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What is 'Inventory Management'

Inventory management is the practice overseeing and controlling of the ordering, storage and use of components that a company uses in the production of the items it sells. Inventory management is also the practice of overseeing and controlling of quantities of finished products for sale. A business's inventory is one of its major assets and represents an investment that is tied up until the item sells.

BREAKING DOWN 'Inventory Management'

Businesses incur costs to store, track and insure inventory. Inventories that are mismanaged can create significant financial problems for a business, whether the mismanagement results in an inventory glut or an inventory shortage.

Successful inventory management involves creating a purchasing plan to ensure that items are available when they are needed — but that neither too much nor too little is purchased — and keeping track of existing inventory and its use. Two common inventory-management strategies are the just-in-time (JIT) method, where companies plan to receive items as they are needed rather than maintaining high inventory levels, and materials requirement planning (MRP), which schedules material deliveries based on sales forecasts.

Balancing the JIT Method

Companies can save significant amounts of money and reduce waste by using a JIT inventory management system. JIT means that manufacturers and retailers keep only what they need to produce and sell products in inventory, which reduces storage and insurance costs, as well as the cost of liquidating or discarding unused, unwanted inventory. To balance this style of inventory management, manufacturers and retailers must work together to monitor the availability of resources on the manufacturer’s end and consumer demand on the retailer’s. Otherwise, JIT inventory management can be risky. For example, a furniture retailer keeps no more than four mahogany dining room chairs in stock. The retailer displays the chairs in its showroom; no additional chairs are stored in the backroom. A manufacturer orders no more than the amount of mahogany needed from its source to produce those four chairs. During the retailer’s peak season when customers special order 24 chairs, the manufacturer acquires the exact amount of mahogany needed to manufacture and ship 24 chairs. If the manufacturer cannot acquire the mahogany it needs from its source, however, the retailer runs the risk of not being able to fill the customers' special orders. For both the manufacturer and retailer, being out of stock results in lost revenue and diminished reputation.

Balancing the MRP Method

The MRP inventory management method is sales-forecast defendant. This means that manufacturers must have accurate sales records to enable accurate planning of inventory needs and to communicate those needs with materials suppliers in a timely manner. For example, a ski manufacturer using an MRP inventory system might ensure that materials such as plastic, fiberglass, wood and aluminum are in stock based on forecasted orders. Inability to accurately forecast sales and plan inventory acquisitions results in a manufacturer's inability to fulfill orders.

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