8 inventory management methods for manufacturing

Here are 8 inventory management methods to get you started with optimizing your inventory control.

which costing method to choose
Published: 20.06.2022

Are you finding that you’re struggling to keep inventory levels at an adequate level?

It could be that increasing demand has you on the back foot, and your lead time is slowly increasing with each fulfillment. Or maybe you have some finished goods stocked which aren’t selling so well and are taking up space. I these issues sound familiar to you, it’s time to audit your inventory management practices.

In this article, you’ll learn all the essentials to adopting inventory management methods, with a choice of eight to get you started on this path.

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Methods of inventory management like JIT inventory involve having stock available only when needed, reducing waste and storage costs.

What is inventory?

Inventory refers to the company’s goods and materials in production or sales.  

An accurate inventory is essential for businesses to manage their resources effectively and efficiently. Inventory accounting involves recording and tracking information such as the quantity, value, and stock location. This information helps businesses make decisions about production, purchasing, and sales.  

Inventory management is the process of overseeing and controlling inventory levels.  

This includes activities such as order planning, warehousing, and transportation. Effective inventory management ensures businesses have the right stock level to meet customer demand. It can also help to minimize waste and optimize production processes.  

There are various methods of valuing inventory, including last-in, first-out (LIFO), and first-in, first-out (FIFO).  

The most appropriate method will depend on the type of inventory and the business’s accounting needs.  

Inventory is a key asset for businesses and can significantly impact financial statements. For this reason, it is important to have accurate and up-to-date records of inventory levels. Regular stocktaking can help to ensure that inventory levels are accurately reflected in accounting records.  

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What are the methods of inventory management? EOQ inventory is a system where businesses order stock in quantities that meet their projected needs, considering factors such as lead time and discounts for larger orders.

What are the methods of inventory management?

Inventory management is tracking and managing stock levels to ensure businesses can meet customer demand. Businesses can use various methods to manage their inventory, including:

  • Just-in-time (JIT) inventory
  • Kanban systems
  • Economic Order Quantity (EOQ) models
  • Perpetual systems

Each method has its own advantages and disadvantages, so it’s important to choose the right one for your business based on your specific needs.  

Businesses can use various other methods to manage their inventory, including:  

  • Cycle counting  
  • Average costing  
  • ABC analysis  
  • Just-in-case (JIC) inventory  

Choosing the right method for your business will depend on various factors, including the type of products you sell, your customer demand, and your budget.  

Inventory management is an important part of running a successful business. Using your business’s right inventory management system can minimize carrying costs, reduce waste, and increase efficiency.  

To effectively use modern methods of inventory management, businesses need accurate and up-to-date records of their stock, where it is located, and how much it is worth.

8 inventory management methods for manufacturing productions

Now that you know everything there is about handling stock in general, here are eight inventory management methods to get you started:  

1. FIFO — first in, first out

First in, first out is a common inventory management technique used in manufacturing.  

This system helps ensure that the oldest products are used first and reduces the chance of spoilage or obsolescence. First in, first-out (FIFO) is an inventory valuation method in which assets are sold, used, or disposed of in the order in which they are produced or acquired. This method is often used for accounting purposes, providing a more accurate picture of an organization’s inventory levels and costs. 

FIFO is often considered the most accurate inventory valuation method, as it more closely reflects the actual flow of goods in and out of an organization.  

However, tracking and managing inventory using the FIFO method can be more difficult, especially for organizations with large and complex inventories. As a result, some businesses may use a combination of methods to value their inventory. 

2. LIFO — last in, first out

LIFO (last-in, first-out) is one method used to calculate the cost of inventory for the cost of goods sold.  

As the name suggests, the LIFO inventory valuation method sees that the last items placed into inventory are sold first. This results in higher costs being assigned to goods sold in periods of inflation because the most recent purchases have been made at the highest prices. LIFO can lead to lower taxes because the IRS allows businesses to deduct the higher costs of inventory from their taxable income.   

This benefit is most pronounced in periods of high inflation when the prices of goods have risen significantly. 

Despite these potential benefits, LIFO has some drawbacks. First, it can result in large swings in the cost of goods sold from one period to the next, making financial statements challenging to interpret. Second, it may not accurately reflect the true economic value of inventory since the newest items may not be the ones that are actually being used or consumed. 

If you’re considering using LIFO for your business, carefully weigh the pros and cons.  

You should also consult with a tax professional to ensure that you take advantage of all the available benefits.  

3. JIT — just-in-time

Just-in-time (JIT) inventory is a system where businesses only order enough stock to meet current customer demand.   

This system minimizes holding costs and ensures that businesses always have the products they need on hand, but it can be difficult to implement and maintain.  

Just-in-time (JIT) inventory management is a system where businesses align their raw-material orders from suppliers directly with their production schedules. Businesses can avoid the high costs associated with maintaining a large inventory by ordering the necessary materials and components when needed for production. JIT inventory management can help businesses to improve their overall efficiency and profitability.  

There are a few key things to keep in mind when implementing a JIT inventory system:  

  • Accurate forecasting is essential to avoid material shortages or surpluses  
  • Supplier relationships need to be managed carefully to ensure timely deliveries  
  • Strict quality control measures must be in place to avoid the waste of materials and resources   

When done correctly, JIT inventory management can be a highly effective way to improve a business’s bottom line. However, it is important to note that this system is not without its challenges. Businesses need to be aware of the potential risks and pitfalls before implementing a JIT system to avoid disruptions to their operations.  

4. Economic order quantity (EOQ)

Economic Order Quantity (EOQ) models help businesses determine the optimal order quantity for their inventory.   

This method considers various factors, such as holding and ordering costs, to help businesses find the most cost-effective way to manage their stock levels. The economic order quantity (EOQ) is the optimal order quantity for a company to minimize its total costs related to ordering, receiving, and holding inventory. The EOQ model considers the trade-off between the cost of ordering inventory and the cost of carrying inventory.   

There are a few different ways to calculate EOQ, but the most common is the EOQ formula developed by economist Harold A. Hotelling in 1931. This formula is:  

EOQ = √(2*A*D)/C

Where A is the annual demand for the product, D is the fixed cost of placing an order, and C is the variable cost per unit of inventory.

The EOQ model can determine the optimal order quantity for a company’s inventory, but it has some limitations. For example, the model does not consider the lead time for orders or the demand for a product during that lead time. Additionally, the EOQ model assumes that inventory is continuously available and that there is no limit on the amount of inventory that can be ordered.

Despite its limitations, the EOQ model is still helpful for assessing a company’s inventory costs and determining an optimal order quantity.

Businesses can use the EOQ formula to minimize ordering, receiving, and holding inventory costs.

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5. Average costing  

To use the average cost, or weighted-average method, a manufacturer assigns a cost to items in inventory based on the total cost of goods purchased or manufactured in a period, divided by the total number of items:  

Average cost Formula = Total cost of production / Number of units produced

Under this method, each unit in stock is assigned a cost equal to the average of all costs incurred to acquire or produce the units available for sale.  

The average cost per unit is computed periodically, usually at the end of each accounting period — and all units in inventory are then valued at this average cost. 

There are several advantages to using the average cost method. First, it is relatively easy to compute and does not require detailed records of individual purchase prices. Second, it reflects the mix of items available for sale since units acquired or produced at a higher cost will have a higher average cost than units acquired or produced at a lower cost. 

However, there are also some disadvantages to using the average cost method. First, it may not provide an accurate picture of actual costs incurred for the current period since older and cheaper inventory items will be mixed in with newer and more expensive items. Second, this method does not consider changes in market prices, which can impact the sales price of inventory items. 

6. Cycle counting 

With cycle counting, inventory checks and balances are confirmed with physical inventory counts to match records.  

To do this, manufacturers need to perform a regular stocktake and record adjustments of specific products. Cycle counting has many benefits, including reducing the need for annual or quarterly inventory counts, catching errors and discrepancies early, and providing accurate data for decision-making purposes. In addition, cycle counting can help identify areas where processes need to be improved to prevent future mistakes. 

When done correctly, cycle counting can be an extremely helpful tool for managing inventory. 

There are some drawbacks to using cycle counting:  

  • If not performed regularly, cycle counts can become outdated and no longer provide accurate information 
  • If cycle counts are not coordinated properly, they can cause disruptions in the workflow 
  • Cycle counting can be time-consuming and labor-intensive, so it is important to weigh the benefits against the costs before deciding whether or not to implement this method in your own business 

Overall, cycle counting is a powerful tool that can benefit businesses.  

However, it is important to consider the potential drawbacks before deciding whether or not to implement this method in your own company.  

7. ABC analysis 

ABC analysis, or ABC inventory management, determines the value of your inventory based on the item’s importance.   

ABC ranks items based on demand, cost, and risks and groups items into classes. There are three types of inventories in ABC analysis:    

  • High-value items  
  • Medium-value items  
  • Low-value items    

ABC analysis can be used to decide which inventory items to stock, how much to stock, and when to order more.  

It can also be used to decide which inventory items to sell, how to price them, and how to promote them. The benefits of ABC analysis include improved decision-making, reduced inventory costs, and improved customer service. The disadvantages of ABC analysis include the need for accurate data and the potential for human error.   

ABC analysis is a valuable tool for any business that wants to improve its inventory management.   

The hierarchy of ABC inventory

  • High-value items are in high demand and have a high cost 
  • Medium-value items are in moderate demand and have a moderate cost  
  • Low-value items are in low demand and have a low cost 

8. Perpetual inventory system

Perpetual inventory systems, or live inventory management software, record sales, purchasing, and inventory usage immediately through computerized POS systems or ERP manufacturing software.    

This system provides businesses with up-to-date information on their inventory levels, allowing them to make more informed decisions about ordering and selling products.  

Perpetual inventory systems can be implemented in several ways, depending on the needs of the business. For example, some businesses may choose to install point-of-sale systems in all of their retail locations, while others may only implement them in certain locations or for certain types of products. Enterprise asset management software can also be used to track and manage inventory levels across multiple locations.  

Perpetual inventory systems offer many benefits over traditional inventory management methods. Perhaps the most important benefit is that they provide real-time information on inventory levels, which can help businesses avoid stockouts and lost sales. Additionally, perpetual inventory systems can help businesses reduce overall inventory costs by improving visibility into stock levels and turnover rates.  

If you are considering implementing a perpetual inventory system in your business, there are a few things to keep in mind:  

  • You will need to determine what type of system will best meet your needs  
  • You will need to choose the right software and hardware for your implementation  
  • You will need to train your employees in how to use the new system  

A perpetual inventory system can be a valuable tool for any business with careful planning and execution.  

Inventory management is a critical part of manufacturing operations. These eight methods can help you optimize your inventory control and reduce waste. Choose the method that best fits your manufacturing needs and start improving your production.  

Katana ERP manufacturing software

Katana is a perpetual system that performs these cost calculations automatically, so you can focus on growing your business.

Katana ERP manufacturing software for optimizing inventory management 

From your shop floor or Timbuktu — if a problem arises, you can easily access your inventory from anywhere with Katana ERP, a cloud-based perpetual inventory system.   

Running low on raw materials? Or maybe one of your sales locations needs more inventory to fulfill orders? Simply log into Katana and make purchase orders or perform stock adjustments from anywhere, just if you have a connection to the internet.   

Complete inventory control at your fingertips.  

Katana makes stock taking a breeze, saving you time and money with:  

  • Reorder point management  
  • Real-time overview of inventory movement and operations progress   
  • Integrations with your favorite e-commerce and accounting software   
  • Multichannel sales and locations management   
  • A smooth stress-free workflow from purchasing to manufacturing, and sales    

Try it for yourself. Katana gives users a 14-day free trial, so you can implement ERP software and optimize your inventory management methods with the power of automation.   

So, now you know all about the modern inventory management methods, you can take your business to the next level.  

And until next time, happy inventory management.  

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James Humphreys

Content Manager

James Humphreys has a background in creative writing and has been writing about the manufacturing industry for 3+ years.

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