CHAPTER TWO: THE ROLE OF INVENTORY MANAGEMENT ON CUSTOMER SATISFACTION

2.0 REVIEW OF RELATED LITERATURE
This is a report summarizing the answers to the research questions generated by researcher in the previous assignment. It is a review of relevant literature that will explore the available and existing information which had been covered by the various researchers. The literature was reviewed from, Journals, the internet, reference books, magazines, working papers, reports and periodicals. The long answer is that the review of literature discusses techniques and equipment that are appropriate for investigating your topic, and the review of literature, summarizes the theory behind your experience.
2.1   THEORETICAL FRAMEWORK.
2.2   RELATIONSHIP MARKETING THEORY:
This is a theory that is used in the various fields such as supply chain management, international marketing relationships, networks, data base formation as well as in transactional analysis (Traisa, 2010). This theory offers various dimensions such as commitment and co-operation that are useful in studying the various relationships that exists between different phenomenon that are related to the relationship between the buyer and the seller especially in information sharing (Wilson, 1995). The relationship marketing theory, explains the various. Buyer-supplier relationships and its information sharing, (Toften and Olsen, (2013) as well as offers explanation of the various streams in the said relationship, the various dimensions in the relationship as well as the relationale or the justification for the relationship  such a as the structure and the process of the relationship.
2.1.2 ASSIMILATION THEORY
            Assimilation theory is based on the dissonance theory by Festinger’s (1957). Dissonance theory states that consumers make cognitive comparison between the expected product expectations and the perceived performance of the product (Peyton, Pitts and Kamery, 1979). According to Anderson (1993), customers try to reduce and avoid disagreement by making adjustments concerning their perceptions about a certain product and try to bring them more in line with their expectations (Peyton, Pitts and Kamery, (1979). Consumers also try to reduce the worry between their expectations and actual performance of the product by raising the level of satisfaction through the minimization of the importance of the experience that have been disconfirmed or by distortion of the expectations so that they can match with the product performance perceived (Olson and Dover, 1979).
2.2.2 EMPIRICAL REVIEW OF VARIABLES.
2.2.3 INVENTORY MANAGEMENT
            The main aim of inventory management is to ensure that organizations hold inventories at the lowest cost possible while at the same time achieving the objective of ensuring that the company has adequate and uninterrupted supplies to enhance continuity of operations (MP Wanya, 2005). A study carried out by Shausaneb and Routroy (2010) shows that companies are keen in managing their inventory so as to reduce costs, improve the quality of service, enhance product availability and ultimately ensure customer satisfaction. Results of a study carried out by Rosenfield and Simchi-levi (2010) shows that inventory management has a huge financial implication on both the customer satisfaction and financial performance of an enterprise.
Inventory levels:
            High levels of inventory increases the probability that the customers are likely to get what they want, increases sales and service levels (Cachon and Terwiesch, 2006). High inventory levels however lead to both stock holding costs and in-store logistics errors. This is because it becomes difficult for the employees to perform shelving and replenishment which makes goods physically available in the store but the employees cannot trace those (Phantorn products) , (Ton and Raman, 2005). Maintaining optimum levels of inventory is important in an organization because excess inventory results in stock holding costs, breakages, pilferage and inadequate inventory (stock outs) is also costly as customers may leave to competition (Beling, 2011). For each sale that an organization does loose as a result of stock outs, the company not only loose profits but also customers who may be dissatisfied and source for an alternative reliable supplier (knights, 2008). When inventory management (maintaining adequate inventory levels) is carried out efficiently, it ensures that the materials needed in an organization are available in the right quality, quantity thus avoiding issues of overstocking and under stocking and ultimately guaranteeing customer satisfaction and increased profits (Ewuolo, et al, 2005).
Inventory costs.
            Inventory costs in an organization comprise of inventory carrying costs (opportunity costs, insurance, and rent). Ordering costs, (transport charges, insurance on goods in transit, inspection of goods inwards) as well as the shortage costs (Idle machines, labor, loss of sales). Members of the supply chain should find an optimum balance between supply chain inventory costs and customer satisfaction (Bertrand, Poutre and luin, 2006).
            A study by Narkoty (2012) among the Ghana health services found out that inventory is one of the largest assets in the organizations and hence the need to manage it. Results of a study carried out by Nordin (2002) shows that inventory costs can be reduced by implementation of re-ordering points as well as appropriate economic order quantities (EOQ).
            Studies by Lee and Centinkaya (1998) show that companies increasingly employ strategies such as vendor management inventory (VMI) in an effort to control inventory carrying costs.
According to small business resource (2013), Organization cash flows can only be improved through the reduction of excess inventory and the optimization of inventory levels.


LEAD TIME
Today’s customer focused business environments are facing the challenge of creating processes that are responsive to the demand of the customers (Christopher, 2010). These demands for example include, product diversification as well as pricing which must be well as pricing which must be considered in order to remain competitor (Patel and Tritirogh, 2001).
            In addition, among these demands also is the need for shorter lead-times especially among the customers who want to receive the products as soon as they order them (Da Cunha, Agard and Kusiak, 2007) reduction in lead times means that products and information flow in a seamless manner which allow all the supply chain members to respond to the customer’s needs quickly while maintaining inventory to a minimum (Brewer, 2000). The increase in the distance from the suppliers premises and the complexity in the logistical aspect often result in longer lead times and higher levels of inventory (Ohno and Mae, 2012). However, it is often a challenge for companies that strive to achieve costs reduction  through lower lead times and reduced inventory levels since it is difficult for logistics to achieve  both goals (Rushton et al, 2006) Eckert (2007)  asserts that better management of inventory is directly proportional to customer satisfaction. Customers are said to be more satisfied if their supplies are able to meat and fulfill their orders within their required time (Widing, 2003).
The desire to satisfy the customers according to (Wang, 2007) makes the supply chain members to keep buffer (Safety) stocks. The supplies also enter into long term relationships (which require trust and commitment) with their suppliers to secure sustainability in supplies.
2.2.4. CUSTOMER SATISFACTION
            Morgan and Rego (2006), Fornell et al (2006) define customer satisfaction as a measure of a firm’s customer base in terms of size, quality and loyalty. Customer loyalty and product repurchase are as a result of customer satisfaction (Eckert, 2007). Among the several ways that an organization can employ to service its customer are through information management and customers  collaboration (Langty and Halcomb, 1992) satisfaction according to Eckert (2005) refers to the quality of the products, services, price performance ratios as well as when a company meets and exceeds the requirements of the customer. Manufacturing organizations may identify customer satisfaction in terms of on-time delivery as well as meeting customers specification needs (Eckert, 2005) variables such as customer needs (having the products immediately and on hard to satisfy the customer’s need) Vend ore partnerships (sharing of information regarding sales, sales forecasts as well as amount of inventory) and data integrity (data on sku and location which assists in overall inventory management) (Lee and Klener, 2001) often define customer satisfaction among the manufacturing sector. Firms must respond to the changing customers needs in the increasing competition environment (Zhang, 2005). Zerbini et al (2007) asserts that customer satisfaction is one of a firm’s mile stone towards profitability. The main focus of companies today is to satisfy the customer which as an impact on the competitiveness of an enterprise (Rad, 2008). Customer’s expectations according to (Howgego, 2002) are largely dependent on the flexibility of the supply chain partners.
CUSTOMER LOYALTY
            Customer loyalty is the act of customers buying current brands repeatedly as opposed to choosing those of competitors (Wyse, 2012). A study carried out by Michel (2004) shows that customer satisfaction leads to customer’s retention which in turn generates a loyal customer base in an organization. Customer loyalty requires that manufacturing companies delivers on their customers expectations fully in a predictable and an ongoing relationship (Campton, 2004). Customers often judge the quality of the services that they receive using their perceived expectations which often lead to customer satisfaction and loyalty (Colbum, 2013). According to Cacloappo (2000), an increase in customer loyalty by five percent can lead to an increase in a company’s profits by 25 to 85 percent. Loyal customers according to Eckert (2005) one six times more likely to purchase or to recommend the purchase of a company’s products and services to someone else. Various studies have also shown that dissatisfied customers are likely to tell nine others while satisfied customers are likely to tell five other people about the good service and treatment that they have received (Cacionappo, 2000). Manufactures need to provide customer purchase satisfaction before and after a purchase since this is likely to lead to customer brand loyalty (Agarwal, 2007).
REPEAT PURCHASES
Customer loyalty is often manifested in repeat purchase (Allien and Wiburn, 2002) (Tuli and Bharadwa, 2009) observed that satisfied customers are likely to adapt a behaviour of increase in purchase as well as a continuous purchase from the firm. Agarwal, 2007.
 Asserts that provision of customer purchase satisfaction before and after a purchase results in repeat purchases. Provision of satisfaction before the actual purchase by the customer would include aspects such as provision of quality products, fair pricing of products as well as flexibility (Amini et al, 2005) post purchase customer satisfaction on the other hand would include activities such as provision of  reverse logistics (Howgego, 2002).
ON-TIME DELIVERY
According to Wallin (2006), Customers are more satisfied if the time taken to deliver their products is less than the time they are willing to wait once they have placed an order.
Flexibility is paramount in meeting the delivery deadlines (Gunasekara, 2001) and therefore information sharing is required to enable the members of the supply chain meet specified delivery dates by the customers (Elram, 1999). A study carried out by Yin-mei (2013) shows that effective customer delivery influences customer satisfaction and service quality. Customers are said to be more satisfied if their suppliers are able to meet and fulfill orders within the required time (Widing. 2003).
Conceptual Framework of Inventory Management (Eduardus Tandellin)
The     Current global economy, including national domestic economies, has undergone critical changes in the last decade- over the last year’s low productivity and efficiency becoming a major concern of both practitioners and academicians. Thus a growing interest in developing models to increase productivity and decrease production costs has been observed. Because of these developments. Minifie and Davis, (1986) stated that one area that has become a focal point since the 1960’s is inventories (material) management.
            Inventories have formed a vital part of business since these are only necessary for production and efficiency; these also contribute to customer satisfaction.
            Stevenson (1996) further the added that although the amounts and dollar values of inventories carried by different types of firms varies widely, a typical firm probably has about 30 percent its current assets, and perhaps as much as 90 percent of its working capital invested in inventory.
However, excess inventory diminishes a firm’s ability to compete and particularly affects the competitive priorities of price, quality, flexibility and time (Chase and Aquitano, 1995) It is for this reason that Finch and Luebbe, (1995) stated that the Just in-time philosophy describes excess inventory as one of the key wastes to eliminate. Appropriate levels of inventory enhance all the competitive priorities because they protect a business from disruptions that could hinder its operation. Although the Just- in time philosophy has been considered an effective means of inventory management Bahadur (1995) argued that, the main idea of Just-in time was primarily to eliminate the inefficiencies caused by excess inventories. Excess inventory frequently exists and these not only disrupt and  hinder operations but also could be a result of poor decision making. Thus Ellran, (1995) notes that if all suppliers were perfectly dependable, if machines never broke down, and if demand could be forecasted with prefect accuracy, inventory needs would diminish. In the light of the arguments cited concerning this production management strategy, this paper aims to develop an alternative conceptual framework for inventory management under the J I T philosophy.
            Conceptually, Noori and Radford (1996) defines inventory as the stock of any item or re-source used in organization. On the other hand, an inventory system is the set of policies and control that monitors levels of inventory and determines what level should be maintained, when stock should be replenished, and how large order should be.
            Stephenson (1996), Classifies manufacturing inventory into:
1.                  Raw material and purchase parts
2.                  Partially completed goods called work-in-progress (WIP)
3.               Finished goods inventories (manufacturing firms) or merchandise (retail stores).
4.               Replacement parts, tools and supplies and
5.                  Goods in transport to warehouse or customers in service.
2.3 NEED FOR INVENTORY MANAGEMENT AND CONTROL
            Any stock one has should be purposeful, planned and one’s policy should be to regulate this planned inventory in such a manner to attain effectiveness and efficiency.
            Unfortunately some companies which are quite obvious of the importance and / or the benefit inherent in modern scientific inventory control system, non-existent stock system are proved of their so called system. They lack the essential core, a target or objective which is to be achieved and so remain a more stock recoding system, a nervous system without a guiding brain. In the opinion, Albert, (2001), there are three people in an average, small, medium sized company whose actions and mental, attitudes have a big effect on the general level of stocks.
            First, the Sales manager’s job is to make sure that every customer gets the goods he wants in the right quantity and at the right time and at the right price. The sales manager will try to make sure that goods are always available to meet any demand, however unexpected to this end; he exerts pressure on the production department. The sales man’s pressure will always be leading to drive stock levels upwards.
            Secondly, The production manager’s, when the plant needs to be changed over from one product to another, it will have to hold, carry over or circle stocks and the total amount of such stocks is directly proportional to the length of production run. Thirdly, the buyer, the man with a big order to place is in a strong position when it comes to negotiating terms advantageous to his firm.
            In doing so, he may well be forcing the sales manager of his suppliers to press for longer stock. From the above illustration, it is understandable that the man responsible for selling, producing and buying have directly control of stock levels and each of them in trying to achieve efficiency within his own department may cause stocks to go up.
In view of this, Harper and Lins, (2000), stated that the need for stock control is in two perspectives. First, to control the maximum number of items necessary to run a business efficiently, but which need not be carried on stock and, Secondly, to establish sufficient stock holding to keep the business running smoothly while ensuring that there is a constant turnover of stocks.
            Obviously, accepting the logical conclusion would be to eliminate all stocks. But this is not possible because of fear of late deliveries and the need to safeguard against peaks in demand which market research has not been able to foresee. Hence in support of the first reason, Prabhic and Baker, (1990) suggested that “it is important to use all the techniques possible to avoid carrying stock wherever possible as it is to ensure that stocks are available when they are necessary.
            One technique, which is now gaining ground in certain companies and which enables the stock controller to keep his production lines flowing without having to carry stocks, is the introduction of the consumption / depletion contract agreement. This is a method whereby the stock controller will work very closely with purchasing in deciding which forms and which ranges of stocks are best suited to this contractual arrangement. Having jointly established this, it is the stock controller’s function to determine the lead time of such stocks, added to which will possibly be a safety stock margin. Quantities of these products will then be laid down in stocks to cover period and the first consignment will be on consumption/depletion basis, that is, the supplier will place these stocks in the stock controller’s stores at his own expense, and the stock controller, by arrangement, either fortnightly or monthly, will advise the supplier of the quantity he has consumed by means of a letter or order (preferably a letter). The supplier will take this document as an instruction to invoice to replenish a similar quantity of material to the stock controller’s store. The quantity used for month must be paid for, again, by arrangement with purchasing within 14 days or at the latest 28 days of the submission of the goods used. Purchasing may enter into a two- or three years contract with the supply of his range of products with a safeguard clause in the contract to the effect that should be produced under contract diminish in quantity or the service deterioration or for any reason whatsoever, the contract there will be three months notice from either way, by which the arrangement can be terminated. Thus stock controller is not tied to one contractor.
            The second reason which is why a business needs stocks was highlighted by Baily and Farmer, (1999) and they categorized it into four.
1.      Raw materials and components:
a.      To purchase at optimum price or lowest cost. This sometimes means buyers in bulk to take advantage of higher efficiency of bulk transport and handling, to reduce administrative costs of purchasing receipts, and handling results in fewer orders being placed for larger quantities.
b.      To be able to supply the manufacturing process at short notices if batches of production become necessary and new suppliers cannot be obtained without delay.
c.      To ensure production against seasonal supplies, determined by geographical features such as grouping.
2. Work-in-progress:
a.      To ensure in consecutive production process, that material is always available to match work, which is machine availability.
b.       To permit long runs of machine work, which in turn will avoid continuous re-setting? It may be found economical to produce a batch equal to several months’ requirement to accomplish this.
c.      Process time: The actual minimum time necessary to carry out the various processes from raw material to finished product.
2.      Maintenance parts and Consumable stores:
a.      This is done to avoid loss of machine and labour time due to unforeseeable failure.
b.      To avoid stoppage in main production flow due to the run
Out of inexpensive consumable items.
4. Finished and saleable product:
(a) To be able to meet rapidly an unexpected demand.
(b) To enable production to continue evenly when sales are seasonal.
It is now the duty of the management to clearly strike a balance, a technique must be available for weighing the cost of stocking against the loss of not stocking and while certain cost are easily definable, and a loss in nevertheless a cost and it must be measured in the same terms. Equally a cost saved or a loss avoided is a profit made, so it may be argued that stocks earn profits if they are avoiding losses or reduce costs.
The appointment of one person, stock controller, materials manager, call him what you will - who has the necessary experience and who must be given overall responsibility for ensuring optimum use of stocks, will help minimize the difficulty of stock control. The below summarizes all the information needed by the material controller. In order to optimize his control system he will have to produce every item to monetary values even for goods which appears on the extreme right as implied costs of run out and combine all the items in a single control function by performing suitable control operation on them.
2.4 INVENTORY MANAGEMENT SYSTEM.
An inventory management system can be described with reference to the method used for replenishing inventories. The method adapted depends on the degree of uncertainty associated with the demand made on stocks, and the degree of monitoring which can be affected in  which can be affected in each case.
            Frank and Broyles (1999) identified four systems of inventory management:
Firstly, the re-order level policy which is usually adapted to continuous or real time monitoring of stock where the arrival of orders, follow a predictable pattern only that the prediction cannot be taken as sacrosanct. This policy also requires an estimate of the lead.-time. The lead time is the time lag between the days an order is placed through the day the receipt is acknowledged.
            When stock falls to the re-order level or below, a replenishment order is placed. The re-order level is usually set high enough so that if sales during the lead time is as expected, the replenishment stock will arrive before the inventory by way of buffer or base stock, if sales exceed the forecast during the lead time.
            The two serious setbacks which the re-order level policy suffers are:
a.      The assumption of random arrival orders used against stock is inappropriate for a number of cases. The system does not take advantage of the anticipated timing of demand when replenishment orders are placed.
b.      The re-order level policy requires costly continuous real-time monitory of every item of stock. Another important system of inventory management is the periodic review policy unlike the re-order level policy. The periodic review policy is designated to operate without the continuous monitoring of stock.
This is because this policy itself operates like continuous review policy except that the status of each item is reviewed once for a period, when the re-order level is reached or is placed, to replenish stock. However, in this system, the re-order level must be set high in order to allow for expected demand during the re-order cycle, in addition to the expected demand during the lead time. It should also be expected that the base stock be increased in order to provide for variations in expected demand over the addition time period.
Another type of periodic review system provides a direct control on the stock which is to be carried. An order is placed for replenishment in each cycle, for the precise quantity, that would be the amount of stock and those already on order up to a predetermined limit. This limit must be enough to meet up with demand.
2.5 INVENTORY CONTROL METHODS
            Inventory control is the operation of continuous arranging receipts and issues so that inventory balances are adequate to support the current rate of consumption with due regard to economy. The aim of inventory control systems is to minimize the cost of having stock, while at the same time maintaining a certain level of customer services.
The various method of inventory control is as follows:
1.               ABC classification: In some companies, the same method of inventory control is used; all items in stock may not be the best or most economical approach to inventory control.  It is worthwhile to examine the features of the inventories themselves. The ABC method classifies inventories into three groups, according to the relative proportion of the funds invented in each group annually.
In many instance, it will be found that about 10% of the number of the items of inventory represent about 75% of the monetary value invested in inventories. These items may be classified as the “A” category. Also another 25% of the value may represent about 20% of the investment. This is the “B” class items. The other which is classified as “C” items may numerically cover some 65% of stock but it is just 50% of the monetary value committed into inventories. This figures as mere hypothetical yet they are not far from what is obtainable in the real system.  The figure may vary from one company to another.
The chart below shows clearly the discussion above.
CLASSIFICATION                              A                     B                     C
Relative % of total inventory               10                     25                   65
% of value of total investment             75                    20                   5
However, Sarpe and Schonberger, (2000), discussed the most current inventory control method, that well established and managed companies which is the Just –in-time (JIT) method.  The  just –in-time inventory method means that the supplier delivers the  components and  parts to the production line “Just –in-time” to be assembled. Here, the storekeeper does not process any   inventory in stock.  The stock are demanded and supplied immediately they are needed for actual production to be processed. Welleigh, (2001), in his article –“What’s your excuse for not using JIT”, identified the requirements that must be fulfilled for the JIT method to work.  The quality of the parts must be very high, a defective part could hold up the assemble line. There must be dependable relationships and smooth cooperation with suppliers ideally, the supplies should be located near the company with dependable transportation available. No matter how laudable this method may be,  its effective operations in  the developing  countries is  questionable and utterly inapplicable because it  requires a well civilized, sound  and stable  economy  for  it to function. Hansen and Mowen (2001), pointed out the two strategic objective of Just-in-time. They are to increase profits and to improve a firm’s competitive position. These two objectives are achieved by controlling costs (Enabling better price competition) and   increased profits, improving delivery performance, and improving quality. JIT represents the continue pursuit of productivity through the elimination of waste. This is done or achieved by producing a product only when it is needed and only in the quantities demanded by customers. Hence, it is waste eliminating by compressing time and space.
            The most deficiency of JIT is the absence of inventory to buffer production interruptions, current sales are constantly being threatened by an unexpected interruption pin production.
            Another inventory control method is the theory of constraints (TOC) methods which recognizes that lowering inventory, decreases carrying costs and thus, decreases operating expenses and improves profits. Hansen and Mowen (2001) stated that TOC, however, argues that “lowering better products, lower prices, and faster responses to customer need”. Essentially, low inventories allow detecting to be detected more quickly and the cause of the problem assessed. Low inventories allow new product changes to be introduced more quickly because the company has fewer old products (in stock or in process). That would need to be scrapped or sold before the new product is introduced.
            No system of cost analysis and control including a sound cost accounting system will automatically assure business success. It is only through the application of such analysis and control procedures that management has been developed. This inventory valuation methods are First-in-First -out (FIFO), Last-in-First-out (LIFO) specific identification method, average cost and so on. Where as, this valuation methods are variously applied by companies more of them have been accepted as best method because such has a different impact on the balance sheet and profit declaration of the company. Hobbs and More (2001), the fact that “accounting has developed several methods of identifying which cost will be reflected as the ending inventory balance on the balance sheet”.
INVENTORY VALUATION METHODS:
FIFO: Pizey, (2000), defined FIFO as a situation where by the first goods purchased or manufactured are the first, costed out upon sale of insurance. This means that the output or raw materials that were first produced or purchased are first sold or issued out, and those who came later, will be dispensed later. Since the costs “flow out” in the same order they “flow in” cost of goods sold or issued, are valued at the oldest unit cost, and goods remaining in the inventory are valued at the newest cost/amount.
For instances, consider these stocks.
 1 /1/ 2013           Purchase                    10,000                units           @        N20
3/1/203                Purchases                  8,000                  units           @    N21
5/1/2013              Issues                         4,000                  units
8/1/2013              Issues                          5,000                 units
30/1/2013            Issues             3,000                  units
Looking at the figure above, every stock that was purchased on 1/1/2013 will be completely used up, before using the ones that was purchased after that rate.
The Table below explains more (Fig. 1)
Date
Purchase unit cost
Qty
Amount
Issues cost/
Unit
Qty
Amt
Cost/unit
Qty
Amt
1/1/13
N20
10,000
200,000



20
10,000
200,000
3/1/13
N21
8,000
168,000




8,000
368,000
5/1/13
-
-
-
20
4000
80,000

14000
288,000
8/1/13
-
-
-
20
5,000
100,000

9,000
189,000
30/1/13
-
-
-
20
1,000
20,000

8,000
168,000
30/1/13



21
2,000
42,000
21
6,000
126,000
Sources: Ezechukwu Field work
Many companies make use of the method in valuating their stock because it gives a balance sheet valuation, which approximate to current cost of stock if there has been no great time gap or no significant change in cost since the last consignment of stock was received. Also since the price based on the actual records are used, and not upon an estimate, no profit or loss arises due to the use of this valuation common to the specific identification method. It has been observed that FIFO method fails to match current costs against current revenue and may lead to over-statement of profit and the rising of capital. Where a large number of purchases are made at different prices, the use of FIFO becomes complex and expensive.
            Another inventory valuation method is Last-in-First-out (LIFO) which keeps values of issue close to current economic values.
            Its valuation of stock on stock balance is usually very conservative and no profit or losses arises. In other words, the LIFO method uses stock of material supply as they comes in. Those that are currently purchased are sent to the production department whereas, early purchases are kept until when stock are in short supply. For instance: we are using the above illustration, for LIFO method:
Date
Purchase unit cost
Qty
Amount
Issues cost/unit
Qty
Amt
Cost
/unit
Qty
Amt
1/1/13
N20
10,000
200,000



20
10,000
200,000
3/1/13
N21
8,000
168,000



21
18,000
368,000
5/1/13
-
-
-
21
4,000
84,000

14,000
284,000
8/1/13
-
-
-
21
4,000
84,000

10,000
200,,000
30/1/13
-
-
-
20
1,000
20,000

9,000
180,000
30/1/13



20
3,000
60,000
20
6,000
120,000
 Fig.2                                                                                                 


Sources: Ezechukwu Field work
         Remember that the last units are sold first; therefore, we leave the oldest units for ending inventory.
Hartley, (1999) Observed that  “in times of inflation, the value of issues are kept close to current economic values such that no profits or losses arises” This is not always true because industrial harmony and existence have shown that companies actualize their estimated profits with the application of LIFO during inflation. With the inflation companies abandon the purchase of new inventories and make use of their old inventories aim the production process whereas the price associated with the old inventories will be based on the current inflationary prices.
            LIFO accentuates pilferage and deterioration because as companies use new supply no adequate inspections are given to hold one and as such employees easily prefer it. Again, it is not realistic because it assumes physical issues to be opposite of that which is actually followed by the store-keeper.
            Meigs and Meigs, (2000) discussed another method of valuating inventory which is specific identification method. This is a method whereby the unit of the inventories will be identified as coming from specific purchase and are priced at the amount listed on the purchase invoices. Moich and Larsen, (2000), on their own view, stated that, “each item of inventory should be identified with its cost and that the sum of these by amounts should constitute the inventory value”. It has been observed that method is useful in the actual physical flow of merchandise. It also gives meaningfully results in the purchase and sale of such high-priced articles as boats, automobiles and Jewelry.
            Many companies fail to use this method because it permits manipulation of income or profit by selecting which items of goods to deliver in filling a sales order. Also, it  may lead to faulty pricing decision by implying that identical items of merchandise have different economic value.
            Care should be taken by companies in the valuation of inventories in any period because it has great impact on the amount of profit declared for the period. If the value of the closing is overstated, the profit for the period will be understated and the reverse will be the case. If closing inventory is understated. Again if the value of the opening inventory is understated, the profit for the period will be overstated, and the reverses will be the case if opening inventory is overstated. To this end, companies should at all time strike a balance between inventories.   
2.6 INVENTORY COSTS AND DECISION MODEL:
In making any decision that will affect inventory size, a number of costs have to be considered. These costs usually affect inventory position directly, often these costs are combined in one way or another but they shall first be considered separately.
            Inventory costs can be cost of the inventory items itself: this cost is the monetary value of the item of inventory concerned.
It is usually equal to the purchase price. In some cases, it may include other costs that vary, directly with each item. Transportation receiving and inspection costs may be added to the cost terms. Inspection costs may be added to the cost terms. The second type of inventory cost is the ordering cost. These costs refer, to management and clerical cost associated with preparing and placing purchases order.  They vary directly with the number of purchase order placed. Ordering cost include cost of postage, telephone call to vendor, labour costs in purchasing and accounting receiving costs and transportation costs, cost of stationary, follow up cost etc for good manufactured internally the production set up cost are the cost associated with production planning, preparing the labour force and the machinery for a production run to make the batch of item required.
            Some of these costs vary with the number of order placed. The more frequently the inventory is required the higher the company’s ordering costs. On the other hand, if the company maintains large inventory levels, there will be few orders placed and the ordering cost incurred will be relatively small. Therefore, ordering cost vary indirectly with increasing size of standard order.





Fig.3 Standard order size/Ordering cost.
2.6.2 INVENTORY DECISION MODEL:
Briges, (2001), in his opined, “For the purpose of this work, at least a decision model will be critically studied. There is as yet, no single model which holds for all inventory problems. The use of models helps us to understand the operation of inventory system and behavior of the system under real or simulated operation condition. It should be noted that in the real world, demand can almost never be predicted with certainty. Instead they must be described in probabilistic terms. The use of model goes a long way in helping to solve the most common inventory problems faced by business management, that is of deciding order quantities and re-order points. It is in view of the forgoing that the below model has been studied.
2.6.3 ECONOMIC ORDER QUANTITY (EOQ)
One of the major questions asked in inventory management and control concerns the size of order to be placed when the inventory is to be replenished. The optimum inventory is commonly known as the economic order quantity. This is that size that will result in the lowest total annual cost for the inventory item.
All relevant costs including the ordering and carrying costs described earlier must be put into consideration in computing the economic order quantity. For purpose of determining the economic order quantity graphically, only ordering and carrying costs will be identified, opportunity cost having been included in these two classes of cost already;
This is time because the implicit interest on funds invested in inventory will be considered as being part of the total carrying cost
Below is the graph that shows how economic order quantity can be determined by way of the trade-off between ordering costs and carrying costs.

Fig.4 Economic Order Quantity Function. 
The economic order quantity can as well be deduced by the use of a formula (Model) that incorporated the basic relationships   between order quantity and costs. For the purpose of this work, the method of deriving the static formula should   be ignored.  The formula is shown alongside some assumptions upon which the formula is based. The formula is  
EOQ =    2DC
               SP
Where: 
D = Demand per annum or Annual usage of material
C- Ordering cost
S= Carrying cost expressed as a percentage of inventory value.
P=  Purchase price per unit of inventory
The  basic  assumptions of economic   order inventor  are:  Firstly,  that average demand is continuously  and  constantly  represented by  a distribution  that does not change with time.  Therefore, if there happens to be a significant trend or seasonality in the average annual   requirements ‘D’ in the above model, the resulting cost will not be optimal and there may be other control problems as well.
Secondly, it is assumed that supply time is   constant. Thus assumption may hold in many cases, but supply lead times are variable. In most   situations  the  result  of  variable  lead time  is  that  the timing of  the  receipt of  the order quantity  produced   excess inventories when  times  are shorter   than  expected, and produces  shortages when lead time  are longer than  expected.
Thirdly, it is assumed that there is independence between inventory times. The economic order quantity model assumes that the replenishment of an order inventory item. This assumption is valid in many instances, but breaks down when a set of supply items are complied with a common production plan.
            Finally the use of EOQ assumes that data on annual demand ordering costs and carrying cost are available and definitely calculatedly in reality. These data can only be estimated.
2.6.4 PURCHASE PRODUCTION:
In most manufacturing companies the purchasing department is changed with the responsibility for placing ordering with suppliers, or otherwise purchase orders may be duplicated. The buyer has considerable responsibility and in a large concern much money can be lost or saved by the departments. He requires a good technical knowledge of the industry and excellent expertise of administrative and organizing ability. He must keep in constant touch with market prices, reports and market tendencies, and have a working knowledge of contract law and procedure together with a practical understanding of the principles of economic laws.
            Purchase requisition may be received from the store keeper for inventories kept in regular stock, or for all standard materials the stock of which requires replenishment. Also, purchase requisition may originate from either the production department for all special materials. Which are required directly delivery to work-in- progress or from various departmental heads requiring special indirect materials. The procedure would then be for the department concerned to prepare purchase requisition in triplicate, giving one copy to the buyer, in the department. Typical purchase requisition for stock form is shown here under:
PURCHASE REQUISITION FOR STOCK.
 Date ……………………………               No ………………………………
Quantity
Description
Stock condition
Purchase order No
Supplied





   Fig. 5 purchase requisition form.
2.6.5 PROCEDURE FOR RECEIPT AND ISSUE OF INVENTORIES
Inventories for which orders were placed are usually taken delivery not or an evidence of dispatch. Inventories entering the factory should be unloaded at special receiving center. This should be cited near the road, railway, carnal or wharf, at same time accessible from any part of the factory so as to reduce handling charges to minimum.
            The receiving department would receive the inventory and check them against the details of the purchase order. Entries are then made on a goods received note, and distributed to the purchasing department, accounts section, stores, inspection department and the department that initiated the purchase requisition; one copy is retained in the receiving department for reference purposes.
            The goods received should be inspected for quantity to ensure that they comply in all respects with the specifications in the purchase order. In many large companies, an inspection staff is attached to the receiving department, while in small companies, the storekeeper is responsible for inspection. If any goods are rejected, the inspector will state the reason for rejection on a special rejection report, so that the buyer is informed immediately for the purpose of contacting the supplier. The goods received note (GRN) format II prepared by the receiving department is shown below.
GOOD RECEIVED NOTE (GRN)
    From ………………                                           C. R. No ………………. 
GOODS
QUANTITY
PACKAGE
ORDER NO
FOR OFFICE USE RATE N





Carrier: Received by: Goods inspection report.
PURCHASE REQUISITION
NOTE ON PROGRESS CHART
BIN NO
INVOICES NO
AKS REF





Fig. (7)
After receiving and inspecting the goods, the receiving department sends the goods, to stores along with the goods received note. The storekeeper receives them and makes the necessary entries in the books. Bin cards (Stock cards) and Store ledger are used. The bin cards are written in the stores, but the store ledger is kept by the cost department or store office.
            The bin cards are used not only for detailed receipts and issues of inventories but also to assist the storekeeper to control the stock.
For each inventory item, the maximum and minimum to be carried are stated on the card. From time to time, the maximum or minimum may be altered to suit current requirement.
            To facilitate ordering of further supplier the normal quantity to order is sometimes stated in the bin card. When inventories are of the kind requiring advance ordering, an ordering level may be specified on the bin card. The various receptacles in which inventories are kept and numbered, the bin card for each being similarly numbered. The typical layout of a bin card is as follows:
BIN CARD
Description ………………………               Maximum level……………………………
Bin No……                                Minimum level ……………………………….
Code NO:……                           Reorder level …………………………..
 Stores ledger folio:                                                                                     Normal Quantity
date
Receipt  QRN NO:
ISSUES QUANTITY
BALANCE
REMARKS





F.G 8: Bin card.
2.7 INVENTORY MANAGEMENT IN A MANUFACTURING COMPANY:
            It should be quite obvious that policies, system and technologies of making and controlling inventories in manufacturing or automobile industries would not be very much different from those discussed in this work. This is largely because the aim(s) of inventory management in all companies are almost the same. Inventories should be maintained at the levels that are just relevant for smooth production and sales operation. If this is done, much working capital would be saved. If on the other hand, much money is surged into stock, it would decrease the working capital of the company; this may affect the company adversely.
            Controlling inventory does not have to be an onerous or complex proposition. It is a process and thoughtful inventory management. There are no hard and fast rules to abide by but some extremely useful guidelines to help you’re thinking about the subject. A five steps process has been designed that will help any business bring this potential problem under control to think systematically through the process and allow the business to make the most efficient use possible of the resources represented. The final decisions, of course, must be the result of good judgment, and not the product of mechanical set of formulas.


Step one: Inventory planning: 
            Inventory control requires inventory planning.  Inventory refers to more than goods on hand in the manufacturing operation, service business or retail operation. It also represents goods that must be in transit for arrival after the goods in the store or plant are sold or used. An ideal inventory control system would arrange for the arrival of new goods at the same moment the last item has been sold or used. The economic order quantity, or base order, depends upon the amount of cash (or credit) available to invest in inventories, the number of units that quality for a quantity discount from the manufacturer, and the amount of time goods spend in shipment.
-          Step two:- Establish Order Cycles:
If demand can be predicated for the product or if demand can be measured on a regular basis, regular ordering quantities can be setup that takes into consideration the most economic relationships among the costs of preparing an order, the aggregate shipping costs, and the economic order cost. When demand is regular, it is possible to program regular ordering levels, so that stock-outs will be avoided and costs will be minimized. If it is known that for so many weeks or months a certain quantity of goods will be sold at a steady pace, then replacements should be scheduled  it arrive with equal regularity. Time should be spent developing a system tailored to the needs of each business. It is useful to focus on items whose costs justify such control, recognizing that in some case control efforts may cost more the items worth. At the same time, it is also necessary to included low return items that are critical to the overall sales effort.
If the business experience seasonal cycles, it is important to recognize the demands that will be placed on suppliers as well as other sellers. A given firm must recognize that if it begins to run out of product in the middle of a busy season, other sellers are also beginning to run out and are looking for more goods.  The problem is compounded in that the producer may have already switched over to next season’s production and so not interested in (or probably even capable of) filling any further orders for current selling season. Production resources are likely to already be allocated to filling orders for the next selling season. Changes in this momentum would be extremely costly for both the supplier and the customer.
On the other hand, because suppliers have problems with inventory control, just as sellers do, they may be interested in making deals to induce customers to purchase inventories offseason, usually at substantial savings. They want to shift the carrying costs of purchase and storage from the seller to the buyer. Thus, there are seasonal implications to inventory control as well, both positive and negative. The point is that these seasonable implications must be built into the planning process in order to support an effective inventory management system.


Step Three: Balance inventory levels:
Efficient or inefficient management of merchandise inventory by a firm is a major factor between health profits and operation at a loss. There are both market-related and budget-related issues that must be dealt with in terms of coming up with an ideal inventory balance:
Is the inventory correct for the market being served?
·        Does the inventory have the proper turnover?
·        What is the ideal inventory for a typical wholesaler in this business?
To answer the last question first, the ideal inventory is the inventory that does not lose profitable sales and can still justify the investment in each part of its whole. An inventory that is not compatible with the firm’s market will lose profitable sales. Customer’s who cannot find the items they desire in one store or from one supplier are forced to go to a competitor. Customer will be especially irritated if the item out of stock is one they would normally expect to find from such a supplier. Repeated experiences of this type will motivate customers to become regular customers of competitors.
Step Four: - Review Stocks:
Items sitting on the shelf as obsolete inventory are simply dead capital. Keeping inventory up to date and devoid of obsolete merchandise is another critical aspect of good inventory control. This is particularly important with style merchandise, but it is important with any merchandise that is turning at a lowest rate than the average stock turns for that particular business. One of the important principles newer sellers frequently find difficult is the need to mark down merchandise that is not moving well. Markups are usually highest when a new style first comes out. As the style fades, efficient sellers gradually begin to mark it down to avoid being stuck with large inventories, thus keeping inventory capital working. They will begin to mark down their inventory, take less gross margin, and return the funds to working capital rather than have their investment stand on the shelves as obsolete merchandise. Markdowns are an important part of the working capital cycle. Even though the margins on markdown sales are lower, turning these items into cash allows you to purchase other, more current goods, where you can make the margin you desire. Keeping an inventory fresh and up to date requires constant attention by any organization, large or small. Style merchandise should be disposed of before the style fades. Fades merchandise must have its inventory levels kept in line with the passing fancy. Obsolete merchandise usually must be sold at less than normal mark-up or even as loss leaders where it is price more competitively. Loss leader pricing strategies can also serve to attract more consumer traffic for the business thus creating opportunities to sell other merchandise as well as the obsolete items. Technologically obsolete merchandise should normally be removed from inventory at any cost. Stock turnover is really the way businesses make money. It is not so much the profit per unit of sale that makes money for the business, but sales on a regular basis over time that eventually results in profitability. The stock turnover rate is the rate at which the average inventory is replaced or turned over, throughout a pre-defined standard operating period, typically one year. It is generally seen as the multiple that sales represent of the average inventory for a given period of time.
Turnover averages are available for virtually any industry maintaining inventories and having sales. These figures act as an efficient benchmark with which to compare the business in question, in order to determine its effectiveness relative to its capital investment. Too frequent inventory turns can be as great a potential problem as too few.
Too frequent inventory turns may indicate the business is trying to overwork a limited capital base, and may carry with it the attendant costs of stock outs and unhappy and lost customers. Stock turns or turnover is the number of times “average” inventory of a given product is sold annually. It is an important concept because it helps to determine what the inventory level should be to achieve or support the sales levels predicted or desired. Inventory turnover is computed by dividing the volume of goods sold by the average inventory. Stock turns or inventory turnover can be calculated by the following equations.
Stock Turn= Cost of Goods Sold.
Average inventory at cost
Stock turn = Sales
Average inventory at sales value.
If the inventory is recorded at cost, stock turn equals cost of goods sold divided by the average inventory. If the inventory is recorded at sales value, stock- turn is equal to sales divided by average inventory. Stock turns four times a year on the average for many companies. A further analysis of that inventory is needed. Is it too heavy in some areas? Are there reasons that suggest more inventories are needed in certain categories? Are these conditions peculiar to that particular company? The point is that all markets are not uniform and circumstances may be found that will justify a variation from average figures.
In the accumulation of comparative data for any particular type of firm, a wide variation will be found for most significant statistical comparism. Averages are just that and often most companies in the group are some what different from that result. Nevertheless, they serve as very useful guides for the adequacy of industry turnover, and for other ratios as well. The important thing for each firm is to know how the firm compares with the averages and to deter-mine whether deviations from the averages are to its benefits or disadvantage.
-          Step Five:- Follow-up and control:
Periodic reviews of the inventory to detect slow- moving or obsolete stock and to identify fast sellers are essential for proper inventory management.
Taking regular and periodic inventories must be more than just totaling the costs. Any clerk can do the work of recording an inventory. However, it is the responsibility of key management to study the figures and review the items themselves in order to make correct decisions about the disposal, replacement, or discontinuance of different segments of the inventory base. Just as an airline cannot make move with its airplanes on the ground, a firm cannot earn a profit in the absence of sales of goods. Keeping the inventory attractive to customers is a prime prerequisite for healthy sales. Again the seller’s inventory is usually his largest investment. It will earn profits in direct proportion to the effort and skill applied in its management.
Inventory quantities must be organized and measured carefully. Minimum stocks must be assured to prevent stock out or the lack of product. At the same time, they must be balanced against excessive inventory because of carrying costs. In larger organizations and in many manufacturing operations, purchasing has evolved as a distinct new and separate phase of management to achieve the dual objective of higher turnover and lower investment. If this type of strategy is to be utilized, however, extremely careful attention and constant review must be built into the management system in order to avoid getting caught short by unexpected changes in the larger business environment.
Caution and periodic review of re-order points and quantities are a must. 


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