Inventory Cost

As you’ll learn next, uncontrolled inventory can lead to huge costs for a manufacturing operation. Consequently, managers need good measures of inventory to prevent inventory costs from becoming too large. Three basic measures of inventory are average aggregate inventory, weeks of supply, and inventory turnover.

Companies often measure average aggregate inventory, which is the average overall inventory during a particular time period. Average aggregate inventory for a month can be determined by sim-ply averaging the inventory counts at the end of each business day for that month. One way companies know whether they’re carrying too much or too little inventory is to compare their average aggregate inventory with the industry average for aggregate inventory.

Too few weeks of inventory on hand, and a company risks a stockout—running out of inventory. Another common inventory measure, inventory turnover, is the number of times per year that a company sells, or “turns over,” its average inventory. In general, the higher the number of inventory turns, the better.

Economic order quantity (EOQ) formulas are intended for use with independent demand systems, in which the level of one kind of inventory does not depend on another. By contrast, JIT and MRP are used with dependent demand systems, in which the level of inventory depends on the number of finished units to be produced.