to operate smoothly
7 Quality must be everyone’s priority

Question 19

Advantages of JIT?

Answer 19

1 Capital invested in inventory is reduced and the opportunity cost of stock holding is reduced
2 Costs of storage and stock holding is reduced. Space released from holding of stocks can be used for a more productive purpose

Question 20

Disadvantages of JIT?

Answer 20

1 Any failure to receive supplies of materials or components in time caused by, for example, a strike at the supplier’s factory, transport problems or IT failure will lead to expensive production delays
2 Delivery costs will increase as frequent small deliveries are an essential feature of JIT

Question 21

Evaluate JIT.

Answer 21

1 JIT requires a very different organisational culture to that of other stock-control systems are referred to as ‘JIC’ – holding stocks ‘just in case’ they might be needed

JIT may not be suitable for all firms at all times,
1 There may be limits to the application of JIT if the costs resulting from production being halted when supplies do not arrive far exceed the costs of holding buffer stocks of key components

2 Small firms could argue that the expensive JIT systems needed to operate JIT effectively cannot be justified by the potential cost savings