Identify an example of inventory in your own life. Estimate how much it costs you to hold this inventory. Estimate the "ordering cost" when you take something out. How often do you replenish this inventory and do you have any inventory policy such as first-in-first-out, last-in-first-out, etc.?
Inventory management occurs not just at the warehouse, but in one's own life as well. Consider all the items we use that take up space in our homes. Typical items include food and household supplies. Inventory management for these items differs based on the characteristics of the items. Food could be classified into perishable items, and non-perishable items. Perishable items such as milk and fresh meat need to be refrigerated or frozen. This increases their holding costs, as a refrigerator is a prime location with operating costs including the cost of electricity and cleaning costs. Other perishable items such as bananas and potatoes do not require refrigeration, but, nevertheless, do need shelf space in a cool, dry area. Non-perishable items such as canned food, toilet paper and soap do not need to be refrigerated, and can be stored indefinitely if care is taken to prevent damage.
There is only a limited amount of space in every home, which means that owning one item may mean not being able to own another item due to the lack of space. Inventory management is a balance between carrying too much inventory and too little, while managing the limited space available. Carrying too much inventory leads to unnecessarily high inventory-carrying costs, and, in the case of perishable items, can lead to wastage if the food is not consumed in a timely manner. Perishable items require a high turnover rate to decrease wastage. Carrying too much non-perishable items could lead to product obsolescence. For example, electric toothbrush manufacturers will sometimes introduce new models of electric toothbrushes that require specific toothbrush heads to work. Stocking up on an older model of toothbrush head could mean that you will not be able to use them when your electric toothbrush wears out.
An example of inventory in my life is in the form of buying and storing milk. A half gallon carton of milk needs to be consumed within a week of purchase to prevent wastage. Holding costs are the costs of storing the milk, wastage of milk, space and labor. Steps for calculating the holding cost are shown below.
Step 1) In order to calculate the holding cost, I would first need to know the cost of the refrigerator.
The refrigerator cost $1,000 and is expected to last for 20 years. The milk takes up approximately 1% of the space in the refrigerator and hence is estimated to contribute to 1% of the wear and tear of the refrigerator.
Total Refrigerator wear and tear cost per year = $1,000 / 20 * 1% = $0.50
It costs $0.50 in total refrigerator wear and tear costs per year to constantly have milk in my refrigerator
Step 2) Calculate the cost of electricity used by the refrigerator. My refrigerator uses 1,000 kWh of electricity per year. Electricity costs $0.15 per kWh. Since the milk takes up 1% of the space in the refrigerator, I will assume it also uses 1% of the electricity to run the refrigerator.
Electric cost per year to hold milk = 1,000 * $0.15 *1% = $1.50
Step 3) Find the rental cost. My apartment has 1,000 sq ft of floor space. The height of the walls is 8 ft.
Volume of my apartment = 1,000 sq ft * 8 ft = 8,000 cubic ft
Much of this volume is unusable as it is too high or too low for me to reach comfortably. I estimate that I can comfortably reach 2,000 cubic ft of space. This will be the amount of usable space in my apartment. Half a gallon of milk takes up 0.07 cubic feet
Proportion of usable rental space taken up by a gallon of milk = 0.07 / 2,000 = 0.000035
Rent at my apartment costs $1,000 per month. This is the equivalent of $12,000 per year.
Rental cost per year to hold milk = $12,000 * 0.000035 = $0.42
Step 4) Find the maintenance costs of the