Inventory Control Systems: Types & Purpose
Inventory Control Systems: Types & Purpose
Managing inventory is essential for the success of many businesses. In this video, you’ll learn about different types of inventory control systems. We’ll take a look at continuous and periodic systems as well as the ABC classification system.
Overview of Inventory and Control Systems
Meet Rebecca. She owns a company that manufactures office furniture. Rebecca needs to carefully monitor and manage her inventory. Inventory consists of the raw materials and finished parts or components that are used to make the goods or services that a business sells and the finished products that are offered for sale. For example, inventory at Rebecca’s company includes things like lumber, fabric, leather, screws, nails, glues, partially finished furniture, and finished furniture.
Inventory control is about ensuring that you have enough inventory to meet the needs of your company and its customers; it involves the accurate monitoring and recording of inventory levels so decisions can be made concerning it. Rebecca has some options regarding inventory control systems to employ. Let’s take a look at some of them.
Continuous Inventory Systems
One option for Rebecca is to use a continuous inventory system, also known as a perpetual system or a fixed-order-quantity system. If Rebecca utilizes a continuous inventory system, a record of the inventory level is maintained for each item in inventory. If someone uses a screw, a reduction in the screw inventory is noted. Once an item in the inventory reaches a certain threshold, the item is reordered in a quantity that maximizes costs savings (e.g., buying in bulk to reduce the cost per screw).
A continuous inventory system has advantages and disadvantages. On the plus side, the continuous record keeping means Rebecca will always know the status of her inventory and will know when the trigger should be pulled to obtain more. On the negative side, it can be costly and time consuming to continuously keep count of inventory.
Periodic Inventory Systems
Rebecca could choose to go with a periodic inventory system, which is also known as a fixed-time-period system or period review system. In this system, you count your inventory within a set period of time, such as every Friday, or on the first day of each month. Inventory is then ordered at this time to replenish it to the desired level. For example, at the end of the month, Rebecca may find the company only has 1,000 screws left, so she decides to order 4,000 more to bring the level up to 5,000.
Periodic inventory systems have advantages and disadvantages, too. On the plus side, you really don’t have the cost related to recording keeping and constant monitoring. On the other hand, you lose some control because you’re not paying attention all the time to your inventory. In order to ensure you have enough inventory before the next periodic review, you may end up ordering more inventory than what is really needed just to be safe, which is not an efficient allocation of resources.
ABC Classification System
Since Rebecca is in the manufacturing business, she may opt to use an ABC classification system, which is often used by manufacturers. An ABC classification system basically divides all the items in a company’s inventory into three categories based upon the relative value of the item. Items in class A typically constitute between 5 to 15% of a company’s total inventory but somewhere between 70 to 80% of the total value of all items in inventory. Items in class B typically amount to about 30% of all items in inventory but only about 15% of total inventory value. Finally, class C may comprise somewhere between 50 to 60% of the total items in inventory but only about somewhere between 5 to 10% of the total value of all items in inventory.
The level of inventory control for each item in inventory depends upon the item’s classification. Class A items are subject to tighter inventory control than items in class B or class C because they constitute a much larger portion of the total value of the company’s inventory, and mistakes in management are far more costly. Let’s look at Rebecca’s company for an example.
Rebecca may have 5,000 wood screws on hand (a class C item), several bolts of a particular basic quality upholstery fabric (classified as a class B item), and a precious few board feet of an exotic and expensive South American hardwood (classified as a class A item)s. She imposes a continuous inventory system on the exotic hardwood and other class A items where inventory levels are continuously monitored and controlled. On the other hand, she may impose a periodic system for class B and C items where class B items, like the cloth, are counted at the end of each workweek, and class C items are counted and ordered on the first workday of each month. Some items, like office paperclips and pens, may not even be counted but merely ordered when staff figure out they’re about out.
Video Summary
Let’s review what you will learn.
Inventory is raw materials and finished parts or components that are used to make the goods or services that a business sells and the finished products that are offered for sale. Inventory control involves the accurate monitoring and recording of inventory levels so decisions can be made concerning it.
Companies have more than one option to control their inventories. A continuous inventory system, also known as a perpetual system or a fixed-order-quantity system, is where a record of the inventory level is maintained for each item in inventory. On the other hand, a periodic inventory system, which is also known as a fixed-time-period system or period review system, is where you count your inventory within a set period of time. The ABC classification system classifies each item of inventory by classes with the more high value, low volume items more closely monitored than the high volume, low-value ones.
The ABC classification system divides all the items in a company’s inventory into three categories based upon the relative value of the item and may use both the continuous and periodic systems depending upon the class of inventory involved.