T. Gordon, CPIM-F
Kipling’s poignant line, “But to stand and be still to the Birken’ead drill is a damn tough bullet to chew”[1] would probably sum up the feelings of most manufacturing professionals when they consider the messes that are the current supply channels. This situation has been exacerbated by the fact that most inventory models are versions of “Just In Case”; the reason being that no manager likes to risk missing an important shipment just to conform to a generalized philosophy.
Deming gives a timely warning: “It is a hazard to copy”. [2]
Inventory is a problem for most manufacturers, especially if it sitting on a ship outside Los Angeles or stuck in the Suez Canal.
You either have too much or, more likely, you do not have enough[3]. The question that most people do not seem to ask is, “How much inventory should we have by policy?” Just Enough Desirable Inventory [4] is about preparing the ground for the establishment of that policy and its concomitant inventory levels, achieving the goals of that policy and then ensuring that there are effective measurements in place to check that the policy is being operated and is working as planned. In a nutshell, Plan-Do-Check-Act as applied to inventory.
The value of Inventory.
Many people do not realize but a million-dollar project can be held up for the want of a component costing a few dollars. [5] The “value” of the shortage, to the company, is a million dollars. The reason being is that the invoice will not be paid until the product is shipped. Until that time, the product with the shortage is just an elegantly engineered pile of cost adding junk, even if the absence of a simple Warning label is the reason to delay shipping. On the other hand, inventory is not an asset; it is a real pain in the neck.
The accountants count inventory on the asset side of the balance sheet and that tells me, in my simplistic interpretation, that inventory has some kind of intrinsic value. That it can be sold to make money. My view may be ingenuous but so is the view taken by GAAP. I should be more comfortable with an Activity Based Costing [ABC] viewpoint but that is not GAAP, either. Neither method considers velocity – the rate at which raw materials and components can be converted into something saleable – and that must constitute a fundamental flaw. To see the error in the traditional way of thinking, more clearly, we should examine the three stages of inventory in a manufacturing organization:
- Raw materials. Indeed, raw materials and components have a resale value. The chances are, however, that you will not be able to get as much for them as you paid. This is particularly true of components that have been made especially for you. Who else will want them? When valuing raw materials, the equation should be something like:
Market price – [cost of stores + cost of getting it to the new buyer]
This is how you can reasonably value raw materials. Components can be different. If they can only be used in your process, then the value to an outsider is zero; if they are useable elsewhere then the raw material equation should be used. Panic buying, at premium rates during this crisis will simply up the price of the finished goods, probably to a level that is uneconomic.
- Part finished. Essentially, a zero value unless you are very lucky. Raw scrap value if you are not. It is a complete myth to think that Work in Progress and part-finished items have any value outside the factory. Cost, yes, Value, no. The utility of WIP is a to the length of time that it is WIP. If the product is canceled or goes out of fashion while it is Work-In-Progress you, again, have a pile of elegantly engineered junk.
- Finished Goods. If you can sell them that is great. Again, the value of a finished product is a to the length of time that it remains in the warehouse. The longer it is in the warehouse the less value it has. “Steady Eddy” [6] can wreak havoc with his forklift, goods can deteriorate, get “lost” and all manner of things. Consider the balance sheet of the buggy whip manufacturer the year-end before the motor car was invented. Or, more likely, the cigarette manufacturer the day before people finally realize that cigarettes kill you!
And, of course, to arrive at the fictitious balance sheet item you must pay someone to count it and audit it.
Inventory, then, is not all that it is cracked up to be. It is typically overvalued. It can cripple the company in other ways. You must store inventory somewhere, you have to move it, guard it, heat it, light it, account for it, issue and receive it. [7] All cost adding activities. The idea of zero inventories is very appealing – if you haven’t got any then you don’t need to worry about it. Right!
On the other hand, inventory can be thought of as being like the police. If you have had a skin full of your favorite brew and you must drive home the police are the last people you would want to see. If you are in trouble, then they are the only people that you want to see. When you need parts or raw materials, inventory is a Godsend, just like the local scuffers [8] when you are being mugged. We are at the other extreme now – Just In Case Inventory. Fill the warehouse with everything that we are likely to need or can sell. This obviously will not work, either.
It seems axiomatic that there must be a balance in the level of inventory. Some happy medium between “shortages” and “longages” that could, with a bit of thought, be achieved. A level should be found to satisfy the company needs when the company has those needs. A middle way that will not send the company into bankruptcy and will not mean that every customer order is treated as a complete surprise, thus extending lead times while purchasing try to get in the necessary material. The middle way is Just Enough Desirable Inventory [JEDI]. The hard part is finding it for each business because what works in one situation will, as Deming warned, undoubtedly fail in another. Each company must have a method by which it can determine its own inventory policy, thus decide how much inventory it really needs.
The difficulty in finding a methodology.
There is no panacea for inventory problems, no “magic bullet”, because inventory is not the problem. An inappropriate level of inventory is a symptom of something else, generally a lack of strategy and, very often, not even connected with the stores or warehouse. These symptoms can, and should, be used to get at the root cause/s of the problem/s in much the same way that a physician would use symptoms like rolling on the ground, clutching the shin, red face, tears streaming and loud screams to diagnose a broken leg. The doctor who simply gagged the patient, suffering from a broken leg, to stop the screaming would not get much repeat business. Perhaps? [This is indeed the approach most often taken to address inventory and the “doctors” do appear to get an awful lot of repeat business. It only takes a moment of consideration to ask how many ERP users are Class A – there are not that many.]
We live an age of “systems” and “solutions” so it is discomforting to think that there might not be a “system” for reducing inventory, a real magic bullet. It is true that MRP and JIT and the like invariably reduced inventory, at least in theory. A Class C ERP user will probably see a reasonable drop in the inventory level with a little bit of luck but for that reduction to be permanent there is an awful lot of work to be done. JIT will reduce inventory, too, but for the reduction to be real there is much more to it. [9] When you address inventory blindly or in an ingenuous manner all that you create are local optima. Panic buying in this current crisis is creating the classic local optimum.
The most valid model to demonstrate the real consequences of inventory reduction is the famous “River of Inventory”. The idea is, of course, Japanese: in the west we seem to have forgotten the value of story and analogy. We like to see everything reduced to a logical syllogism. [10] In the River of Inventory analogy, the level of water in the river represents the level of inventory in the business. It does not take much skill or forethought to sail the boat [business] down the river when the water is high. The “rocks’ are all hidden in the bottom of the river well out of harm’s way. The “rocks” represent things like:
- Poor scheduling
- Employee turnover and absenteeism
- High scrap levels
- Poor purchasing practices
- Poor training
- Poor maintenance
- Inaccurate data
- Incomplete contract review
- Inappropriate inventory relieving methods
- Lousy forecasting
- Low quality
- COVID disruption
If the water level drops , as in the present crisis, then the pilot of the boat must be much more skilled. The pilot must learn how to avoid the rocks. The rocks are, unfortunately, a fact of life. In industry, lowering the level of inventory means that the management and workers must address the “rocks’. There is much you can do to mitigate the effect of the rocks but do not get lulled into a false sense of security. The rocks never go away, just as there will be another crisis after COVID: perhaps the international unrest suggested in the National Intelligence Council’s report, “Global Trends 2040”.? The best maintained machine will occasionally go down, the best planned delivery can be held up on I70 or be blasted into its component molecules by running into a gas tanker, the most loyal employee can have a rich aunt who dies leaving enough money to lotos eat in the Cayman Islands. [11] The company that plans for the rocks will prosper, the company that ignores them will pay a very high price, indeed.
At a tactical level, JEDI helps with the rocks because its focus is not upon inventory as such, its focus is on curing the underlying disease of which inappropriate inventory is one of the symptoms. Although inventory is, as I have said, just one of the symptoms it is generally the one that is noticed. For example, the root problem may be incorrect parameters set in the Item Master file of the ERP system but who will notice that? A mountain of inventory, however, is something people tend to fall over and ask questions like, “Why have we got 1000 years supply of ready mixed concrete?” [12] As a general rule, item inventory management is performed better than aggregate inventory management. [13] JEDI is concerned with both because JEDI operates at all three levels in the business: strategic, tactical and operational. It questions the company practice at all these levels. At the strategic level it asks if the inventory level is derived from a deliberate company policy. At the tactical level it asks if those policies have been implemented. At the operational level it asks if the implemented policies are working. The circle is closed by the comparison of the achieved results with the results expected from the defined inventory policies.
[1] Rudyard Kipling, “Soldier an’ Sailor too”
[2] W. Edwards Deming, “Out of the Crisis”, MIT, 1982, page 129.
[3] Worse. You think you have it but can’t find it!
[4] JEDI is only tangentially connected to ‘STAR WARS’. Early in the Algerian Hospital Project, while we were constructing the camp for the workers, we had 1 television and 1 video tape – ‘STAR WARS’. We watched that every night – there was nothing else to do – and eventually could watch it without the sound!
[5] This is one of those facts of life that can only be truly learned from bitter experience. If you have ever missed a ship or chartered a jumbo-jet that embarrassment never leaves you BUT you do not make that mistake again!
[6] Steady Eddy was a forklift truck driver of my acquaintance. His favorite pastime was playing NASCAR around the stores on his forklift. We could not understand the level of damage to finished products until we caught him red-handed.
[7] How many manufacturing companies are, in fact, “material moving” companies? Major components of manufacturing, like move time and queue time, are overlooked because we have been conditioned to accept them. We are much more likely to work at taking seconds off a process than to address hours of wait or queue time associated with that process.
[8] Northern British slang term for policemen.
[9] Real life case study. Company A supplies plastic film to Company B. Company B buys on a blanket order, giving A 1 month firm, 1 month tentative, 1 month advisory. Everything works. An executive in B skim reads a book on JIT in an airport. Decides to implement JIT, based upon daily deliveries. They negotiated a slight price increase with A to have daily deliveries. A has a problem – a mountain range and popular tourist area between the two factories. A cannot, realistically, guarantee daily deliveries on time. B offers A the use of one of their now empty warehouses and, because they did not feel that it was appropriate to downsize warehouse staff, offers to man the warehouse, too. A delivers, as before, to B’s warehouse. B’s staff call off the material as it is required. Nothing has changed except A gets a slightly higher price and B holds no inventory on the books. That is what happens when you allow someone to semi-implement a system without measuring the effectiveness. Or perhaps, it is simply a symptom of allowing executives to read books in airports.
[10] Unfortunately the syllogism is often:
Something must be done
This is something
Therefore, let’s do it.
The authors, Lynn and Jay, in “Yes, Prime Minister” refer to this as “politicians’ logic”. Those of us who have worked in industry will, however, recognize the thought process. We tend to refer to it as “the flavor of the month” and know that, if we keep quiet and our heads down, management will introduce another ‘flavor’ next month.
[11] Tennyson put it rather well in “Song of the Lotos-Eaters”:
“Death is the end of life; ah, why
Should life all labour be?”
[12] Unfortunately, this is not as daft as it seems. I fully remember asking one CFO why he had an inventory code for ready mixed concrete”. His answer, “So that we can keep track of it in inventory”, made me doubt my own sanity.
[13] Aggregate inventory management is concerned with:
- Flow and the kind of inventory required
- Supply and demand patterns
- The role of inventory in the organization
- The objectives of inventory management
- The costs associated with inventory.
Item inventory management is about:
- Individual items
- How items are controlled
- How and when to place an order for an item