Module 4 – Inventory Management Fundamentals

Module Overview

Welcome to Module 4 of the EFOS Logistics & Supply Chain Management course.

This module introduces the fundamentals of inventory management, including inventory types, stock levels, replenishment planning, inventory classification, stock rotation, and stock accuracy. Students will learn how organizations maintain the right quantity of stock to meet operational and customer requirements while avoiding unnecessary inventory costs.

The module combines essential concepts with practical examples and workplace scenarios.

Learning Objectives

By the end of this module, students will be able to:

• Identify common types of inventory.

• Understand SKU identification and inventory stock levels.

• Explain safety stock and reorder point.

• Understand the purpose of Economic Order Quantity (EOQ).

• Explain ABC inventory analysis.

• Differentiate between FIFO and FEFO.

• Identify causes and effects of stockouts and overstocking.

• Understand inventory turnover, cycle counting, and physical stock verification.

• Apply inventory concepts to practical warehouse situations.

Topics Covered

1. Types of Inventory

Inventory refers to goods and materials held by an organization for production, operations, or sale.

Common types include:

• Raw Materials: Materials used to manufacture products.

• Work-in-Progress (WIP): Items that have entered production but are not yet finished.

• Finished Goods: Completed products ready for sale or distribution.

• MRO Inventory: Maintenance, Repair, and Operations supplies used to support business activities.

Different inventory types require different storage, tracking, and replenishment practices.

2. SKU and Stock Levels

SKU (Stock Keeping Unit) is a unique identifier used to distinguish an inventory item.

Inventory teams monitor stock levels to ensure that products are available when required.

Important concepts include:

• Minimum Stock Level: A defined lower inventory threshold used for planning.

• Maximum Stock Level: A defined upper inventory target or limit.

• Available Stock: Inventory available for use or sale, based on the organization's inventory rules.

• Reserved Stock: Inventory allocated to specific orders or requirements.

• Stock on Hand: Physical inventory recorded as being present at a location.

• Stockout: A situation in which the required item is unavailable.

• Overstock: Inventory exceeding the quantity required for expected demand or the target stock level.

Accurate stock records help prevent shortages, unnecessary purchases, and operational disruptions.

3. Safety Stock and Reorder Point

Safety Stock is additional inventory maintained to protect against uncertainty in demand, supplier delivery, or replenishment lead time.

Reorder Point (ROP) is the inventory level at which replenishment should be initiated.

A commonly used formula is:

Reorder Point = Average Demand During Lead Time + Safety Stock

Illustrative example:

• Average daily demand: 20 units.

• Supplier lead time: 5 days.

• Safety stock: 30 units.

Demand during lead time = 20 × 5 = 100 units.

Reorder Point = 100 + 30 = 130 units.

When the relevant inventory position reaches approximately 130 units, the organization should consider initiating replenishment according to its planning rules.

Actual reorder calculations may need to account for open orders, reserved quantities, demand variability, and other factors.

4. Economic Order Quantity (EOQ)

Economic Order Quantity (EOQ) is an inventory planning method used to estimate an order quantity that balances ordering costs and inventory holding costs under specified assumptions.

The basic EOQ formula is:

EOQ = √(2DS / H)

Where:

• D: Annual demand in units.

• S: Ordering cost per order.

• H: Annual holding cost per unit.

EOQ is a planning tool rather than a mandatory order quantity. Real-world decisions may also depend on supplier minimum order quantities, storage capacity, budget, shelf life, and delivery constraints.

5. ABC Inventory Analysis

ABC analysis classifies inventory according to its relative importance, commonly using annual consumption value.

• Category A: Items that account for a relatively high share of inventory value and may require close monitoring.

• Category B: Items of intermediate importance that require regular control.

• Category C: Items that generally account for a smaller share of inventory value and may be managed using simpler controls.

The classification thresholds depend on organizational policy and the inventory profile.

ABC analysis helps teams prioritize attention, improve control, and allocate inventory management effort effectively.

6. FIFO and FEFO

FIFO (First In, First Out): The oldest received inventory is issued or dispatched first.

FEFO (First Expiry, First Out): Inventory with the earliest expiry date is issued or dispatched first.

FIFO can support stock rotation where receipt sequence is relevant. FEFO is especially important for products with expiry dates, such as food, medicines, and certain chemicals.

Warehouse teams should follow the rotation method appropriate to the product and company procedure.

7. Stockout and Overstock

Stockout occurs when the required item is unavailable when needed.

Possible causes include:

• Inaccurate demand forecasting.

• Incorrect reorder points.

• Supplier delays.

• Incorrect inventory records.

• Unexpected increases in demand.

• Poor replenishment planning.

Possible consequences include missed orders, production interruptions, emergency purchasing, and customer dissatisfaction.

Overstock occurs when inventory exceeds expected requirements or target levels.

Possible causes include:

• Overestimating demand.

• Excessive purchasing.

• Poor coordination between teams.

• Slow-moving inventory.

• Inadequate review of existing stock.

Possible consequences include higher storage costs, tied-up working capital, damage, expiry, and obsolescence.

8. Inventory Turnover

Inventory turnover measures how frequently inventory is sold or consumed and replenished over a defined period.

A common formula is:

Inventory Turnover = Cost of Goods Sold ÷ Average Inventory Value

A higher turnover may indicate efficient movement of inventory, but interpretation depends on the business. Very high turnover may also indicate insufficient stock, while low turnover may indicate excess or slow-moving inventory.

Students should understand that inventory turnover is a performance measure and should be evaluated alongside service levels, stockouts, and product characteristics.

9. Cycle Counting and Physical Verification

Cycle Counting involves counting selected inventory items regularly rather than waiting for a single full physical stock count.

Physical Stock Verification compares the actual quantity present with the inventory records.

A basic verification process includes:

1. Identify the SKU and storage location.

2. Count the physical stock accurately.

3. Compare the result with the system quantity.

4. Recount or investigate discrepancies where required.

5. Review receipts, issues, transfers, dispatches, and adjustments.

6. Report findings and obtain required approval before changing records.

7. Record corrective and preventive actions.

Accurate inventory records support purchasing, order fulfilment, warehouse operations, and business reporting.

Practical Scenario: Inventory Stockout

A warehouse system shows that 200 units of a product are available. A customer order requires 150 units, but the warehouse team discovers that only 120 units are physically present.

Students should consider:

• Is there a discrepancy between system stock and physical stock?

• Could any units have been dispatched, transferred, damaged, or recorded incorrectly?

• Should the SKU and storage locations be recounted?

• Which transaction records should be reviewed?

• Who should be informed about the shortage?

• How should the customer order and replenishment requirement be managed?

• What action could help prevent a similar issue?

The correct response should focus on verification, documentation, communication, and approved corrective action rather than making an unsupported stock adjustment.

Practical Learning Activity

Prepare a simple inventory worksheet containing:

1. SKU.

2. Product description.

3. Opening stock.

4. Receipts.

5. Issues or dispatches.

6. Closing system stock.

7. Physical stock.

8. Difference between system and physical quantities.

9. Reorder point.

10. Recommended action.

Identify items that require replenishment, investigation, or closer monitoring.

Module Review

Students should be able to explain inventory types, SKU and stock levels, safety stock, reorder point, EOQ, ABC analysis, FIFO, FEFO, inventory turnover, cycle counting, and physical verification.

Key Takeaway: Effective inventory management balances product availability, stock accuracy, replenishment planning, and inventory costs.

Next Module: Warehousing & Distribution.