The economics of stock control are determined by analysis of the costs incurred in obtaining and carrying inventories under the headings of acquisition costs, holding costs and costs of stock outs.
a) Acquisition costs
This is the money spend in acquiring stock or transferring the ownership from the supplier to the organization. It is also referred to as ordering costs. Acquisition costs include:
- Preliminary costs, e.g. preparing the requisition, vendor selection and negotiation
- Placement costs e.g. order preparation, stationary, postage e.t.c.
- Post-placement costs e.g. progressing, receipt of goods, materials, handling, inspection, certification and payment of invoices
In practice, it is difficult to obtain more than proximate idea of ordering costs since these vary with:
- The complexity of the order and seniority of staff involved
- Whether order placement is manual or computerized
- Whether repeat order costs less than initial orders
b) Holding/Carrying costs
There are two types of holding costs
- Cost proportional to the value of the inventory e.g. financial costs, e.g. interest on capital tied up in inventory. This may be bank rate or more realistically the target return on capital required by the enterprise. Insurance costs on losses in value through deterioration, obsolescence, fire and pilferage.
- Cost proportional to the physical characteristics of inventory e.g. storage cost that includes storage space, stores rates, light, heat, power, labour costs relating to handling and inspection, clerical costs relating to stores records and documentation.
c) Cost of Stock outs
The costs of stock outs e.g. the cost of being out of inventory, comprise:
- Loss of production output,
- Costs of idle time and fixed overheads spread over a reduced output
- Costs of action taken to deal with the stock outs e.g. buying from a stockiest increased price, switching production, obtaining substitute materials
- Loss of customer good will because of inability to supply or late delivery
- Loss of future sales