What is Inventory? Keeping, Maintaining, and Managing Inventory Risk for Companies

A worker scanning inventory.
A worker scanning inventory.

Image Credit: Marcin Balcerzak/Shutterstock.com

For many companies, business operations center on available inventory. Put simply, inventory is defined as the products within a company’s supply and control that are available for sale. While inventory is generally thought of as a company’s stock of product or goods, it can take many different forms.

In fact, there are several different kinds of inventory classifications. Raw materials, for example, are the materials used to manufacture or create a product. Inventory that is a work in progress comprises materials that are in the middle of the manufacturing process, whereas finished goods are the materials that have completed the manufacturing process and are ready for sale. Service inventory consists of inventory or tools that are used by service-providing companies. And finally, in-transit inventory refers to inventory that is currently in the middle of the transit process, whether by plane, train, truck, or boat.

Why Companies Keep Inventories

Keeping your inventory well-stocked is a crucial aspect of keeping business operations running smoothly. There are a few main reasons why companies choose to keep inventories stocked in their facilities.

First, keeping inventory on hand allows a company to meet any expected increases in demand. It also ensures that the appropriate amount of products are available, should there be an unexpected increase in demand. Plus, keeping a strong inventory supply allows a company to benefit from periodic price reductions when making bulk purchases of needed raw materials.

And in the event that a facility’s systems fail or break down, having inventory available means the company won’t take too large of a hit in sales, as there will be a supply of products that can still be sold while systems are down. Lastly, steady inventory allows a company to regularly ship products to retailers as needed, instead of having to send periodic batches based on the production cycle or individual orders.

In addition to these key reasons, there are financial motivations for companies to keep their inventories well-stocked. Not only does inventory figure into a company’s cost of goods, it also contributes to a business profit margin. For accounting purposes, inventory counts toward a company’s total assets, and it even determines a company’s liability when it comes to taxes. Because inventory is so integrally tied to companies’ financial operations, understanding how it affects business is critical for ensuring future success.

How Companies Maintain Inventories

There are a few different methods companies can employ to keep track of their inventory and determine optimal levels. Some of the most common tactics include:

  • First in, first out — This method assumes that the item sold first is the item that was purchased or acquired first.
  • Last in, first out ­— This method assumes that the last item acquired is the first to be sold.
  • Lower of cost or market (LCM or LOCOM) — This method involves recording the item at either the historical cost or the current market value, depending on how the value of the item has changed.

Each of these methods can be customized to better fit your unique inventory and business needs.

No matter which method you choose, a computerized system to help you keep track of inventory (or even a virtual inventory system) is one of the best tools available in today’s technological age. There are various kinds of inventory software programs available that can easily sync with other systems currently in use, providing an accurate, real-time assessment of inventory levels at any given time — even if inventories are geographically spread out in different facilities.

Common Inventory Risks

As with anything, there are certain risks associated with keeping and maintaining inventory. Some of the most common issues include:

  • Developing an excess of inventory that can’t be sold
  • Having too much demand and not enough supply
  • Losing inventory because it’s gone bad or has expired
  • Not having enough raw materials available to meet production levels
  • Experiencing declines in product values
  • Making errors in the inventory control process
  • Working with distribution partners who can return inventory whenever they choose, creating a surplus

Despite the risks involved, maintaining and controlling inventory remains a critical part of business operations. In particular, there are four industries that take special care to maintain their inventories to ensure smooth, efficient operations: the food distribution, e-commerce, consumer goods, and electronics sectors.

Well-Managed Inventory, Smooth Operations

Properly maintaining and controlling inventory allows for a range of practical and financial benefits. It allows you to consistently meet increases in demand without having to wait for a full production cycle to finish before receiving more product. It allows you to fill orders quickly and efficiently. And by providing a reliable backup supply, it prevents you from losing sales in the event that your facility experiences a system breakdown.

Regardless of your particular business goals, maintaining and accurately calculating inventory will help your company prepare for almost anything that comes your way.

Other Procurement Articles

More from Procurement