Inventory Cost Management: A Comprehensive Guide
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Types of Inventory Costs
Ordering Costs (Setup Costs, Replenishment Costs): Expenses incurred every time an order is placed.
- Examples: Order processing fees, clerical costs for invoice processing, amortization of the EDI system.
Carrying Costs (Holding Costs): Costs associated with storing inventory.
- Examples: Storage space rental, insurance, utilities, and inventory management software.
Stock-out Costs (Shortage Costs): Expenses arising from inventory shortages.
- Examples: Lost sales, expedited shipping costs, and damage to customer relationships.
III. Inventory Cost: Ordering Costs
1. Order Processing Costs
- Fixed cost, independent of the order quantity.
- Includes fees for placing orders, clerical costs for invoice processing, and amortization of the EDI system.
2. Inbound Logistics Costs
- Variable costs related to transportation and receiving (unloading and inspection).
III. Inventory Cost: Carrying Costs
Capital Cost: Costs related to investment, interest on working capital, and opportunity cost of capital tied up in inventory.
Storage Space: Expenses for building and facility maintenance (lighting, air conditioning, heating, etc.), purchase, depreciation, lease or property taxes, and storage space saturation.
Inventory Service Cost: Includes insurance, IT hardware and applications, physical handling, inventory control costs, and taxes.
Inventory Risk Costs: Costs associated with potential value depreciation of stored items (especially relevant for perishable goods and in retail).
- Shrinkage: Loss of products between purchase and sale due to administrative errors, vendor fraud, theft, and damage during transit or storage.
- Obsolescence: Costs incurred when items expire or become outdated.
III. Inventory Cost: Stock-out Costs
Stockout Cost: Cost of not having a product available when customer demand arises.
Safety Stock: Buffer inventory held to mitigate stock-out risks (carrying costs for safety stock should be considered).