Supply chain management for agribusiness - Agribusiness Management - page 355

Table 15.1 Reasons for different inventory levels

Reasons for Smaller Inventories Reasons for Larger Inventories

Interest or opportunity costs Customer service and varying demand

Storage and handling costs Ordering or set-up costs

Improved quality Labor and facility utilization

Property taxes and insurance premiums Transportation costs

Shrinkage costs—obsolescence, pilferage Quantity discounts

In recent years, many agribusiness fi rms have found that inventory levels can be reduced
signifi cantly without reducing customer service because better information systems have
reduced the time between placing an order and inventory replenishment. Smaller inventories
can improve quality levels because the feedback loop between production and use is
shorter. Not surprisingly, better quality and the fl exibility to produce smaller quantities of
products have increased labor and equipment utilization. As a result, the savings combined
from all of these improvements have offset higher ordering costs and loss of quantity dis-
counts. In addition, obsolescence costs and pilferage have been minimized with smaller
levels of inventory.
Inventory can be broken down into three general categories used for accounting purposes.
Inventory in the procurement or raw material phase comprises about 30 percent of total
inventory. For example, various grains, vitamin supplements, by-products, and preventive
health ingredients are all raw materials used to make hog feed. A second accounting cate-
gory of inventory is work-in-process (WIP) or inventories that are in the conversion phase.
These inventories make up an additional 30 percent of total inventory on average. Examples
of WIP are engine sub-assemblies awaiting fi nal assembly into a farm implement. The third
category of inventory is fi nished goods inventory, the remaining 40 percent of inventory.
Finished goods are the outputs from the conversion process, which are now ready for usage.
Breaded veal cutlets in cold storage would be an example of fi nished goods inventory.

Types of inventory

Now, let's give an example of different types of inventories. Rita Tyner is vice president in
charge of production for a power equipment manufacturing company located in Indiana.
Though the fi rm manufactures several products, one of its most profi table items is a garden
tiller. Rita's company sells garden tillers at an average rate of 25 per week. When the ware-
house stock of garden tillers reaches a certain, agreed-upon level of depletion, called the
reorder point , Mike Torres, the warehouse manager, sends Rita an order for more tillers.
The total time for the order cycle takes two weeks (i.e., paperwork, receipt and fi lling of the
order, transportation, and receipt at the warehouse). The amount of stock that Mike has on
hand when he reaches that critical reorder point depends on the kind of inventory being
used.
Pipeline inventories are the minimum amount of inventory needed to cover the period of
time between the warehouse's reordering and its receipt of the additional stock, or lead-time.