Tuesday, February 5, 2008

Retail Markets - 5

One of the critical reasons for a supplier to hold inventory is that the demand it faces is not perfectly predictable. There will be fluctuations in demand due to the uncertain timing and amounts of buyer purchases. Because buyers would prefer not to wait on an item that they'd like to purchase, keeping inventory of common items is efficient in allowing the buyers to purchase these items without delay, although it is costly for the seller to maintain the inventory. The more unpredictable the demand the larger the average inventory holdings must be to prevent buyers from being "stocked out," which is where buyers must wait till the inventory is replenished. For highly customized items, it does not make sense for the supplier to hold inventory, because it will be a very long time between sales, implying large inventory holding costs, and that to satisfy a modest demand. It is efficient for highly customized items to be made to order and buyers expect that.

Inventory is a type of 'buffer stock'. Buffer stocks are held to smooth out unpredictable fluctuations. On the consumer side, credit is a buffer stock held because expenditures are also not perfectly predictable.

Consumers also hold inventory. Examples include dry or canned goods, batteries, and light bulbs. Thinking about your own consumption behavior, can you list some other items that you hold in inventory? Do you maintain that inventory primarily because your own usage is unpredictable or is there another more important reason?

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