Inventory management is fundamental to a manufacturer’s business performance, no matter its size. But the practice of maintaining the right levels of inventory throughout the production process — so that there’s always enough merchandise available when and where customers seek it — is no easy feat. Rather, it is a complex exercise in logistics, cost optimization and cash flow management, requiring a high degree of visibility into the manufacturing supply chain and precise orchestration across the business to get right. This guide delves into the importance of inventory management to a manufacturer’s profitability, the major types of inventory that manufacturers must manage and the range of different inventory management strategies available.

What Is Manufacturing Inventory Management?

Manufacturing inventory management is a discipline related to both manufacturing operations and manufacturing supply chain management that can have a huge impact on a manufacturer’s financial well-being. Its ultimate purpose is to plan, track and control inventory through all stages of the production cycle, while simultaneously balancing speedy customer-order fulfillment with cost-efficient maintenance of the right amount of inventory, be it raw materials, works in process (WIP) or finished products.

Key Takeaways

  • Manufacturing inventory management tracks and controls levels of inventory as that inventory progresses from raw materials into finished goods that are ready for sale.
  • Manufacturers try to maintain a good balance between holding too much excess inventory and having not enough inventory to meet customer demand.
  • Successful demand forecasting can greatly increase the effectiveness of a manufacturing inventory management program.
  • Pull inventory and push inventory are two of the most common strategies underlying manufacturing inventory management.

Manufacturing Inventory Management Explained

Manufacturing inventory management is designed to oversee the movement of physical assets throughout the production process. Effective inventory management encompasses, or works in tandem with, the following functions:

  • Inventory tracking and auditing
  • Inventory optimization
  • Cash flow management
  • Order management
  • Vendor management and procurement
  • Warehouse management
  • Transportation and logistics

At the front end of the production process, manufacturing inventory management orchestrates the procurement of raw materials that will be transformed into products. It facilitates decisions about which suppliers to buy from, how much stock to purchase and the timing of those purchases so as to minimize costs without causing production delays. Transportation and storage logistics are also important considerations.

During production, manufacturing inventory management is about keeping tabs on work-in-process (WIP) inventory. These assets, which have been partly assembled and are poised for quick completion, are included on the balance sheet, so careful inventory tracking is imperative for accounting purposes, as well as for production efficiency.

At the tail end of the production process, manufacturing inventory management tracks the availability, storage and distribution of sellable inventory. And all the while, manufacturing inventory management must walk a proverbial tightrope between two main types of inventory risks: ordering too much raw-material inventory and/or overproducing finished inventory, which could then sits unsold for long periods of time; or not having enough raw material to make products and/or running out of inventory when customers are ready to buy. Consistently hitting that middle ground relies on the accuracy of demand forecasting and planning, which requires collaboration between inventory managers and their sales teams.

One way manufacturers can assess demand forecasting and planning success is by calculating the inventory turnover ratio, a key performance indicator (KPI) that measures how many times a company has sold or used up its inventory (either raw or finished goods) and replenished it within a given period of time (typically a year). Other informative inventory management KPIs include inventory carrying cost, accuracy of forecast demand, lost sales ratio and time to receive.

The variety of inventory management KPIs offers evidence of the wide range of business variables that the inventory management process can influence. Most manufacturers today depend on automated manufacturing inventory accounting technology to accurately track inventory and keep tabs on these advanced KPIs over time.

Why Is Manufacturing Inventory Management Important?

Manufacturing inventory management lies at the foundation of many manufacturing cost management and production optimization activities. Cash is king for businesses, and manufacturers with too much money tied up in unused inventory could encounter financial difficulty. At the same time, the costs of procuring raw materials, inventory storage, transportation and other inventory-related items add up in the manufacturer’s cost of goods sold (COGS). The better able a manufacturer is to reduce its inventory costs, the more profitable it can become. According to a recent survey by the National Association of Manufacturers, 46% of manufacturers cited increased raw materials as a top challenge in their industry, and 38% said supply chain challenges are among their top concerns.

The strategic procurement of raw materials can greatly reduce COGS per unit. Metering production to limit overproduction can cut carrying costs and reduce the risk of inventory eventually becoming dead stock. At the same time, effective demand forecasting can help manufacturers lay up enough inventory to meet heightened demand during seasonal rushes or new market upswings, while effective warehouse management and inventory control over perishable inventory can prevent waste.

Throughout it all, manufacturers with the strongest inventory management processes remain mindful of the risks of either incurring too much cost or cash flow disruptions (through the waste and inefficiency of having too much inventory on hand) or losing sales or loyal customers (due to not having enough inventory when the customer is ready to buy). They’re also aware that a critical part of manufacturing inventory management is smooth supply chain management. This means maintaining excellent relationships with their upstream suppliers and managing sourcing, transportation and storage of raw materials in a way that can weather supply chain disruptions or pricing swings. In addition, strong inventory management ensures that a manufacturing firm’s downstream supply chain will be an integral part of the post-production storage, distribution and logistics needed to move inventory reliably into customers’ hands.

Why Inventory Management Is Different for Manufacturers

Inventory management is arguably more complex for manufacturers than it is for the retailers and distributors that follow them in the supply chain. This is because manufacturing firms not only must manage the universal concerns of inventory management —such elements as demand forecasting, cash conversion cycles, warehousing and logistics — but they also must juggle the intricacies of managing different classes of production inventory (more on this, below). Manufacturers must carefully track and manage supply chain dependencies and relationships with raw material and component vendors to ensure that any disruptions in the availability of raw materials won’t cascade across the entire product life cycle. For example, a manufacturer may need to build up a reserve of safety stock to protect itself from fluctuations in supply chain availability or customer demand. As a result, inventory management is intricately tied up with operational efficiency and cost management.

3 Production Inventories Under Manufacturing Inventory Management

Manufacturing inventory management tracks and optimizes three main categories of inventory: raw materials, works in process and finished goods. Some organizations may manage a fourth category, known as maintenance, repair and overhaul (MRO), which includes safety equipment and supplies for maintaining machinery on the factory floor.

  1. Raw Materials Inventory

    Raw materials inventory includes components a manufacturer uses to create its finished products. For example, flour, eggs and milk would be raw materials for a processed food manufacturer; thread and cloth would be raw materials for a clothing manufacturer; and lumber, nails and varnish would be raw materials for a furniture manufacturer.

  2. WIP Inventory

    Work-in-process inventory is inventory that has been worked on by the manufacturer in some way beyond the raw materials stage and that will be used to assemble the final product. For a food manufacturer, WIP could be big batches of unbaked dough. A clothing manufacturer would consider measured and cut garments ready for sewing to be WIP, and a furniture manufacturer would handle shaped and sanded table legs and table tops as WIP inventory. WIP is also sometimes referred to as semi-finished goods, although, in some instances, a manufacturer might buy a supplier’s semi-finished goods as a raw material item. For example, the furniture manufacturer might purchase preshaped table legs from a supplier to use in later assembly and finishing.

  3. Finished Goods Inventory

    Finished goods inventory is the final product, ready to be distributed and sold to retailers and customers. These are the loaves of bread for the processed food manufacturer, the shirts and pants for the garment manufacturer, and the varnished tables and chairs for the furniture manufacturer.

manufacturing inventory management
Manufacturing inventory management controls and optimizes three main types of inventory that span the production life cycle.

Manufacturing Inventory Management Processes

Because manufacturing involves such a complex symphony of moving parts, manufacturers have deployed several different approaches to inventory management. The following are some of the most common strategies and techniques in use today.

Pull Strategy

The pull strategy of inventory management is a streamlined approach in which a manufacturer produces finished inventory in response to the “pull” of immediate customer orders. A company that uses a pull strategy orders minimum raw materials and maintains low levels of finished stock beyond what customers have ordered. This approach tends to be favored by smaller manufacturers and startups because pull-system inventory management requires less up-front capital, alleviates cash flow issues, minimizes the amount of storage space needed to house inventory and reduces the risk of losing money on unsold products. The downside is that it can lengthen production times, increase the per-unit cost of manufacturing and make surges in demand harder to fulfill.

Push Strategy

In contrast to the pull strategy, the push strategy of inventory management has manufacturers buying raw materials in bulk and producing stock according to forecasted demand, rather than existing orders. As long as the manufacturer can push its unsold inventory to its distributors, retailers and/or consumers, the push system for inventory management produces better margins, ensures fast fulfillment times and prepares a manufacturer for seasonal surges in ordering. The risk of this strategy, however, is that forecasts could be inaccurate, resulting in unsold stock. It also tends to incur higher storage costs for raw materials, WIP inventory and finished goods. The push strategy is typically preferred by more established manufacturers that operate with higher volumes and have strong demand-forecasting capabilities. Many manufacturers today depend on a hybrid pull-push strategy that uses elements of both philosophies.

Just-In-Time (JIT) Inventory Management

Just-in-time (JIT) inventory management is a lean manufacturing method meant to limit waste and overproduction and, in turn, improve cash flow. The JIT inventory management system is a type of pull strategy that brings in raw materials as close to production time as possible and manufactures finished inventory to meet immediate orders. JIT focuses on limiting WIP goods and improving the quality of products in production. JIT production is typically organized via a system called Kanban that creates boards to visualize and optimize workflows. Kanban, which is the Japanese word for “sign,” uses cards to track production progress on the factory floor.

Periodic Inventory Management

Periodic inventory management relies on the manufacturer taking physical inventory counts at the end of an accounting period, such as monthly, quarterly or annually. Organizations lacking the technical resources and staffing for perpetual tracking (see section below) typically resort to this manual practice. Periodic inventory management can make it difficult for the manufacturer to gain fast visibility into its inventory levels and financials. Without real-time information, manufacturers may struggle to scale operations. However, small manufacturers with a low volume of sales and only a few product lines can find it cheaper and simpler to track their inventory with this periodic inventory system.

Perpetual Inventory Management

Unlike periodic inventory management, perpetual inventory is a continuous accounting method. It tracks inventory changes in real time, thanks to technologies such as barcodes, radio-frequency identification (RFID), 3D scanners and, of course, inventory management software. Perpetual inventory management follows inventory as it is converted from raw materials to WIP and finished goods and as it then travels to warehouses, distributors and retailers; at the retail level, for example, finished goods are tracked through point-of-sale systems. Perpetual inventory management systems provide manufacturers with accurate and timely information that can help them calculate profitability, make faster adjustments to overstock or stockout situations and minimize the need for physical inventory counts. Perpetual inventory systems tend to scale up to high-volume operations better, making them the preferred solution for large and established manufacturers.

Manufacturing Inventory Management Best Practices

Inventory management is continually tweaked and improved as manufacturing firms adjust to market conditions. Here are some best practices that have emerged as the discipline of inventory management continues to evolve in the manufacturing industry.

Regular Audits and Cycle Counts

Regular inventory audits and cycle counting can play an important role in helping manufacturers maintain discipline and accountability in their inventory management practices. Even when a manufacturer uses perpetual inventory management, inventory auditing processes are crucial for validating inventory accuracy, checking on the integrity of processes and identifying transaction errors. The most accurate and thorough audits are performed through annual or semiannual comprehensive physical inventory counts of all stock on hand, though these can be highly disruptive to manufacturing environments. By contrast, cycle counting is a method of counting only small subsections of inventory, but with regular additional checks made against different sections of stock on a daily, weekly or monthly basis. Some organizations use cycle counting in lieu of annual physical counts, but more often they are a way to augment more exhaustive physical inventory audits.

Cross-Functional Collaboration

Effective inventory management requires consistent input from a variety of manufacturing departments and stakeholders to get it right. While the inventory management or supply chain management team is where the buck stops for inventory management, these teams don’t work in isolation. They need to collaborate closely with other business departments, such as production, sales, procurement and finance. For example: Much of inventory management hinges on what the production team can or can’t do, in terms of the actual manufacturing or assembly of finished products; the sales and marketing teams have the best bead on customer trends and will be pivotal in helping plan inventory, according to forecasted demand; the procurement team is responsible for sourcing raw materials from suppliers and foreseeing potential disruptions in sourcing that could impact production and, ultimately, the availability of finished goods for end customers; and the finance team will be tracking and analyzing inventory levels and costs that will influence decisions made by all the aforementioned stakeholders. Manufacturers need leadership and processes in place that facilitate cross-functional collaboration among all of these groups to ensure a well-oiled inventory management process.

Continuous Training and Skills Development for Inventory Personnel

A skilled contingent of inventory personnel can provide a competitive edge for manufacturers seeking to level up their inventory management practices. Continuous training and skills development in certain discipline areas, such as data science, lean manufacturing, digital systems and sophisticated accounting methods, can ensure that inventory personnel will be better equipped to choose the right inventory management process for the business, deploy appropriate technology and establish controls that help the manufacturer track inventory, optimize production and, ultimately, maximize profitability.

Embracing Digital Transformation

The emergence and evolution of technology, such as the industrial internet of things (IIoT), 5G, artificial intelligence (AI)-enabled analytics and improved automation, stands to digitally transform the field of manufacturing inventory management. The right investments in digital tech can help manufacturers gain better visibility and control of their inventory management processes. For example, AI and predictive analytics can bolster the accuracy of demand forecasting, while better digital connections to supplier systems could improve the cost-efficiency and sourcing of raw materials. In addition, technology, such as augmented reality (AR) and autonomous vehicles in the warehouse, can streamline logistics pertaining to inventory management and processing.

Building Relationships With Suppliers for Better Lead Times and Pricing

Establishing good relationships and technical connections with suppliers across the manufacturing supply chain is a crucial and unique component of manufacturing inventory management. Some manufacturers even go so far as to provide collaborative inventory management systems that share limited but crucial information streams with suppliers and customers to establish more accurate joint forecasting, streamline transportation logistics and gain visibility into potential shortages in raw materials that could negatively impact production.

Manufacturing Inventory Management Technology

According to professional services firm EY, 68% of CEOs at the largest global industrial product companies said they were increasing digital investments in 2023. Inventory management is one of the key functions in a manufacturing operation where these investments can bear significant returns. Listed below are some of the emerging areas of technology that have the potential to transform man ufacturing inventory management.

Augmented Reality (AR) and Virtual Reality (VR) in Warehousing

AR and VR technology in warehousing and logistics environments stand to improve inventory management on a number of fronts. For example, a combination of VR and robotic vehicles in the warehouse can aid in streamlining manual inventory audit processes. AR vision applications for warehouse workers can similarly aid in monitoring stock, improving warehouse planning to improve storage utilization and speeding up order picking and other logistics activities.

Predictive Analytics and Machine Learning

Modern manufacturing demand forecasting increasingly leans on predictive analytics and machine learning/artificial intelligence (ML/AI) technology. The more manufacturers digitize information about their inventory, the more opportunities that arise to capture trends in supplier pricing and availability, consumer and market demand, and internal operational efficiency. All of these factors can provide meaningful inputs for inventory management decisions and help a manufacturer manage its costs and control of inventory for whatever business outcome it’s pursuing — be it growth, efficiency, customer satisfaction or supply chain resilience.

Internet of Things (IoT)

IoT technology can offer huge opportunities for manufacturers seeking to build highly accurate perpetual inventory management systems that track inventory as it moves from raw materials to finished goods. Through the use of asset-tracking technology, such as RFID, Bluetooth Low Energy and internet-enabled sensors and scanners, manufacturers can more easily track inventory and crunch data pertaining to the disposition, location and quantity of inventory as it traverses the factory floor, warehouse and distribution points.

Automate Inventory Management with NetSuite Inventory Management

Whether a manufacturer is adhering to pull inventory management, push inventory management or a hybrid approach, automated inventory tracking plays a huge part in modern inventory management success. Without an automated system for inventory management, manufacturers struggle to obtain accurate visibility into their inventory levels, which makes it difficult to trace products, stay ahead of stockouts and excess inventory levels, and effectively use inventory spread across different site locations.

NetSuite Inventory Management helps managers solve these challenges and establish more advanced inventory management practices to ensure that inventory is available when it is needed and that the manufacturer is optimizing costs along the way. NetSuite Inventory Management offers item visibility and traceability across the manufacturing supply chain. It provides automated tooling for inventory cycle counting, automated alerting for replenishment based on historical and seasonal sales data, and automation of multi-location fulfillment to minimize shipping costs. In the process, NetSuite Inventory Management can help reduce manufacturers’ cost of goods sold, boost profitability and create a more resilient supply chain.

Manufacturers depend on solid inventory management practices to successfully manage their costs and ensure that customers rarely see the dreaded “out-of-stock” notice when they’re ready to buy. Exceptional manufacturing inventory management keeps cash flow top of mind, while maintaining appropriate levels of raw materials, WIP and finished goods. Through the use of advanced technology, manufacturers have been able to improve their visibility into inventory levels and automate the process of replenishment and fulfillment based on real-time trends and predictive forecasting.

Manufacturing Inventory Management FAQs

How is inventory turnover ratio calculated?

Inventory turnover ratio is calculated by dividing the cost of goods sold by average inventory, which is beginning inventory plus ending inventory divided by the number of months in the accounting period.

Why is demand forecasting crucial for inventory management?

Manufacturing inventory management relies on demand forecasting to help set production levels such that an organization is able to provide adequate inventory for customer purchases without running out of stock or holding up cash flow because of overstocked inventory.

What are the key differences between raw materials, work-in-process and finished goods inventory?

Raw materials are the ingredients or components that will be converted into finished goods. Work-in-process is inventory that has been partially processed but is not yet completed. Finished goods inventory consists of products ready for distribution and sale.

What are 5 stages of inventory management process?

The five stages of the inventory management process are planning and forecasting, purchasing and procurement, receiving and inspection, storage and maintenance, and order fulfillment and distribution.

What are the 4 types of inventory management system?

Four of the most common types of inventory management systems are push systems, pull systems, perpetual inventory management systems and periodic inventory management systems.

What are the 3 types of inventory used by manufacturers?

The three major types of inventory used by manufacturers are raw materials, work in process (WIP) and finished goods. Some manufacturers also track maintenance, repair and overhaul (MRO) inventory.