Efficient Inventory Management Goals

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Theoretical Framework

The theoretical framework has been divided into three parts: Efficient Inventory Management Goals, Inventory Control and Action Plan. Each part has relevant theories and concept which will be used in this study.

Connection between research questions and framework

During the whole process of the study, the authors essentially reviewed existing literatures and previous studies to understand the study field and theories that are relevant for the research questions.
RQ1: “How does the company’s inventory management currently work?”
Part 1: Efficient Inventory Management Goals
The theoretical background for the first research question mainly involves the understanding of inventory management is and how it impacts the effectiveness of SMEs’. This enables critical thinking of authors by understanding how it benefit companies with consistent minimum stocks and investments in inventory items and how the current literature will help the focus company (Singh, Verma, 2018., Nagle, Fisher, Frazier, McComb, 2018).
RQ2: “Which are the item groups based on ABC- classification and how can the different item groups efficiently improve the inventory management?”
Part 2: Inventory Control
Existing literature is essential for RQ2 as the authors need to understand how previous studies applies inventory control techniques and how it helps improving inventory management. The theory will contribute to RQ2 by introducing the technique and how it will impact the company’s performance.
RQ3: “Which are the actions in the PDCA-cycle to efficiently improve inventory management?”
Part 3: Action Plan
Previous studies suggest sequences of activities to improve inventory management. Thus PDCA-cycle has been used as it in general works with continuous improvement of management. The theory will explain why the technique is used on management, hence detailing sequences to improve inventory management in the SME.

Part 1: Efficient Inventory Management Goals

According to Chan et al. (2017) there are several factors that impacts efficient inventory management but there are currently also lack of research related to the subject in regard to SME. When SME formulate their strategy mostly SMEs does not treat Inventory Management as a strategic activity (N.Rajeev, 2008). The goals of efficient inventory management goal are minimizing the inventory level and reduce the total costs and capital tied up. Therefore, Part 1 consist of SME, Inventory Management and anything that is related to it.

Small medium Enterprise

Characteristics of Small Medium Enterprise is explained to understand the characteristics of it. SME is a common term to use worldwide and there is no clear definition. Although EU has defined SME as an entity of less than 250 employees with no more than 50 million euros as an annual turnover and the net has to be less than 45 million euros (Law, 2o16).

Inventory Management

Current literature of Inventory Management within SME is inevitable limited; however, the topic of inventory management gained its spotlight as the first decision model to support decisions in regard to inventory replenishment and aims to create a long-term benefit (Ye, Ge, 2018). Rajeev (2008) details the use of inventory management in regard to small medium enterprises as a practice to support them by minimizing inventory costs, keeping low inventory spacing, low inventory which results in lower capital tied up on products and ensure right quantity are available at right time. Recent case studies have been carried out on inventory management, although not in SME- sector specifically. Nevertheless, several of these case studies have identified ABC-classification as key practice of improving inventory management. More of the practice will be explained later (Chu, Liang, Liao., 2008., Plinere, Borisov, 2015., Sohail, 2018., Onwubolu, Dube, 2006).
The literature review of previous studies identified crucial objectives with a good inventory management (Singh, Verma, 2018., Nagle et al., 2018., Nemtajela, Mbohwa, 2017., Chan et al., 2017):
! Low inventory level.
! Reduce holding cost by avoiding overstock but maintain right stock at same time for important items.
! Low capital tied up on stock.
! Ensure minimized overall costs.
A company that manages to put effort on inventory management is essentially able to compete with existing competitors and also grow in the long-term (Nemtajela et al., 2017., Singh et al., 2018). Effective inventory management decrease overall costs by reducing inventory level, which decreases holding costs, reduces chances of overstock and capital tied up on stock. But in real- world context, low level of inventory is not always ideal. Due to complexity of inventory management, it might end up with lost sales due to low inventory volume as production rate is not corresponding to market demand. Therefore, it is important to know which products should focus on smaller amount of volume while keeping right inventory volume for prioritized products (Shen et al., 2017., Chan et al., 2017., Erlandsson, Duhan., 2008).
The inventory consists of three important aspects according to Bowersox (2013): “The inventory policy drives inventory performance. The two key indicators of inventory performance service level and average inventory. “

Inventory Policy

Inventory policy is defined as means of guideline to what to purchase or manufacture. These guidelines are used also includes concert of geographical positioning of inventory positioning. The guidelines also elaborate whether companies should use a centralized inventory, which means one inventory to cover up a larger area (Bowersox et al. 2013).

Service level

Management need to set a performance target, thus service level. The purpose of service level is to provide high quality to customers by increased inventory or as in Axelent’s case, a fast and reliable transportation of shipment (Bowersox et al., 2013).
! The performance cycle defines as the time between placing an order and the receipt of shipment.
! A case fill rate means in percent how many cases did successfully shipped in request. For example, if the case fill rate is 98 percent it means that on average 98 cases out of 100 are shipped as requested.
! The line fill rate is the percent rate of orders lines completed.
! Order fill defines in percent of completing the customer orders.

Average inventory

An inventory is where the materials, components and finish product are stocked. The work processes occur in inventory and the average inventory means the mean of the certain time of period (Bowersox et al., 2013).

Total cost

Total cost defines as ordering cost, transportation and inventory carrying cost. The total cost (logistic costs) has directly an impact on the company’s profit (Jonsson & Mattsson, 2005).

Ordering cost

Order cost includes four different components (Jonsson & Mattsson, 2005):
Changing/ adapting cost refer to the time when the machines adjust to a new manufacturing order.
Order handling cost includes in the purchasing process which refer to handling of order such as planning and economy.
 Material handling cost refer to the goods reception, arrival reception, loading goods in the inventory and material movement in inventory.
Cost of losing the capacity means the cost of wastage and the time of starting a new batch.

Internal transportation cost

The internal transportation cost is mostly included in the inventory carrying cost and could be for example assembling packaging and transporting products internally (Lumbseden, 2006).

Inventory Holding Cost

Holding costs is purely based on inventory factors such as space rent costs, decision making, damages and theft (Nemtajela et al., 2017) The expense is calculated by multiplying annual inventory carrying cost in percent with average value. For example, if the inventory carrying cost percentage is 20 percent and the average value is 1,000,000 SEK the total inventory cost will be 200,000 (0,2* 1,000,000 SEK). Calculating the inventory carrying cost is basic but what represent the percentage is less obvious. The carrying cost percentage will be presented in different cost sections: capital, taxes, insurance, obsolescence and storage. The cost of capital is usually based on the managerial policy while taxes, insurance, obsolescence and storage are commonly based on the specific attribute of the individual products (Bowersox et al., 2013).

Capital

The capital cost percent is determined by the higher management. The capital cost might look different depending on the industry and firm. Firms which mostly use cash will usually hire employees in higher cost of capital percentage. Industry with short life cycle or very high value will probably do the same because hire high cost of capital will give lower inventory (Bowersox et al., 2013).

Taxes

The tax rate various depending on the location. Usually the tax expense is based on inventory value of a specific day or over a period of time. Tax free such as free port status might occur in many local and state authorities (Bowersox et al., 2013).

Insurance

The expense is based on expected risk or loss over time. For example, a very high valued products or hazardous products needs higher protection which gives higher insurance cost. The facility characteristics have also an impact in the insurance cost such as tools for reducing risks (Bowersox et al., 2013).

Obsolescence

The deterioration of a production during a time in the inventory is gives obsolescence cost, for example, obsolescence of a product can be food or pharmaceuticals which expired. The obsolescence cost defines also as financial loss such as a product that is no longer demand or is out of trend (Bowersox et al., 2013).

Storage

Storage cost is related to the product holding cost more than the product handling. The storage cost is indirectly related to the inventory value and more based on the requirements of the specific products. The charge of public or contract warehouses is based on the individual basis (Bowersox et al., 2013).

Capital tied up

Capital tied up in stock is essentially money invested in inventory stocks. This will affect the company’s cash flow and payment ability. The material flow in the system has an impact on the profit and affect the company’s capital tied up and it has an indirect and direct impact of such as the delivery service. Calculation of the capital tied up needs to understand and analyze the logistics performance. The average capital tied up represent the total capital in the material flow or is divided into storage, transportation, product-in-process (PA) etc. The capital tied up can also be expressed as absolute numbers, turnover or the average time of slow-moving inventory (Johnsson & Mattson, 2005).

Absolute numbers

The definition of the capital tied up express in absolute numbers is the same as the inventory value. If the company does not have previous data of the capital tied up, the capital tied up can be calculated. The formula is multiplying the average inventory (in quantity per article) with product value per article (Johnsson & Mattson, 2o05).

Turnover

Absolute numbers cannot be used if the company wants to compare the capital tied up with different inventories or departments. Instead calculating the turnover could be another option. The turnover mean as how many times per year the average inventory sold and been replaced. It expressed as the value of the of the total material flow under a certain period, mostly per year (Johnsson & Mattson, 2o05).
The formula for the turnover:
The turnover= annual sales/ average inventory

Slow moving inventory

The slow-moving inventory is another expression of the turnover. If the turnover increases the slow-moving inventory decrease and vice versa (Johnsson & Mattson, 2o05).
Slow moving inventory= ((average capital tied up in the flow) * 52)/ delivery value per year= (1 * 52) /turnover
Multiplying 52 is because the formulate wants to be express in weeks.

Part 2: Inventory Control technique

ABC-Classification

Chu et al. (2008) explained the purpose of inventory management is to make the best decisions in regard to inventory level. In practice, not all inventories can be controlled with equal focus, therefore ABC-classification is used as management practice. Several studies pointed it out as the fundamental inventory control technique that contributes to maximum profit and benefit by classing the products into three classes, A, B and C (Chen, 2011., Plinere et al., 2015, Ravinder, Millstein, Yang, Li, 2014., Sohail, 2018., Chu et al., 2008., Torabi, Hatefi, Saleck Pay., 2012). Identifying the highlights of these studies shows that the inventory classification contributes to a better inventory management by:
! Implying which products generates most profits.
! Indicates products that generates most costs.
! Classify products and prioritize them accordingly.
! Keep lower level of inventory if necessary, thus decreasing capital tied up on stock and holding costs.
! Decrease lead time.
Literature review of ABC-classification is essential as it enables the authors to understand why the technique helps inventory control. The technique essentially follows the 80/20 rules to identify a company inventory. In the current literature, some parameters were identified for the inventory classification (Millstein et al., 2014., Onwubolu et al., 2006., Sohail, 2018):
! A-class are top items with critical priority and constitutes between 10-20% of all items and is responsible for 80% of the total product costs. High costs indicate high generating of capital tied up on stock.
! B-class are middle class with medium priority and constitutes 20-30% of all items and is responsible for 15% of total product costs.
! C- class is explained as low priority and constitutes the remaining 50-70% of all items and 5% of the remaining total product cost.
Ravinder and Misra (2014) further explains that ABC-classification have always had the criteria of only looking at the profitability of the products, but later points out there are more criteria to look at such as lead time, inventory holding cost and batch quantities. The benefit of ABC technique applies in many areas for example, material purchasing parts, component parts or product depending on what the company wants to categories. Depending on the company, some might classify their inventory more than three groups. Every company should adapt their inventory system to its own distinctive feature. But all have same principles; highest cost categories in A and require most attention, and C class requires low attention (Tanwari et al., 2000., Ravinder, Misra, 2014).

Planning Inventory

Aside from classifying the different products, an inventory planning is needed. Inventory planning includes the determination of when and how much to order. The factors of when to order is based on demand, uncertainty and the average of the replenishment lead time. Lead time is the time required for a product from an order to be placed and consumed. The lead time could be time required to procure the necessary materials, manufacturing the products, moving products, inspecting time etc. This also means that if a supplier has a lead time of 7 days to prepare raw materials, it also means that the main manufacturer also needs 7 days of supplier ready in order to produce the products as soon as the raw materials reaches the manufacturer. To calculate the best order point, it should be based on the economic order quantity, which will be explained soon (Bowersox et al., 2013).

When to order:

The reorder point explains when it is time to place a new order in terms of units’/ days’ supply. The reorder point is based on the demand and the performance cycle (Bowersox et al., 2013).
The basic formula is (Bowersox et al., 2013):
R=D×T
R= Reorder point in units;
D= Average daily demand in units
T= Average performance cycle length in days
Another formula with the same outcome if the safety stock is known (Bowersox et al., 2013):
R=D×T+SS
R = Reorder point in units;
D = Average daily demand in units
T = Average performance cycle length in days
SS = Safety stock in units

Content
1 Introduction 
1.1 Background
1.2 Problem formulation
1.3 Purpose and research questions
1.3 Scope & Limitations
1.4 Disposition
2 Method and Implementation 
2.1 Work process
2.2 Approach
2.3 Design
2.4 Literature review
2.5 Data collection
2.6 Research Quality
3 Theoretical Framework 
3.1 Connection between research questions and framework
3.2 Part 1: Efficient Inventory Management Goals
3.3 Part 2: Inventory Control technique
3.4 Part 3: Action Plan
4 Findings and analysis 
4.1 Situation Assessment
4.2 Lead time
4.3 Findings and analysis of ABC- classification
4.4 Findings and analysis of PDCA-cycle
5 Discussion 
5.1. Discussion of Findings
5.2. Discussion of method
6 Conclusion and Recommendations 
6.1 Further research
References
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Developing Action Plan for Inventory Management