Inventories

A warehouse is a valuable facility for a company only when it is put to effective use. This requirement leads to the question about the optimal level of inventories in a warehouse.

Functions of inventories

The reasons for inventories

For many reasons, inventories are necessary and desirable for a company. Large producers, for example, have to use inventories in response to seasonal needs in order to offset swings in sales. A system that is unthinkable in retailing may be common in the warehouse of a chocolate maker: chocolate Santa Clauses stored right next to marzipan Easter bunnies. There are other reasons for inventories as well - including economic aspects like volume discounts from a shipper. The size of inventories is strongly linked to the goals associated with them.

The pros and cons of holding inventories

Inventories generate costs. This fact leads to a question: Wouldn’t it make sense to eliminate stored stocks entirely? If this were the case, only those raw materials directly used in manufacturing would be ordered. The finished products would then be delivered to the customers directly without having to be stored by the manufacturer. And the customer would immediately put these end products to use.
Just-in-time delivery in the automotive industry closely reflects these ideas. Individual components are delivered directly to the producer’s assembly line - and this is done just when they are required in the manufacturing sequence. The producer has no need to store the components. In just-in-time delivery, reducing stocks is considered a part of long-term efforts to exploit efficiency-improving potential. Stocks mask disruption-prone processes, uncoordinated capacities, deficient flexibility and delivery capability as well as structural weaknesses in the coordination of flows of material and information. As a result, they prevent the logistics chain from being organized in a way that reflects the flow process. To avoid such inefficiencies, the just-in-time concept aims to consistently reduce inventories to the point where no stocks exist at all.
Yet, it is not always so simple. The following points show the reasons why it makes sense for companies to maintain stocks in procurement, output and distribution warehouses.

Economies of scale

Procurement warehouses can result from a company’s desire to get volume discounts from a supplier or more favorable conditions from a carrier. Similarly, the creation of inventories in distribution warehouses can lead to better transport terms that come with larger quantities. Like production warehouses, inventories in distribution warehouses may also lead to lowering the cost of individual items by enabling larger production batches.

Seasonal fluctuations

In the case of consumer goods with a seasonal demand, the establishment of inventories in distribution and production warehouses also ensures that production can run continuously at full capacity despite swings in seasonal demand.
Agricultural goods frequently have a seasonal supply as well. To sell goods continuously throughout the year, inventories in distribution or production warehouses are required.

Specialized production

Production specialization, in which different parts are produced at separate company sites, lowers costs. If just-in-time delivery of parts to an assembly line is not possible, this specialization can be carried out only by increasing inventories.

Price speculation

Inventories of procurement and distribution warehouses are increased if the price of a good is expected to rise. In such a situation, the purchasing company aims to amass the good at the current low price. The supplier may speculate that supply shortages will drive the prices higher, and he uses the warehouse to store the good.
Speculation that leads to increased inventories is not always related to price. Generally speaking, inventories are generated by speculation about the scarcity of goods. For example, they can result from expectations that a strike will threaten the logistical operations of a supplier.

Protection against uncertainties

Creation of inventories in procurement, production and distribution warehouses can result from uncertainties, e.g., when demand from customers or from a company’s own production operation is not always predictable or when delivery from suppliers or from production is not always reliable or goods are supplied from geographically remote areas.

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