Three Approaches to Inventory Investment

By: Richie Capeles
March 8, 2022

Imagine going into your facility’s storeroom to retrieve an item and it’s not there. You need it now to keep your operations running and if you order it today, you’ll likely not see it for two to three days. Scary, right? But what’s the other side of that coin? Stocking every item you MIGHT need? What does that mean for your space? Your budget? Understand the three different approaches to inventory management and decide which fits best into your organization.


How Does Inventory Support Your Organization?

Inventory is necessary for your business, it’s either working for you, or it’s working against you. When organizations better understand what’s coming in and out of their facility, at what rate and why, they can take the proper steps to leverage that inventory in a way that will better financially support the business.

It’s common for people to manage and assess inventory once a year. That means, if you had a dollar in inventory investment, you would turn that dollar just once in a 12-month timeframe. Now think about that inventory as a whole. On average, an organization sees 1,000 – 1,200 items on the shelf and ONLY 50% percent of that gets used within a year. Of the other 50%, about 25% of inventory is getting turned four times or more. While that may seem like something to celebrate, that 25% can trick people into thinking that a majority of their inventory is moving when it’s actually not, causing facilities to neglect a majority of their materials.

When trying to mitigate the negative effects of poorly management inventory, companies tend to migrate to one of three different approaches to inventory management:

  1.  Stocked approach
  2.  Managed approach
  3.  Leveraged approach

    Stocked Approach

    The main focus of the stocked approach is availability. The motivator here is avoiding stock outs which, in essence, can shut down production operations. This is a manual approach to material management, done primarily through observation, and is where most companies start (and stay in this arena) when looking at their inventory investments.

    Because the support mechanism for the stocked approach is very reactive in nature, items tend to build over time. When you think you need something, you buy it. If it took a lot of effort to find this product, you’ll want to buy two or three and put it on the shelf for “next time.” While this method works for small businesses, this becomes a liability for larger corporations because they don’t leverage the space appropriately. Take this illustration for example:

    This image represents all your inventory spread across your facility. Anybody can order inventory (the water) and fill up the facility (the tub). The issue here is that the consumption rate is not equal to the demand rate. So, over time your materials tend to accumulate into “dirty water.” Because of a lack of organization, over time, items can get caught in a whirlpool and become hard to find. With no overflow, nor a plan to recover those assets, your organization can get to a critical state. Some companies might try to have a moratorium day, where they bring all items together to track them across the business, but many organizations, in time, realize that it’s best to migrate from this stocked approach to a managed approach.

    Managed Approach

    A managed inventory approach looks at the processes associated with inventory management and takes an analytical approach where data is priority. You’ll need to understand your issuance, by putting in mechanisms to track materials. Becoming more structured in nature, you’ll begin to look at the consumption rate, analyzing shelf levels, and point of use. This illustration can help you better understand:

     

    This image represents a controlled storeroom concept. When you start to have rules in place for inventory management, you begin to ask, “What should we stock? What isn’t necessary to keep on hand? And what is the criticality of this particular part?” Because you’re putting processes in place to support the business, you’re also putting control in place. This can be done through the use of manual repetition orders or through an automated e-procurement type of solution.

    The “bouncer at the door” is your storeroom attendant, who will control access to material and issue parts out in order to patch the “leakage.” This process becomes more structured by leveraging systems and technology to bring back data for assessment. This is seen in the labels on the shelf, the info on the books and even through advanced pen and paper technology. This is where you will see companies move from a card system, to a spreadsheet system, then to a computerized material management system. With this data, you can eventually migrate to a leveraged approach to material management. 

    Leveraged Approach

    The leveraged approach isn’t just about leveraging your inventory, it’s about leveraging as a recoverable investment for your business. It’s where you see inventory as an asset to the company. Think of it as, taking $100 worth of material and turning it into a $100 return into your business operations. In this approach you are not just gathering data, you are analyzing that data to understand what should and shouldn’t be put on the shelf. Where in the facility does it make best sense to store? You use the data to determine what you should rely on a supplier to hold. This data helps you better understand what the criticality of materials is. This illustration explains the leveraged approach: 

     

    This image represents a company that is investing wisely as it pertains to materials. Within this approach, inventory is seen as an asset and as a recoverable value. This environment has somebody (the doctor) who is overseeing the inventory and strategically viewing it. It’s no longer about, “Can I reduce my inventory?” You’re now looking at right sizing your inventory. You may get into that environment and say, “I need to increase levels because of criticality on this particular item, but I need to save money on these other non-critical items to offset that additional investment.”

    You now have “cash on the shelf” that you’re trying to turn into “cash in hand.” You accomplish this by asking questions like, “If I retire a machine, does the indirect materials associated with that machine get retired at the same time?” When inventory is seen as a leveraged asset as opposed to “a necessary evil,” you have better control over what’s coming in and out of your facility, as well as optimizing your budget to put substantial return into your business.

    The Life of Inventory

    The life of managed inventory can see a corporation take on all three of these approaches. You progress from, “here’s a good spot” in a stock world, to “we are getting visibility and control over it” in a managed world, and finally seeing inventory as an asset to the company, in a leveraged world. That transition from a stocked world to a leveraged world has the greatest impact on the success of your inventory.


    Information taken from the 2022 Grainger show seminar, “MRO as an Inventory Investment” presented by Daniel McLellan of Grainger Consulting Services.


     

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