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Chapter 3 Frameworks for Inventory Management and Production Planning & Control 3.1 The Diversity of Stock Keeping Units
A typical medium-sized manufacturing company → keep 10,000 types of raw materials, parts, and finished goods in inventory diversity → cost, weight, volume, color, or physical shape perishable → deterioration over time, theft, pilferage, obsolescence (style or technology) Demands for items also can occur in many ways. (cf.) substitute vs. complement decision making in production planning and inventory management → problem of coping with large numbers and with a diversity of factors external and internal to the organization → must be consistent with the overall objectives of management ♣ 3 Basic Issues (1) How often the inventory status should be determined → review period (2) When a replenishment order should be placed → reorder interval (3) How large the replenishment order should be → order quantity
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10.1 Describe and Demonstrate the Basic Inventory Valuation Methods and Their Cost Flow Assumptions
Accounting for inventory is a critical function of management. Inventory accounting is significantly complicated by the fact that it is an ongoing process of constant change, in part because (1) most companies offer a large variety of products for sale, (2) product purchases occur at irregular times, (3) products are acquired for differing prices, and (4) inventory acquisitions are based on sales projections, which are always uncertain and often sporadic. Merchandising companies must meticulously account for every individual product that they sell, equipping them with essential information, for decisions such as these:
- What is the quantity of each product that is available to customers?
- When should inventory of each product item be replenished and at what quantity?
- How much should the company charge customers for each product to cover all costs plus profit margin?
- How much of the inventory cost should be allocated toward the units sold (cost of goods sold) during the period?
- How much of the inventory cost should be allocated toward the remaining units (ending inventory) at the end of the period?
- Is each product moving robustly or have some individual inventory items’ activity decreased?
- Are some inventory items obsolete?
The company’s financial statements report the combined cost of all items sold as an offset to the proceeds from those sales, producing the net number referred to as gross margin (or gross profit). This is presented in the first part of the results of operations for the period on the multi-step income statement. The unsold inventory at period end is an asset to the company and is therefore included in the company’s financial statements, on the balance sheet, as shown in Figure 10.2 . The total cost of all the inventory that remains at period end, reported as merchandise inventory on the balance sheet, plus the total cost of the inventory that was sold or otherwise removed (through shrinkage, theft, or other loss), reported as cost of goods sold on the income statement (see Figure 10.2 ), represent the entirety of the inventory that the company had to work with during the period, or goods available for sale.
Fundamentals of Inventory
Although our discussion will consider inventory issues from the perspective of a retail company, using a resale or merchandising operation, inventory accounting also encompasses recording and reporting of manufacturing operations. In the manufacturing environment, there would be separate inventory calculations for the various process levels of inventory, such as raw materials, work in process, and finished goods. The manufacturer’s finished goods inventory is equivalent to the merchandiser’s inventory account in that it includes finished goods that are available for sale.
In merchandising companies, inventory is a company asset that includes beginning inventory plus purchases , which include all additions to inventory during the period. Every time the company sells products to customers, they dispose of a portion of the company’s inventory asset. Goods available for sale refers to the total cost of all inventory that the company had on hand at any time during the period, including beginning inventory and all inventory purchases. These goods were normally either sold to customers during the period (occasionally lost due to spoilage, theft, damage, or other types of shrinkages) and thus reported as cost of goods sold, an expense account on the income statement, or these goods are still in inventory at the end of the period and reported as ending merchandise inventory, an asset account on the balance sheet. As an example, assume that Harry’s Auto Parts Store sells oil filters. Suppose that at the end of January 31, 2018, they had 50 oil filters on hand at a cost of $7 per unit. This means that at the beginning of February, they had 50 units in inventory at a total cost of $350 (50 × $7). During the month, they purchased 20 filters at a cost of $7, for a total cost of $140 (20 × $7). At the end of the month, there were 18 units left in inventory. Therefore, during the month of February, they sold 52 units. Figure 10.3 illustrates how to calculate the goods available for sale and the cost of goods sold.
Inventory costing is accomplished by one of four specific costing methods: (1) specific identification, (2) first-in, first-out, (3) last-in, first-out, and (4) weighted-average cost methods. All four methods are techniques that allow management to distribute the costs of inventory in a logical and consistent manner, to facilitate matching of costs to offset the related revenue item that is recognized during the period, in accordance with GAAP expense recognition and matching concepts. Note that a company’s cost allocation process represents management’s chosen method for expensing product costs, based strictly on estimates of the flow of inventory costs, which is unrelated to the actual flow of the physical inventory. Use of a cost allocation strategy eliminates the need for often cost-prohibitive individual tracking of costs of each specific inventory item, for which purchase prices may vary greatly. In this chapter, you will be provided with some background concepts and explanations of terms associated with inventory as well as a basic demonstration of each of the four allocation methods, and then further delineation of the application and nuances of the costing methods.
A critical issue for inventory accounting is the frequency for which inventory values are updated. There are two primary methods used to account for inventory balance timing changes: the periodic inventory method and the perpetual inventory method. These two methods were addressed in depth in Merchandising Transactions ).
Periodic Inventory Method
A periodic inventory system updates the inventory balances at the end of the reporting period, typically the end of a month, quarter, or year. At that point, a journal entry is made to adjust the merchandise inventory asset balance to agree with the physical count of inventory, with the corresponding adjustment to the expense account, cost of goods sold. This adjustment shifts the costs of all inventory items that are no longer held by the company to the income statement, where the costs offset the revenue from inventory sales, as reflected by the gross margin. As sales transactions occur throughout the period, the periodic system requires that only the sales entry be recorded because costs will only be updated during end-of-period adjustments when financial statements are prepared. However, any additional goods for sale acquired during the month are recorded as purchases. Following are examples of typical journal entries for periodic transactions. The first is an example entry for an inventory sales transaction when using periodic inventory, and the second records the purchase of additional inventory when using the periodic method. Note: Periodic requires no corresponding cost entry at the time of sale, since the inventory is adjusted only at period end.
A purchase of inventory for sale by a company under the periodic inventory method would necessitate the following journal entry. (This is discussed in more depth in Merchandising Transactions .)
Perpetual Inventory Method
A perpetual inventory system updates the inventory account balance on an ongoing basis, at the time of each individual sale. This is normally accomplished by use of auto-ID technology, such as optical-scan barcode or radio frequency identification (RFIF) labels. As transactions occur, the perpetual system requires that every sale is recorded with two entries, first recording the sales transaction as an increase to Accounts Receivable and a decrease to Sales Revenue, and then recording the cost associated with the sale as an increase to Cost of Goods Sold and a decrease to Merchandise Inventory. The journal entries made at the time of sale immediately shift the costs relating to the goods being sold from the merchandise inventory account on the balance sheet to the cost of goods sold account on the income statement. Little or no adjustment is needed to inventory at period end because changes in the inventory balances are recorded as both the sales and purchase transactions occur. Any necessary adjustments to the ending inventory account balances would typically be caused by one of the types of shrinkage you’ve learned about. These are example entries for an inventory sales transaction when using perpetual inventory updating:
A purchase of inventory for sale by a company under the perpetual inventory method would necessitate the following journal entry. (Greater detail is provided in Merchandising Transactions .)
Continuing Application
As previously discussed, Gearhead Outfitters is a retail chain selling outdoor gear and accessories. As such, the company is faced with many possible questions related to inventory. How much inventory should be carried? What products are the most profitable? Which products have the most sales? Which products are obsolete? What timeframe should the company allow for inventory to be replenished? Which products are the most in demand at each location?
In addition to questions related to type, volume, obsolescence, and lead time, there are many issues related to accounting for inventory and the flow of goods. As one of the biggest assets of the company, the way inventory is tracked can have an effect on profit. Which method of accounting—first-in first-out, last-in first out, specific identification, weighted average— provides the most accurate reflection of inventory and cost of goods sold is important in determining gross profit and net income. The method selected affects profits, taxes, and can even change the opinion of potential lenders concerning the financial strength of the company. In choosing a method of accounting for inventory, management should consider many factors, including the accurate reflection of costs, taxes on profits, decision-making about purchases, and what effect a point-of-sale (POS) system may have on tracking inventory.
Gearhead exists to provide a positive shopping experience for its customers. Offering a clear picture of its goods, and maintaining an appealing, timely supply at competitive prices is one way to keep the shopping experience positive. Thus, accounting for inventory plays an instrumental role in management’s ability to successfully run a company and deliver the company’s promise to customers.
Data for Demonstration of the Four Basic Inventory Valuation Methods
The following dataset will be used to demonstrate the application and analysis of the four methods of inventory accounting .
Company: Spy Who Loves You Corporation
Product: Global Positioning System (GPS) Tracking Device
Description: This product is an economical real-time GPS tracking device, designed for individuals who wish to monitor others’ whereabouts. It is marketed to parents of middle school and high school students as a safety measure. Parents benefit by being apprised of the child’s location, and the student benefits by not having to constantly check in with parents. Demand for the product has spiked during the current fiscal period, while supply is limited, causing the selling price to escalate rapidly.
Specific Identification Method
The specific identification method refers to tracking the actual cost of the item being sold and is generally used only on expensive items that are highly customized (such as tracking detailed costs for each individual car in automobiles sales) or inherently distinctive (such as tracking origin and cost for each unique stone in diamond sales). This method is too cumbersome for goods of large quantity, especially if there are not significant feature differences in the various inventory items of each product type. However, for purposes of this demonstration, assume that the company sold one specific identifiable unit, which was purchased in the second lot of products, at a cost of $27.
Three separate lots of goods are purchased:
First-in, First-out (FIFO) Method
The first-in, first-out method (FIFO) records costs relating to a sale as if the earliest purchased item would be sold first. However, the physical flow of the units sold under both the periodic and perpetual methods would be the same. Due to the mechanics of the determination of costs of goods sold under the perpetual method, based on the timing of additional purchases of inventory during the accounting period, it is possible that the costs of goods sold might be slightly different for an accounting period. Since FIFO assumes that the first items purchased are sold first, the latest acquisitions would be the items that remain in inventory at the end of the period and would constitute ending inventory.
Last-in, First-out (LIFO) Method
The last-in, first out method (LIFO) records costs relating to a sale as if the latest purchased item would be sold first. As a result, the earliest acquisitions would be the items that remain in inventory at the end of the period.
IFRS Connection
For many companies, inventory is a significant portion of the company’s assets. In 2018, the inventory of Walmart , the world’s largest international retailer, was 70% of current assets and 21% of total assets. Because inventory also affects income as it is sold through the cost of goods sold account, inventory plays a significant role in the analysis and evaluation of many companies. Ending inventory affects both the balance sheet and the income statement. As you’ve learned, the ending inventory balance is reflected as a current asset on the balance sheet and the ending inventory balance is used in the calculation of costs of goods sold. Understanding how companies report inventory under US GAAP versus under IFRS is important when comparing companies reporting under the two methods, particularly because of a significant difference between the two methods.
Similarities
- When inventory is purchased, it is accounted for at historical cost and then evaluated at each balance sheet date to adjust to the lower of cost or net realizable value.
- Both IFRS and US GAAP allow FIFO and weighted-average cost flow assumptions as well as specific identification where appropriate and applicable.
Differences
- IFRS does not permit the use of LIFO. This is a major difference between US GAAP and IFRS. The AICPA estimates that roughly 35–40% of all US companies use LIFO, and in some industries, such as oil and gas, the use of LIFO is more prevalent. Because LIFO generates lower taxable income during times of rising prices, it is estimated that eliminating LIFO would generate an estimated $102 billion in tax revenues in the US for the period 2017–2026. In creating IFRS, the IASB chose to eliminate LIFO, arguing that FIFO more closely matches the flow of goods. In the US, FASB believes the choice between LIFO and FIFO is a business model decision that should be left up to each company. In addition, there was significant pressure by some companies and industries to retain LIFO because of the significant tax liability that would arise for many companies from the elimination of LIFO.
Weighted-Average Cost Method
The weighted-average cost method (sometimes referred to as the average cost method ) requires a calculation of the average cost of all units of each particular inventory items. The average is obtained by multiplying the number of units by the cost paid per unit for each lot of goods, then adding the calculated total value of all lots together, and finally dividing the total cost by the total number of units for that product. As a caveat relating to the average cost method, note that a new average cost must be calculated after every change in inventory to reassess the per-unit weighted-average value of the goods. This laborious requirement might make use of the average method cost-prohibitive.
Comparing the various costing methods for the sale of one unit in this simple example reveals a significant difference that the choice of cost allocation method can make. Note that the sales price is not affected by the cost assumptions; only the cost amount varies, depending on which method is chosen. Figure 10.4 depicts the different outcomes that the four methods produced.
Once the methods of costing are determined for the company, that methodology would typically be applied repeatedly over the remainder of the company’s history to accomplish the generally accepted accounting principle of consistency from one period to another. It is possible to change methods if the company finds that a different method more accurately reflects results of operations, but the change requires disclosure in the company’s notes to the financial statements, which alerts financial statement users of the impact of the change in methodology. Also, it is important to realize that although the Internal Revenue Service generally allows differing methods of accounting treatment for tax purposes than for financial statement purposes, an exception exists that prohibits the use of LIFO inventory costing on the company tax return unless LIFO is also used for the financial statement costing calculations.
Ethical Considerations
Auditors look for inventory fraud.
Inventory fraud can be used to book false revenue or to increase the amount of assets to obtain additional lending from a bank or other sources. In the typical chain of accounting events, inventory ultimately becomes an expense item known as cost of goods sold. 1 In a manipulated accounting system, a trail of fraudulent transactions can point to accounting misrepresentation in the sales cycle, which may include
- recording fictitious and nonexistent inventory,
- manipulation of inventory counts during a facility audit,
- recording of sales but no recording of purchases, and/or
- fraudulent inventory capitalization,
to list a few. 2 All these elaborate schemes have the same goal: to improperly manipulate inventory values to support the creation of a fraudulent financial statement. Accountants have an ethical, moral, and legal duty to not commit accounting and financial statement fraud. Auditors have a duty to look for such inventory fraud.
Auditors follow the Statement on Auditing Standards (SAS) No. 99 and AU Section 316 Consideration of Fraud in a Financial Statement Audit when auditing a company’s books. Auditors are outside accountants hired to “obtain reasonable assurance about whether the financial statements are free of material misstatement, whether caused by error or fraud.” 3 Ultimately, an auditor will prepare an audit report based on the testing of the balances in a company’s books, and a review of the company’s accounting system. The auditor is to perform “procedures at locations on a surprise or unannounced basis, for example, observing inventory on unexpected dates or at unexpected locations or counting cash on a surprise basis.” 4 Such testing of a company’s inventory system is used to catch accounting fraud. It is the responsibility of the accountant to present accurate accounting records to the auditor, and for the auditor to create auditing procedures that reasonably ensure that the inventory balances are free of material misstatements in the accounting balances.
Additional Inventory Issues
Various other issues that affect inventory accounting include consignment sales, transportation and ownership issues, inventory estimation tools, and the effects of inflationary versus deflationary cycles on various methods.
Consignment
Consigned goods refer to merchandise inventory that belongs to a third party but which is displayed for sale by the company. These goods are not owned by the company and thus must not be included on the company’s balance sheet nor be used in the company’s inventory calculations. The company’s profit relating to consigned goods is normally limited to a percentage of the sales proceeds at the time of sale.
For example, assume that you sell your office and your current furniture doesn’t match your new building. One way to dispose of the furniture would be to have a consignment shop sell it. The shop would keep a percentage of the sales revenue and pay you the remaining balance. Assume in this example that the shop will keep one-third of the sales proceeds and pay you the remaining two-thirds balance. If the furniture sells for $15,000, you would receive $10,000 and the shop would keep the remaining $5,000 as its sales commission. A key point to remember is that until the inventory, in this case your office furniture, is sold, you still own it, and it is reported as an asset on your balance sheet and not an asset for the consignment shop. After the sale, the buyer is the owner, so the consignment shop is never the property’s owner.
Free on Board (FOB) Shipping and Destination
Transportation costs are commonly assigned to either the buyer or the seller based on the free on board (FOB) terms, as the terms relate to the seller. Transportation costs are part of the responsibilities of the owner of the product, so determining the owner at the shipping point identifies who should pay for the shipping costs. The seller’s responsibility and ownership of the goods ends at the point that is listed after the FOB designation. Thus, FOB shipping point means that the seller transfers title and responsibility to the buyer at the shipping point, so the buyer would owe the shipping costs. The purchased goods would be recorded on the buyer’s balance sheet at this point.
Similarly, FOB destination means the seller transfers title and responsibility to the buyer at the destination, so the seller would owe the shipping costs. Ownership of the product is the trigger that mandates that the asset be included on the company’s balance sheet. In summary, the goods belong to the seller until they transition to the location following the term FOB, making the seller responsible for everything about the goods to that point, including recording purchased goods on the balance sheet . If something happens to damage or destroy the goods before they reach the FOB location, the seller would be required to replace the product or reverse the sales transaction.
Lower-of-Cost-or-Market (LCM)
Reporting inventory values on the balance sheet using the accounting concept of conservatism (which discourages overstatement of net assets and net income) requires inventory to be calculated and adjusted to a value that is the lower of the cost calculated using the company’s chosen valuation method or the market value based on the market or replacement value of the inventory items. Thus, if traditional cost calculations produce inventory values that are overstated, the lower-of-cost-or-market (LCM) concept requires that the balance in the inventory account should be decreased to the more conservative replacement value rather than be overstated on the balance sheet.
Estimating Inventory Costs: Gross Profit Method and Retail Inventory Method
Sometimes companies have a need to estimate inventory values. These estimates could be needed for interim reports, when physical counts are not taken. The need could be result from a natural disaster that destroys part or all of the inventory or from an error that causes inventory counts to be compromised or omitted. Some specific industries (such as select retail businesses) also regularly use these estimation tools to determine cost of goods sold. Although the method is predictable and simple, it is also less accurate since it is based on estimates rather than actual cost figures.
The gross profit method is used to estimate inventory values by applying a standard gross profit percentage to the company’s sales totals when a physical count is not possible. The resulting gross profit can then be subtracted from sales, leaving an estimated cost of goods sold. Then the ending inventory can be calculated by subtracting cost of goods sold from the total goods available for sale. Likewise, the retail inventory method estimates the cost of goods sold, much like the gross profit method does, but uses the retail value of the portions of inventory rather than the cost figures used in the gross profit method.
Inflationary Versus Deflationary Cycles
As prices rise (inflationary times), FIFO ending inventory account balances grow larger even when inventory unit counts are constant, while the income statement reflects lower cost of goods sold than the current prices for those goods, which produces higher profits than if the goods were costed with current inventory prices. Conversely, when prices fall (deflationary times), FIFO ending inventory account balances decrease and the income statement reflects higher cost of goods sold and lower profits than if goods were costed at current inventory prices. The effect of inflationary and deflationary cycles on LIFO inventory valuation are the exact opposite of their effects on FIFO inventory valuation.
Link to Learning
Accounting Coach does a great job in explaining inventory issues (and so many other accounting topics too): Learn more about inventory and cost of goods sold on their website.
Think It Through
First-in, first-out (fifo).
Suppose you are the assistant controller for a retail establishment that is an independent bookseller. The company uses manual, periodic inventory updating, using physical counts at year end, and the FIFO method for inventory costing. How would you approach the subject of whether the company should consider switching to computerized perpetual inventory updating? Can you present a persuasive argument for the benefits of perpetual? Explain.
- 1 “Inventory Fraud: Knowledge Is Your First Line of Defense.” Weaver. Mar. 27, 2015. https://weaver.com/blog/inventory-fraud-knowledge-your-first-line-defense
- 2 Wells, Joseph T. “Ghost Goods: How to Spot Phantom Inventory.” Journal of Accountancy . June 1, 2001. https://www.journalofaccountancy.com/issues/2001/jun/ghostgoodshowtospotphantominventory.html
- 3 American Institute of Certified Public Accountants (AICPA). Consideration of Fraud in a Financial Statement Audit (AU Section 316). https://www.aicpa.org/Research/Standards/AuditAttest/DownloadableDocuments/AU-00316.pdf
- 4 American Institute of Certified Public Accountants (AICPA). Consideration of Fraud in a Financial Statement Audit (AU Section 316). https://www.aicpa.org/Research/Standards/AuditAttest/DownloadableDocuments/AU-00316.pdf
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Sales and Inventory System Thesis PDF Chapter 3
This article Sales and Inventory System Thesis PDF Chapter 3 discussed on how the problems might be solved by using developing a Sales and Inventory with Decision guide System. This indicates the contents of the developed machine with the aid of showing the information dictionary which includes all the tables used in the database and the representation of the information float diagram and entity dating diagram.
Sales and Inventory System Thesis PDF Chapter 3: Methodology
Sales and inventory system thesis pdf chapter 3: project development, rad (rapid application development).
Figure 1: Rapid Application Development diagram shows how the research and process is being develop from the start of the process until it was been finished, Rapid Application Development is easy to use as a methodology model because as you can see from the diagram it was been processed step by step so that the problems that might encountered can be polished or be refined. In RAD model the function are developed as the prototype is being integrated to make the complete process faster for product delivery, it makes it easier to incorporate the changes within the development process and can quickly give the customer something to see and use to provide feedback regarding the delivery and their requirements. The advantage of RAD model from the other methodologies is that it reduced the development time, it encouraged the customer to give feedback to the prototype system, and the integration that was been done from the beginning solved a lot of integration issues.
Quick Design
The system design should be a user- friendly so that the user can obtain the ease of access so that the processes will be fluently followed. But before that we just created sample designs, with that we could checked wither if it’s correct or should be revised so that the system will meet the expectation that the client wants or will provide the processes that the company’s system required.
In order to create a prototype model for the system we first create forms and also we provide the gathered data’s about the company. In line with this process, we also try to code so that we can run and test if there is some instances that will be polished or errors that might be encountered, after building the prototype model the demonstration of the prototype model follows.
Implementation
After the testing of the proposed system, implementation of the system follows, during this phase the new or the created system will be installed in the production process, the users will be trained or will be guided on how the system works. The system will be given to the client and the processes will be evaluated. In this phase the effort are also required to b implemented, resolving the identified problems, and also planning for sustaining the system.
Sales and Inventory System Thesis PDF Chapter 3 : Architectural Diagram Interface of Hardware
Sales and inventory system thesis pdf chapter 3 : system testing and implementation.
In order to prove that the system is really reliable, in terms of producing information that will be given by the system, it should be first tested so that the client or the proponent will see if the system that is being proposed is effective in terms of its purpose and uses so that can make them satisfied. The proposed system was been tested by the 3 rd year BSIT students as client in the school laboratory. We select some of the students to act as a customer and cashier so that we can visualize if the process is correct as well as the storing of data’s during transaction. The system is only designed to provide the needs of the company and also to make the transaction process easy and accurately.
Sales and Inventory System Thesis PDF Chapter 3 : RV Empire Sale and Inventory System Features
This Sales and Inventory System provides the following feature that is commonly done in their transaction processes as well as the recording of data’s.
Recommended Hardware Specification (Server, Workstation)
For RV Empire Incorporated Sales and Inventory System be develops and run in a perfect function, but first the client must implement the following hardware specifications:
Recommended Network and communication device
Recommended software specification (server/workstations), download the full source code of this project.
Here’s the complete Source code RV Empire Sales and Inventory System
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9.2 Demand Planning and Inventory Control
Learning objectives.
- Explain why demand planning adds value to products.
- Describe the role inventory control plays when it comes marketing products.
- List the reasons why firms collaborate with another for the purposes of inventory control and demand planning.
Demand Planning
Imagine you are a marketing manager who has done everything in your power to help develop and promote a product—and it’s selling well. But now your company is running short of the product because the demand forecasts for it were too low. Recall that this is the scenario Nintendo faced when the Wii first came out. The same thing happened to IBM when it launched the popular ThinkPad laptop in 1992.
Not only is the product shortage going to adversely affect the profitably of your company, but it’s going to adversely affect you, too. Why? Because you, as a marketing manager, probably earn either a bonus or commission from the products you work to promote, depending on how well they sell. And, of course, you can’t sell what you don’t have.
IBM ThinkPads were hard to find in 1992. But NASA didn’t have any trouble getting one. In 1993, astronauts used it to repair the Hubble Space Telescope, which orbits Earth.
Esteban Maringolo – IBM Thinkpad Logo close up – CC BY 2.0.
As you can probably tell, the best marketing decisions and supplier selections aren’t enough if your company’s demand forecasts are wrong. Demand planning is the process of estimating how much of a good or service customers will buy from you. If you’re a producer of a product, this will affect not only the amount of goods and services you have to produce but also the materials you must purchase to make them. It will also affect your production scheduling , or the management of the resources, events, and processes need to create an offering. For example, if demand is heavy, you might need your staff members to work overtime. Closely related to demand forecasting are lead times. A product’s lead time is the amount of time it takes for a customer to receive a good or service once it’s been ordered. Lead times also have to be taken into account when a company is forecasting demand.
Sourcing decisions —deciding which suppliers to use—are generally made periodically. Forecasting decisions must be made more frequently—sometimes daily. One way for you to predict the demand for your product is to look at your company’s past sales. This is what most companies do. But they don’t stop there. Why? Because changes in many factors—the availability of materials to produce a product and their prices, global competition, oil prices (which affect shipping costs), the economy, and even the weather—can change the picture.
For example, when the economy hit the skids in 2008, the demand for many products fell. So if you had based your production, sales, and marketing forecasts on 2007 data alone, chances are your forecasts would have been wildly wrong. Do you remember when peanut butter was recalled in 2009 because of contamination? If your firm were part of the supply chain for peanut butter products, you would have needed to quickly change your forecasts.
The promotions you run will also affect demand for your products. Consider what happened to KFC when it first came out with its new grilled chicken product. As part of the promotion, KFC gave away coupons for free grilled chicken via Oprah.com. Just twenty-four hours after the coupons were uploaded to the Web site, KFC risked running out of chicken. Many customers were turned away. Others were given “rain checks” (certificates) they could use to get free grilled chicken later (Weisenthal, 2009).
KFC’s new Kentucky Grilled Chicken was finger-lickin’ good—if you could get it. Reportedly, the chain nearly ran out of the birds following a promotion on Oprah.com.
JR P – Chickens at Chatsworth, Kerbyshire – CC BY-NC 2.0.
In addition to looking at the sales histories of their firms, supply chain managers also consult with marketing managers and sales executives when they are generating demand forecasts. Sales and marketing personnel know what promotions are being planned because they work more closely with customers and know what customers’ needs are and if those needs are changing.
Firms also look to their supply chain partners to help with their demand planning. Collaborative planning, forecasting, and replenishment (CPFR) is a practice whereby supply chain partners share information and coordinate their operations. Walmart has developed a Web-based CPFR system called Retail Link. Retailers can log into Retail Link to see how well their products are selling at various Walmart stores, how soon more products need to be shipped to the company and where, how any promotions being run are affecting the profitability of their products, and so forth. Because different companies often use different information technology systems and software, Web-based tools like Retail Link are becoming a popular way for supply chain partners to interface with one another.
Not all firms are wild about sharing every piece of information they can with their supply chains partners. Some retailers view their sales information as an asset—something they can sell to information companies like Information Resources, Inc., which provides competitive data to firms that willing to pay for it (Bowersox & Closs, 2000). By contrast, other firms go so far as to involve their suppliers before even producing a product so they can suggest design changes, material choices, and production recommendations.
Take a Test Drive of the Tata Nano
(click to see video)
Priced at about $2,500 the Tata Nano is the least expensive car ever produced in the world. To make a safe, reliable car at such a low cost, Tata Motors, an Indian company, sought new, innovative design approaches from its suppliers. The elimination of one of the car’s two windshield wipers was one result of the collaboration that occurred between Tata and its supply chain partners (Wingett, 2008).
The trend is clearly toward more shared information, or what businesspeople refer to as supply chain visibility . After all, it makes sense that a supplier will be not only more reliable but also in a better position to add value to your products if it knows what your sales, operations, and marketing plans are—and what your customers want. By sharing more than just basic transaction information, companies can see how well operations are proceeding, how products are flowing through the chain, how well the partners are performing and cooperating with one another, and the extent to which value is being built in to the product.
Demand-planning software can also be used to create more accurate demand forecasts. Demand-planning software can synthesize a variety of factors to better predict a firm’s demand—for example, the firm’s sales history, point-of-sale data, warehouse, suppliers, and promotion information, and economic and competitive trends. So a company’s demand forecasts are as up-to-date as possible, some of the systems allow sales and marketing personnel to input purchasing information into their mobile devices after consulting with customers.
Litehouse Foods, a salad dressing manufacturer, was able to improve its forecasts dramatically by using demand-planning software. Originally the company was using a traditional sales database and spreadsheets to do the work. “It was all pretty much manual calculations. We had no engine to do the heavy lifting for us,” says John Shaw, the company’s Information Technology director. In a short time, the company was able to reduce its inventory by about one-third while still meeting its customers’ needs (Casper, 2008).
Inventory Control
Demand forecasting is part of a company’s overall inventory control activities. Inventory control is the process of ensuring your firm has an adequate supply of products and a wide enough assortment of them meet your customers’ needs. One of the goals of inventory management is to avoid stockouts. A stockout occurs when you run out of a product a customer wants to buy. Customers will simply look elsewhere to buy the product—a process the Internet has made easier than ever.
When the attack on the World Trade Center occurred, many Americans rushed to the store to buy batteries, flashlights, American flags, canned goods, and other products in the event that the emergency signaled a much bigger attack. Target sold out of many items and could not replenish them for several days, partly because its inventory tracking system only counted up what was needed at the end of the day. Walmart, on the other hand, took count of what was needed every five minutes. Before the end of the day, Walmart had purchased enough American flags, for example, to meet demand and in so doing, completely locked up all their vendors’ flags. Meanwhile, Target was out of flags and out of luck—there were no more to be had.
To help avoid stockouts, most companies keep a certain amount of safety stock on hand. Safety stock is backup inventory that serves as a buffer in case the demand for a product surges or the supply of it drops off for some reason. Maintaining too much inventory, though, ties up money that could be spent other ways—perhaps on marketing promotions. Inventory also has to be insured, and in some cases, taxes must be paid on it. Products in inventory can also become obsolete, deteriorate, spoil, or “shrink.” Shrinkage is a term used to describe a reduction or loss in inventory due to shoplifting, employee theft, paperwork errors, or supplier fraud (Waters, 2009).
When the economy went into its most recent slide, many firms found themselves between a rock and a hard place in terms of their inventory levels. On the one hand, because sales were low, firms were reluctant to hold much safety stock. Many companies, including Walmart, cut the number of brands they sold in addition to holding a smaller amount of inventory. On the other hand, because they didn’t know when business would pick up, they ran the risk of running out of products. Many firms dealt with the problem by maintaining larger amounts of key products. Companies also watched their supply chain partners struggle to survive. Forty-five percent of firms responding to one survey about the downturn reported providing financial help to their critical supply chain partners—often in the form of credit and revised payment schedules 1 .
Just-in-Time Inventory Systems
To lower the amount of inventory and still maintain they stock they need to satisfy their customers, some organizations use just-in-time inventory systems in both good times and bad. Firms with just-in-time inventory systems keep very little inventory on hand. Instead, they contract with their suppliers to ship them inventory as they need it—and even sometimes manage their inventory for them—a practice called vendor-managed inventory (VMI) . Dell is an example of a company that utilizes a just-in-time inventory system that’s vendor managed. Dell carries very few component parts. Instead, its suppliers carry them. They are located in small warehouses near Dell’s assembly plants worldwide and provide Dell with parts “just-in-time” for them to be assembled (Kumar & Craig, 2007).
Dell’s inventory and production system allows customers to get their computers built exactly to their specifications, a production process that’s called mass customization . This helps keep Dell’s inventory levels low. Instead of a huge inventory of expensive, already-assembled computers consumers may or may not buy, Dell simply has the parts on hand, which can be configured or reconfigured should consumers’ preferences change. Dell can more easily return the parts to its suppliers if at some point it redesigns its computers to better match what its customers want. And by keeping track of its customers and what they are ordering, Dell has a better idea of what they might order in the future and the types of inventory it should hold. Because mass customization lets buyers “have it their way,” it also adds value to products, for which many customers are willing to pay.
Product Tracking
Some companies, including Walmart, are beginning to experiment with new technologies such as electronic product codes in an effort to better manage their inventories. An electronic product code (EPC) is similar to a barcode, only better, because the number on it is truly unique. You have probably watched a checkout person scan a barcode off of a product identical to the one you wanted to buy—perhaps a pack of gum—because the barcode on your product was missing or wouldn’t scan. Electronic product codes make it possible to distinguish between two identical packs of gum. The codes contain information about when the packs of gum were manufactured, where they were shipped from, and where they were going to. Being able to tell the difference between “seemingly” identical products can help companies monitor their expiration dates if they are recalled for quality of safety reasons. EPC technology can also be used to combat “fake” products, or knockoffs, in the marketplace.
The Basics of RFID and EPC Technology
To understand how EPC and RFID technology can help marketers, watch this YouTube video.
Electronic product codes are stored on radio-frequency identification (RFID) tags. A radio-frequency identification (RFID) tag emits radio signals that can record and track a shipment as it comes in and out of a facility. If you have unlocked your car door remotely, microchipped your dog, or waved a tollway tag at a checkpoint, you have used RFID technology 2 . Because each RFID tag can cost anywhere from $0.50 to $50 each, they are generally used to track larger shipments, such cases and pallets of goods rather than individual items. See Figure 9.8 “How RFID Tagging Works” to get an idea of how RFID tags work.
Figure 9.8 How RFID Tagging Works
Some consumer groups worry that RFID tags and electronic product codes could be used to track their consumption patterns or for the wrong purposes. But keep in mind that like your car-door remote, the codes and tags are designed to work only within short ranges. (You know that if you try to unlock your car from a mile away using such a device, it won’t work.)
Proponents of electronic product codes and RFID tags believe they can save both consumers and companies time and money. These people believe consumers benefit because the information embedded in the codes and tags help prevent stockouts and out-of-date products from remaining on store shelves. In addition, the technology doesn’t require cashiers to scan barcodes item by item. Instead an electronic product reader can automatically tally up the entire contents of a shopping cart—much like a wireless network can detect your computer within seconds. As a customer, wouldn’t that add value to your shopping experience?
Key Takeaway
The best marketing decisions and supplier selections aren’t enough if your company’s demand forecasts are wrong. Demand forecasting is the process of estimating how much of a good or service a customer will buy from you. If you’re a producer of a product, this will affect not only the amount of goods and services you have to produce but also the materials you must purchase to make them. Demand forecasting is part of a company’s overall inventory control activities. Inventory control is the process of ensuring your firm has an adequate amount of products and a wide enough assortment of them meet your customers’ needs. One of the goals of inventory control is to avoid stockouts without keeping too much of a product on hand. Some companies are beginning to experiment with new technologies such as electronic product codes and RFID tags in an effort to better manage their inventories and meet their customers’ needs.
Review Questions
- Why are demand forecasts made more frequently than sourcing decisions?
- How can just-in-time and vendor-managed inventories add value to products for customers?
- Why and how do companies track products?
1 PRTM Management Consultants, “Global Supply Chain Trends 2008–2010,” http://www.prtm.com/uploadedFiles/Strategic_Viewpoint/Articles/Article_Content/Global_Supply_Chain_Trends_Report_%202008.pdf (accessed December 2, 2009).
2 “FAQs,” EPCglobal , http://www.epcglobalinc.org/consumer_info/faq (accessed December 2, 2009).
Bowersox D. J. and David J. Closs, “Ten Mega-Trends That Will Revolutionize Supply Chain Logistics,” Journal of Business Logistics 21, no. 2 (2000): 11.
Casper, C., “Demand Planning Comes of Age,” Food Logistics 101 (January/February 2008): 19–24.
Kumar S. and Sarah Craig, “Dell, Inc.’s Closed Loop Supply Chain for Computer Assembly Plants,” Information Knowledge Systems Management 6, no. 3 (2007): 197–214.
Waters, S., “Shrinkage,” About.com, http://retail.about.com/od/glossary/g/shrinkage.htm (accessed December 2, 2009).
Weisenthal, J., “Slammed KFC ‘Scrambling to Source More Chicken,’” The Business Insider , May 6, 2009, http://www.businessinsider.com/kfc-2009-5 (accessed December 2, 2009).
Wingett, S., “Capro, Saint-Gobain, Denso Win Big with Tata Nano,” Automotive News Europe , March 3, 2008, 16.
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| Inventories and Cost of Sales Learning Objectives are classified as conceptual, analytical, or procedural. After completing this chapter you should be able to: Identify the items making up merchandise inventory. (p. 230)Identify the costs of merchandise inventory. (p. 231) Analyze the effects of inventory methods for both financial and tax reporting. (p. 238) Analyze the effects of inventory errors on current and future financial statements. (p. 240) Assess inventory management using both inventory turnover and days' sales in inventory. (p. 243) Compute inventory in a perpetual system using the methods of specific identification, FIFO, LIFO, and weighted average. (p. 233) Compute the lower of cost or market amount of inventory. (p. 239) Appendix 6A—Compute inventory in a periodic system using the methods of specific identification, FIFO, LIFO, and weighted average. (p. 249) Appendix 6B—Apply both the retail inventory and gross profit methods to estimate inventory. (p. 254)
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generate a faster improvisation of work with less time and effort. As the concept of Sales and Inventory Management System is to reduce paper works and ineffective ways of managing inventory, this system is expected to assist in making the right decision in the process of managing inventory aligned with the sales level in the store. 1.3 OBJECTIVES
This chapter about Sales and inventory System thesis document is a continuation of our previous sales and inventory system document chapter 2. In this material, we will focus on design and methodology and Project Development. Design and Methodology. The process used to collect information and data for the purpose of making a business settlement ...
CHAPTER 1 I. INTRODUCTION A. Motivation and Background A sales and inventory system is a software-based business solution used to simultaneously track sales activity and inventory. ... Computerized systems are the most common method of inventory control and sales processing in retail markets. ... Chapter 3 Methodology Existing Theories and ...
The Inventory Management System (IMS) is a desktop application developed using PHP, HTML, CSS, JavaScript, and Ajax technologies. The primary objective of this project is to. create an inventory ...
According to Moday (2016) that the Sales and Inventory System is concern with the processing of the transactions of the customers and owner and saving the sales records at the same time. These save records area filed and stored for future use. ... CHAPTER III. Methodology. In this chapter, the research methodology will discuss the type of ...
Holding cost is $625, computed as follows: The order size is 40 units and average inventory is 20 units. Then 20 x $250 x .125 = $625. Total variable cost is $25 + $625 = $650. Two orders per year result in 2 x $25 = $50 in ordering cost. The order size is 40/2 = 20 and average inventory is 10 units.
The use of computerized sales and inventory system as a method of monitoring and providing information to the owner will boost the businesses productivity and may remove the issue the client is facing. The proposed system has ... Chapter 3 RESEARCH DESIGN AND METHODOLOGY The researchers used a System Development Life Cycle in this section ...
(7) When facing a new problem, one should at least attempt to show an equivalence with a different problem for which a solution method is already known. 8 3.9 Explicit Measurement of Costs ♣ 3 fundamental purposes for cost accounting systems (i) valuing inventory for financial statements (ii) providing feedback to production managers (iii ...
The document discusses writing Chapter 3 (the methodology chapter) of a thesis on an inventory system. It notes that Chapter 3 presents the research methods and is critical to the thesis's success. Developing an appropriate methodology, designing data collection tools, and justifying methods can be challenging for students. It further states that specialized platforms like HelpWriting.net ...
In system methodology, we use the agile method to manage a project by breaking it up into several phases. In this result, we use a system flowchart, use case diagram, context data flow
11 Chapter 3 - Free download as PDF File (.pdf), Text File (.txt) or read online for free. This document discusses inventory management concepts, practices, techniques, policies, and actual practices. It begins with an overview of inventory management, including definitions of inventory, types of inventories classified by condition and function, and reasons for holding inventory.
Accounting for inventory is a critical function of management. Inventory accounting is significantly complicated by the fact that it is an ongoing process of constant change, in part because (1) most companies offer a large variety of products for sale, (2) product purchases occur at irregular times, (3) products are acquired for differing prices, and (4) inventory acquisitions are based on ...
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Rice-Sales-and-Inventory-System-Capstone-Documentation - Free download as PDF File (.pdf), Text File (.txt) or read online for free. This document provides an overview and documentation for a rice sales and inventory system capstone project. The system was created to help store owners better manage their inventory and sales. It allows them to generate reports on daily sales and monitor stock ...
Sales and Inventory System Thesis PDF Chapter 3: Methodology In this chapter represents about the research methodology and the development of their research design, and then afterward is the development of the prototype system, the discussion about analysis, quick design, and the processes on the prototype cycle that takes place, and lastly the testing and the implementation of the prototype ...
Inventory Control. Demand forecasting is part of a company's overall inventory control activities. Inventory control is the process of ensuring your firm has an adequate supply of products and a wide enough assortment of them meet your customers' needs. One of the goals of inventory management is to avoid stockouts.
2. Record inventory and cost of sales by using three inventory costing methods. The chapter discussed three different inventory costing methods and their applications in different economic circumstances. The methods are: specific identification (the cost of each item sold is identified and recorded as cost of sales), FIFO (the cost of the item ...
Conceptual objectives: Identify the items making up merchandise inventory. Identify the costs of merchandise inventory. Analytical objectives: Analyze the effects of inventory met
(Related Literature for Inventory System Essay - 939 Words. (n.). StudyMode.) Based on Henderson (2008), Inventory System consists: An inventory control system is used in many warehouses to track the location, quantity and status of goods that are to be sold. Shipping and receiving of products are scheduled by an inventory control system.
P1 Compute inventory in a perpetual system using the methods of specific identification, FIFO, LIFO, and weighted average. (p. 233) P2 Compute the lower of cost or market amount of inventory. (p. 239) P3 Appendix 6A—Compute inventory in a periodic system using the methods of specific identification, FIFO, LIFO, and weighted average. (p. 249) P4 Appendix 6B—Apply both the retail inventory ...
Section 3 describes inventory valuation methods and compares the measurement of ending inventory, cost of sales and gross profit under each method, and when using periodic versus perpetual inventory systems. Section 4 describes the LIFO method, LIFO reserve, and effects of LIFO liquidations, and demonstrates the adjustments required to compare ...
CHAPTER 3. Methodology Result and Discussion. Software Design, Products, and/or Processes This chapter identifies the specifics of the researchers' capstone project in accordance with standards and proper ethics. ... and focused on achieving the system's mission and life cycle concepts of a Sales Inventory and Delivery Tracking System for Alcon ...