How much value it will create for the shareholders? How much money of the car manufacturer will be stuck in this finished goods inventory permanently in transit? For a large company, it may be hundreds to thousands of crores of rupees.Ĭalculate the cost of financing this money and if by better strategic management, the car manufacturer can reduce this cost, then how much money can be freed up for other uses or to return to shareholders. Now imagine if the car manufacturer sells in all the major 100 cities in India and delivers cars from its plant in Delhi, then how many cars will be permanently in transit. The cost of these 400 cars, which are always in the transit is the money permanently stuck in inventory for the car manufacturer.
Every day one truck will reach Chennai with 100 cars and a new truck will start from Delhi with 100 cars for Chennai. Therefore, at any point of time 400 cars (=100 cars * 4 days travel time) will be on the road in transit from Delhi to Chennai. Assume that the trucks take 4 days to reach from Delhi to Chennai. Therefore, the car manufacturer sends 100 cars every day from Delhi to Chennai by loading them in trucks. Assume that the customers in Chennai buy 100 cars every day. Suppose a car manufacturer having its factory in Delhi sells cars in Chennai. Any lapse by the company at any stage can lead to a significant financial impact on the company.Īn investor may understand the importance of inventory management and its financial impact on the company by the following example of a car manufacturer. It covers all the stages right from the purchase of raw material to its conversion into finished goods and then transporting the finished goods to the customers. Inventory management is one of the most essential functions of the company. It tells us whether the company is using its inventory in the best possible manner or not.
Inventory turnover ratio is a measure of the efficiency of inventory management by a company.
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