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Inventory costs

Too much inventory costs you money. It ties up cash in stock that can, of course, become obsolete or damaged. At the other extreme, not enough inventory tests customer loyalty and leads to lost or delayed sales. The projections discussed in Chapter 13 reveal your required inventory levels. However, this is not necessarily the optimum level, which can be identified using some simple arithmetic. The starting point is to recognize that in this respect the only costs that vary are:

  • Ordering costs – the costs of processing purchase orders, taking delivery, tooling up for a production run, and so on. Ordering costs per unit decline as volumes increase due to economies of scale.

  • Carrying costs – including the costs of storage, insurance and funding. These increase steadily with volume.


  

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