Inventory Management in Small Business: Adecision Matrix Approach

This article provides a decision tool to assist small business managers in their search for an appropriate inventory management system. In the article, a functional taxonomy that would match various small business sectors with certain operational consideration points is proposed. This taxonomy is basically a two-dimensional decision matrix that can equip these managers with various perspectives which are broad enough to reveal potential gains of different systems. INTRODUCTION The management processes associated with maintaining optimal inventory levels presents numerous and continual challenges to the goods-oriented small business. In each of these firms the design and implementation of a particular inventory planning system should originate with the underlying strategic planning policies within the business. These decisions are conditioned by numerous financial and structural concerns. It is important to note that research has shown that inventory planning discrepancies have created difficulties for small business, each of these areas must be carefully considered. As Robinson, Logan and Salem [20] have reminded both researchers and managers, inadequate inventory planning has been demonstrated to be one of the major causes of small business failure [8; 14]. Indeed, the importance to the small firm of effective inventory management has been underscored by others. In a study by Wichmann [23], 22 percent of the firms under review encountered inventory control problems in their operations. Additionally, Robinson, et al. [20] showed that periodic management review of minimum inventory levels was positively and significantly (p< .01) related to return-on-sales ratios among small grocers. Without question, these studies suggest that small business managers have numerous inventory planning options available to them. They may select from among techniques that range from judgmental heuristic processes to elaborate computerbased models. For example, the traditional economic order quantity method [4] combines intuitive appeal with straight-forward mathematics. However, given the widespread availability of computer technology and a more complete understanding of sophisticated relationships in inventory management, other more complete understanding of sophisticated relationships in inventory Page 1 of 10 file:///A:/92swi133.txt 5/19/2004 file://C:\Documents%20and%20Settings\Dr.%20Don%20Bradley\Desktop\1992\1... management, other more complex methods have evolved. Among these newer methods are Just-In-Time Production Technology, and Flexible Manufacturing Systems. With this wide range of choices available, it becomes extremely crucial to the small business manager that the most effective inventory management system is implemented. Lynagh and Poist [17] have written that the study of inventory and logistics management within small business is a research frontier. Indeed, numerous researchers have devoted much effort to extending the bounds of this frontier. Many articles to date have presented excellent summaries of skillfully designed empirical studies and have reported the significance of their managerial implications. What is needed at this time is a framework within which managerial needs can be operationalized and research unified. To offer a starting point for developing such a framework, the purpose of this article is to suggest a two-dimensional matrix that promises to provide small business managers with a decision aid for selecting an appropriate inventory management system and serve as a paradigm for scholarly research. In use, this taxonomy jointly considers three basic functional areas of small business and examines the relevant decision criteria faced within each. A FUNCTIONAL TAXONOMY Regardless of the specific method that a manager may choose, Kahn and Rocha [15] have provided several summary aspects of an inventory management system that can be used by any manufacturing-or distribution-oriented firm. Specifically, they have suggested that managers: stock merchandise according to profitability; actively seek to eliminate stockouts; decrease emphasis on less profitable items; and strive to maintain desirable relationships among inventory levels of various products. It is important to note that these researchers are not alone in their views. For example, Duncan, Hollander, and Savitt [9, p. 377] have provided three additional criteria. They have recommended that a profitable inventory management system be: no more elaborate than necessary; cost-justified; and Page 2 of 10 file:///A:/92swi133.txt 5/19/2004 file://C:\Documents%20and%20Settings\Dr.%20Don%20Bradley\Desktop\1992\1... used as a management tool and not become a surrogate for management itself. As Bowersox [6] has effectively argued, any successful logistics management system embodies the systems, total cost, and trade-off concepts. From raw materials to finished goods, the management of inventory flows embodies aspects of both opportunity and cost. The inventory manager must constantly balance anticipated opportunities against the associated costs. Table 1 shows several opportunities and costs that the purchase and maintenance of large inventories presents to an organization. To illustrate, large quantities of inventory-on-hand offers the opportunity for production or sale to occur without the need to worry about stock-outs or waiting for replenishment. The purchase of large quantities of inventory often provides opportunities for significant cost savings, vis-a-vis quantity discounts. In addition, large inventories can reduce the risk of stockout risk due to supply inconsistencies or "lumpy" demand. TABLE 1 LARGE QUANTITY INVENTORY PURCHASES POSSIBLE POSSIBLE BENEFITS COSTS Lower stockout costs Expend cash-on-hand Lower purchase prices Use valuable lines of credit Lower re-order costs Higher pilferage costs Higher spoilage costs Higher space cost for storage Several costs present themselves under these conditions, as well. The purchase of large inventories requires the associated expenditure of cash or the use of valuable lines of credit (which are frequently needed elsewhere in the firm). Storage, pilferage, and spoilage of inventory can also counter many of the benefits. Indeed, the small business manager must be in a position to make informed decisions about the benefits and costs of inventory. It is from analyses such as this that the proposed decision framework has been designed. Figure 1 presents a functional taxonomy that offers small business managers a framework within which various inventory management options, such as the one offered in Table 1, can be objectively evaluated. It embodies factors that compel the small business manager to Page 3 of 10 file:///A:/92swi133.txt 5/19/2004 file://C:\Documents%20and%20Settings\Dr.%20Don%20Bradley\Desktop\1992\1... completely review various inventory needs. Within this framework, managers are provided an opportunity assign specific cost estimates and consider any associated benefits. By following a procedure such as this, a more informed inventory management decision should lead to increased profitability through a systems approach.