trade-related accounts receivable. In fact, they are the least
cash-convertible of all of the current assets.
The task of managing a company’s activities begins with
procuring capital. If this procured capital can be recycled
within a year, it is considered a “current liability.” If recycling
takes a year or more, it becomes a “fixed liability.” In either
case, having use of the capital incurs a capital cost known
as interest.
As mentioned earlier, the company uses this interestbearing
capital to lay in stocks of parts and other materials,
add value to the materials through manufacturing, then sell
the finished goods for a profit, part of which can be recycled
into further capital.
The gist of the problem is that people in these companies
work so hard to earn the profit used to recycle capital, only
to waste that capital by “putting it to sleep” in raw materials,
Assets
Balance Sheet Summary
(As of [date])
Total Assets Total Liabilities and
Shareholders’ Equity
Shareholders’ Equity
Liabilities
Current Assets
Cash
Notes receivable
Accounts receivable—trade
Finished goods
Work-in-process
Materials
Fixed Assets
Buildings
Machinery and equipment
Land
Good will
Patent rights
Investments in securities
Investments
Deferred Charges
Property, plant, equipment
Intangible fixed assets
Investment and other assets
I.
II.
Current Liabilities
Notes payable
Accounts payable—trade
Short-term loans payable
Accrued amount payable
and accrued expense
Allowance for taxes
Fixed Liabilities
Bonds payable
Long-term loans payable
Allowance for employee
retirement benefits
Total Liabilities
I.
I. Capital stock
II.
Legal Reserve of
Retained Earnings
II.
Surplus
Voluntary reserves
Unappropriated retained
earnings at end of term
(Earnings at end of term)
Total shareholder’s equity)
III. III.
x x
x x
x x
x x
x x
x x
x x
x x
x x
x x
x x
x x
x x x
x x
x x
x x
x x
x x
x x
x x
x x
x
Reimbursable
Cash-convertible
Operation
Procurement
x
x x
x x x
(x x)x
x
x x x
x x
x x
x x
x x
x x
Figure 2.22 Position of Inventory in a Corporate Balance Sheet.
Destroying Factory Myths ◾ 95
work-in-process (in which some value has already been
added), and products that do not “move” but just sit there
as inventory.
Capital costs “move” with the clock and thus never sleep.
The company must keep paying these costs while its inventory
snores away.
It should be apparent by now just how much inventory
betrays the whole principle of finance, which is to “procure
and operate capital.” Although businesspeople make use of
the term “inventory investment,” the truth is that inventory
alone offers no return on investment and therefore should
not be considered an investment at all. How helpful it would
be if everyone kept this simple fact in mind.
Lesson 16. Inventory Is Not an Investment
When “Appropriate” Inventory Is Not Appropriate
People in training for the job of inventory management often
run into texts with titles along the lines of, “Inventory: Not
Too Much and Not Too Little Keeps Production Running
Smoothly.” “Not Too Much” foreshadows the text’s admonitions
to drastically reduce inventory.
But what does “Not Too Little” refer to? It refers to a common
piece of advice: Make sure you have at least some excess
inventory. It does not mean “minimize” inventory. It says that
we are supposed to maintain a little “fat” in the inventory, but
not too much.
The philosophy behind this “keep a little fat” approach to
inventory is that having a little extra inventory on hand as
a sort of “buffer” will enable the factory to respond quickly
to surprise sell-outs or shortages of materials and products.
However, in view of the wide range of products demanded
of factories by today’s diversifying market needs, how little
can “a little fat” really be and still serve as a buffer? We have
to face the fact that, in today’s marketplace, surprise sell-outs
and parts shortages are still bound to happen when we
96 ◾ JIT Implementation Manual: Volume 1
maintain a slightly (or even seriously) overweight inventory.
Planning a little fat into our inventory in preparation for or
in response to product sell-outs is a sure-fire way to end up
with lots of excess inventory.
Inventory managers find themselves between a rock and a
hard place: Too little inventory results in parts shortages and
too much puts a heavy load on business management. This
uncomfortable situation has helped give rise to a wonderful
concept: “appropriate inventory.”
Appropriate inventory means enough inventory to avoid
a strain on capital while also avoiding loss of sales due to
shortages. It sounds great in theory, but how can appropriate
inventory be realized?
There are even some formulas we can use to determine
appropriate inventory levels. In one formula, the calculation
is based on the sales target. The other is based on cash flow.
There are many different formulas expressing different inventory
management perspectives.
For example, the following formula is common for sales
target-based calculations.