Inventory for Manufacturing
Tracking items on hand is a critical part of reducing expenses in a manufacturing facility. Unlike warehouses that only stock one type of good in their inventory, manufacturing facilities must juggle three categories of materials that reflect incoming and outgoing products. Knowing how many assets are available makes it possible to assign personnel, funds and space for those products. If your facility takes a laid-back approach to its inventory, changing tactics to more rigorous management could improve profits and efficiency.
What Is Manufacturing Production Inventory?
Manufacturing inventory has three categories, one of which is for production. These are the raw materials and supplies your facility needs for production. As the manufacturing process progresses, production goods become work-in-progress assets and eventually finished products. Incoming materials include those goods used to make both the packaging and products inside them.
Purchasing materials concerns filling the gaps in the production roster. How many raw goods your facility keeps on hand for production depends on productivity rates. Having too many items on hand could cause waste, especially of perishable substances in the case of food manufacturers. However, not having enough can set your facility behind on fulfilling orders.
If you need to keep a minimum amount of inventory on hand due to lean practices or a lack of space, you can strategize your ordering to reduce turnaround time. Shorter supply order fulfillments mean your facility can rely less on products on hand and operate a little leaner.
Keep in mind that not all materials ordered fall under the production category. Maintenance or repair supplies and packing materials are not used for the production of products but take up physical and financial space in the warehouse and budget, respectively. When managing stores, keep these supplies in mind in addition to the goods used for production. However, for brevity, most references to inventory for manufacturing facilities refer to production supplies rather than these other categories.
What Are Examples of Manufacturing Inventory?
Production supplies include everything your facility requires to craft finished products. This category contains parts or goods used to produce the finished item.
For example, a car manufacturer gets parts from a variety of suppliers. These components such as wheels, gears, engines and more create the completed vehicle. The wheels, unfinished car and completed vehicle all count as inventory. But they have different categories when manufacturers classify them. The wheels count as direct goods, the incomplete car is a work-in-progress, and the finished vehicle comes under finished products.
Another instance of supplies a manufacturer may have on hand is those for the production of food products. A manufacturer of condiments such as ketchup may have a supply of fresh tomatoes, dried spices, sugar and other ingredients used directly for the production of the ketchup. These goods come under direct material classification. Bottles, labels, glue and lids also fall into this category, though the facility uses them to bottle the ketchup. After workers make the ketchup but before bottling it, the condiment becomes a work-in-progress item. Completed bottles ready for shipment fall into the category of finished goods.
Using three categories gives manufacturers some advantages in mitigating risk and lowering costs. Understanding these groupings more thoroughly will make it easier for your facility to manage the supplies on hand for the most efficient handling of your entire inventory.
What Are the Three Types of Inventory in Manufacturing?
Manufacturers split their inventory into three categories. Because stock is less knowing what materials physically sit in storage and more about what the company has paid for, all products may not be immediately available. Some, such as raw goods, may still be in transit from suppliers.
1. Direct Material
The direct material, also called raw goods, group includes everything needed to produce the products. Ideally, your facility will want to minimize the amount of direct material on hand to reduce your storage costs and space. If your business implements just-in-time manufacturing practices, you will only have enough materials on hand for immediate production and purchase additional supplies only as needed. This method reduces the storage space required, but your company risks not having the materials on hand to continue production if supply deliveries get delayed.
When using raw materials, your company may choose a last-in, first out (LIFO) method, which uses the most recently acquired goods for production. This method reduces your company’s tax burden. The first-in, first-out (FIFO) inventory valuating process accounts for the oldest products used in production. While this method of inventory use and rotation seems natural, it can create an undue tax burden in the short term.
Some call work-in-progress (WIP) materials semi-finished goods. Both terms accurately describe the stage of production of these items. After raw goods leave the storage facility for the production line, they become semi-finished. When calculating product worth, companies use the level of completion to determine how much value the production process added. Goods at the beginning of the line have less added value than those almost finished.
If your company engages in lean manufacturing, you may consider all WIP inventory as waste. Regardless of your operation technique, though, your facility should keep the products in the WIP category at a minimum. Because your semi-finished goods cannot generate income through sales as raw materials or finished products can, they do not help boost your business’s value. For that reason, you must reduce the WIP inventory as much as possible. Speeding products through the production line by raising efficiency and productivity levels may help keep goods from stagnating in a semi-finished state.
3. Finished Goods
Finished goods have their own inventory category. This group includes all products that have completed production and await sale. However, after the sale and before delivery, your business and customers have two options for accounting for the products in limbo:
- Free on board shipping point: Goods sold with an agreement for free on board (FOB) shipping point change to the customer’s ownership upon shipment.
- Free on board destination: If the sales agreement includes a FOB destination clause, your business retains ownership and can count the value of the sold goods until the customer receives them.
Why Are the Three Categories Used?
Though separating supplies into three categories seems wasteful, it helps in accounting. Because manufacturing adds value throughout production, raw materials increase in value as they move through the process. The worth of goods will change depending on where they are in production. This accounting method also plays a part in calculating risk. Both the value of goods and the risk of loss mean manufacturers need three groups for organizing their stock.
Though raw materials go into making finished products, the final parts have the extra value of labor and production put into them. This additional labor raises the value of the final goods beyond just the sum of what the parts cost. Because the value increases as production moves along, goods nearer completion have a higher worth than those that just began on the production line.
For accounting purposes, tracking inventory in three separate categories makes sense. Raw goods have a value equal to their cost. Production on work-in-progress goods increases their value slightly. Finished products have the highest value due to the equipment and labor needed to get raw goods to that state.
For clarity in costs and value of stored products, manufacturers must account for an inventory in three categories, but the account is not the only reason for categorization of stored supplies. Risk also plays a role.
2. Potential Risk
Because the amount of value of goods ties directly to how much processing the raw materials have undergone, categorizing inventory based on its stage in the production process makes calculating financial risk easier. Just as the value of products helps with accounting, it also assists facilities in determining their risk if something in the market changes suddenly.
How much would a facility lose if all work-in-progress inventory had to stop? What about a loss of perishable raw goods? What is the risk of losing a supply of finished products from a natural disaster? The answers to these questions can help a facility plan for insurance and how to reduce risk.
Risk also includes whether a business over or under purchases supplies. If the finished goods pile up, likely the facility overproduces beyond the market’s ability to purchase the products. Should too may raw materials sit unused, purchasing may need adjustments to be more efficient and reflect the number of materials.
Knowing the risk and value of goods present will both be essential data points for when your facility needs to implement an inventory management system.
How to Implement an Inventory Management System
Large or small, your business needs ways to manage the goods you have on hand, whether they are raw materials, semi-finished products or completed projects. Two popular methods for controlling when your company orders goods are just-in-time (JIT) and materials requirement planning (MRP).
- Just-in-time: As the name suggests, JIT planning means your supplier sends the raw materials your business needs just in time for manufacturing. This method reduces the amount of warehouse space required to store extra direct materials.
- Materials requirement planning: Unlike JIT, which is governed by production schedules, MRP uses predicted sales to determine when and how much suppliers send to your company.
Regardless of when your company orders its raw materials, you have several techniques to make the most of your inventory. Efficient inventory management will reduce costs for storage and prevent you from purchasing too much. Though your business may not revolve around storage, your facility’s warehouse must operate efficiently to prevent it from becoming a liability. Software, better layout and technological devices can make it easier to oversee your warehouse supplies.
1. Use Software
Several warehouse management software systems exist to help you keep track of what your facility has and what it needs. Free, paid, custom and generic software options give you a myriad of choices to fit your company’s budget and management needs. One thing to look for in software is a program that will handle the number of goods your business keeps in storage while allowing for future growth.
The management software can serialize products to ensure you reorder the correct parts based on their numbers rather than names that are easily confused. Barcodes and labels are other ways software can differentiate the goods in your facility.
2. Improve Warehouse Layout
Properly organizing the warehouse makes pulling and stocking inventory faster and more efficient. Allow for plenty of room for people and equipment to maneuver through the warehouse floor. A clean facility keeps workers safe by keeping paths clear of tripping or slipping hazards that employees would have to avoid. Clearly marked shelves and aisles will also help workers get quickly to their destination without getting lost. While the layout is essential to more efficient operations, so are the methods used for stocking and pulling items.
Stocking the shelves from the rear and pulling from the front allows for the oldest products to get used first. This method keeps stock from going stale or getting old before use. For goods used frequently as raw materials, keep them in a place near the entrance of the warehouse to reduce time to retrieve them. Slower selling finished products and lesser used raw materials can go on high shelves or farther back in the facility. If your facility permits, keep separate spaces for outgoing products and incoming to keep the flow of people and goods moving in a constant direction.
Better warehouse management also requires tracking which goods get pulled and the amount of inventory remaining. Technology can help with this part in the form of devices that reduce errors and increase productivity.
3. Use Technology
Some technology devices such as handheld scanners or even mobile phones with scanning apps can help workers to determine quickly if they have picked the right parts. Combining scanners with barcode printers that let employees create labels for containers facilitates supply management. Some software programs may create barcodes and assign them to products for tracking.
When assigning barcodes to products, the software may also assign the good to specific areas of the warehouse. A worker can use a mobile phone to see where in the building the products are stored when needed. By scanning the products when picked, your facility operates more efficiently.
Despite adding more steps to the process, picking becomes more accurate. Errors are more likely to occur if you have workers manually pulling goods stored near similar products. The extra step of scanning containers improves accuracy and efficiency since workers will not need to return incorrectly picked items.
Why Inventory Management for Manufacturing Is Essential for Success
Making your facility more economically efficient requires a constant knowledge of what materials your workplace has, what it needs, what it produces and more. To handle goods on hand, you must integrate some inventory management system into your operations. Managing inventory appropriately prevents wasted purchases of raw materials and excessive production. It becomes a critical feature if your facility uses just-in-time manufacturing or other lean approaches to operations.
Managing incoming and outgoing goods is only one piece of the puzzle of operating a manufacturing business. To learn about the latest strategies, technologies and ideas in the manufacturing industry, subscribe to our blog. See the sidebar to sign up to receive our newest postings.