Originally imported from Japan in the 1980s, lean manufacturing continues to play a key role in every successful U.S. manufacturer. Lean manufacturing companies make their products as efficiently as possible, using the least possible staff time, equipment and working capital.

Increased global competition and declining operating margins make lean inventory management for manufacturing companies especially important in today’s marketplace.


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Lean Inventory Management Basics

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Count Your Inventory to Ensure Accuracy

Effective inventory management starts with a physical inventory count. Accuracy is essential to knowing your cost of goods sold. By cycle counting, you can identify discrepancies between your physical count and perpetual inventory records and make corrections.

Compare Your Inventory Costs to Industry Benchmarks

After you have counted and corrected your inventory records, you should compare your inventory costs to those of other companies in your industry. Trade associations often publish benchmarks for:

  • Gross margin [(revenue – cost of sales) / revenue],
  • Net profit margin (net income/revenue), and
  • Days in inventory (average inventory / cost of sales) x 365

Your company’s goals should be to at least meet industry standards. For a retailer, inventory is simply purchased from the manufacturer, but the inventory account is more complicated for manufacturers. Inventory costs for manufacturing companies consist of raw materials, labor and overhead costs. It’s commonplace for manufacturing and distribution companies to use standard cost to value their inventories.

The composition of your company’s cost of goods will guide you on where to cut. In a tight labor market, it’s hard to reduce labor costs. However, it may be possible to renegotiate prices with suppliers. Your company should also be sure to monitor commodity fluctuations, such as steel or aluminum for example, in anticipation of future increases to material costs.  It may be possible to renegotiate sales prices with customers based on these anticipated changes.

The carrying costs of inventory, such as storage or insurance, can also be negotiated to improve margins.  Other carrying costs, such as obsolescence and pilferage, can decrease with internal improvements.  For example, your company could negotiate a new lease for your warehouse, install anti-theft devices, or opt for less expensive insurance coverage, if appropriate.

Waste Management: Control Your Company’s Inventory and Time

Lean manufacturing limits the amount of time, materials and other resources that are used in the production of a finished product. If your business produces a lot of waste each week, there may be an opportunity to cut back on the number of materials that go into making your goods. Waste also involves underutilized labor and inventory, defective products, and disorganized assembly line layout.

Lean manufacturers organize workspaces to expedite workflow. This limits unnecessary movements or steps employees must make to complete repetitive tasks. For example, suppose an employee spends an hour of each eight-hour day walking back and forth to an outside storage facility to obtain parts. This unnecessary transport time results in a 12.5% reduction in productivity (1 hour divided by 8 hours).

Control Your Company’s Product Mix

To cut your days-in-inventory ratio, compute product-by-product margins. It will benefit you to stock more products with high margins and high demand and less of everything else. Whenever possible, return excessive supplies of slow-moving materials or products to your suppliers.

Controlling the product mix can be a delicate balance. It should be sufficiently broad and in tune with consumer needs. Before cutting back on inventory, you might need to negotiate speedier delivery from suppliers or give suppliers access to your perpetual inventory system. These precautionary measures can help prevent lost sales due to lean inventory management.

Commit to Quality

Poor or inconsistent quality can destroy your business. But ensuring the highest possible quality for every product that’s shipped out the door is easier said than done, especially if your operations are streamlined.

Quality is everyone’s job, but it starts with your top executives. Management must share customer feedback with subordinates and provide frontline workers with effective quality control (QC) tools. Effective QC procedures are necessary to ensure product defects are caught and corrected before products ship to customers. Train employees how to use equipment properly, spot defects and errors, fix today’s mistakes — and prevent the same mistakes from occurring tomorrow.

For example, suppose a small aftermarket automobile manufacturer installs a sophisticated computerized system for detecting defects in its precision-milled products. This QC tool will help catch problems early in the manufacturing process, but employees can’t become complacent. They still need training on how to spot packaging errors, with the aid of the computerized QC system, as parts roll down the assembly line.

Create a Consistent Workflow

Lean manufacturing principles discourage dramatic production fluctuations because such fluctuations can lead to overtime pay, sloppy workmanship and stressed-out workers. An efficiently run production line is typically a profitable production line. Management should forecast product demand and produce a consistent amount every day. Ideally, inventory, not additional output, should be used to shore up gaps when large customer orders arrive.

Accurate forecasts require close contact with your customers. Some customers grant suppliers access to their enterprise resource systems to monitor inventory levels and anticipate demand. Salespeople can also forewarn plant managers of any large orders in the pipeline, so the factory can gradually ramp up production, as well as the loss of a major customer that will significantly lower demand.

Set a Reorder Point

Another important metric that’s not available from benchmarking studies is reorder point. That’s the quantity level that triggers a new order. Reorder point is a function of your volume and the purchase order lead time. If your suppliers have access to your inventory system, they can automatically ship additional stock once inventory levels reach the reorder point. Having reliable data on future orders helps prevent unnecessary overstocking and combats increasing supplier costs. Building strong working relationships with suppliers can help you make compromises and reach fair prices, even during hard times.

Put Your Employees First

It’s no coincidence that successful lean endeavors often have the happiest workforces. A happy worker is typically a productive worker, who is likely to show up on time and take pride in his or her work.

Lean manufacturing is a continuous improvement process that relies on everyone in the organization to identify opportunities to enhance efficiency. Successful lean initiatives hinge on people who are armed with common sense and a sense of accountability. To ensure you are getting the best workers, compare your benefits to that of the industry and adjust as needed. This will attract and keep your best workers.

Take Inventory of Your Inventory

Often upper management is so focused on sales, HR issues and product innovation that inventory gets out of control. The next step in inventory control is implementing cycle counts. Read “Cycle Counting Benefits and Implementation” to further explore how you can get your inventory under control.

LBMC’s team of experts can provide industry benchmarks and calculate ratios to help you minimize the guesswork in managing your inventory. Contact us for more information.

Content provided by LBMC audit professional, Kayla Carr.