When calculating inventory costs, not all stock is alike. Knowing the different types of inventory and how they impact your costs is key to accurate stock control and best-practice inventory management.
What is inventory?
Inventory is most commonly defined as the goods and raw materials used or produced by a business to create a saleable product.
In accounting, inventory is generally the largest current asset a company carries.
Inventory can also refer to any goods that correspond with the production of goods to be sold by a company, including:
- Finished products
- Unfinished products
- Tools and equipment
- Spare parts
- Office stationery
- Ingredients
To ensure accounting records remain accurate and up to date, a business must manually take stock of its inventory and report the total value at the end of each accounting period. Inventory management refers to the actions taken by a business to keep an accurate record of their inventory stock.
7 types of inventory used in manufacturing
Manufacturing and production businesses deal with a greater range of inventory types than most industries. Here are seven of the main types of inventory used in a manufacturing business.
Direct raw materials
Raw materials are the goods your business uses to manufacture final products. They can be classified as either ‘direct’ or ‘indirect’. Direct raw materials are the materials which are directly used to create the final product, such as the flour that goes into bread or the plastic that goes into a drink bottle.
Indirect raw materials
Indirect raw materials are any materials that are used to produce goods but are not integrated into the final product. This includes items such as personal safety equipment, fuel for gas-powered tools, and replacement drill bits.
Work-in-progress (WIP)
WIP inventory refers to any goods or materials which are part-way through the manufacturing process but haven’t yet been converted into a finished product. Some manufacturers include labour and related overheads in their WIP costs to ensure accuracy.
Finished goods inventory
Finished goods are inventory items that have completed the manufacturing process and are ready for sale. These are the products you would find on the shelves of retail stores or in a warehouse ready to be picked and shipped once sold.
Maintenance, repair, and operations (MRO) inventory
MRO inventory refers to all the goods your business consumes to make products that do not go into the final product. It includes indirect raw materials, tools and equipment, and anything used to repair or maintain your facilities.
Some examples of MRO inventory:
- Spare parts
- Power tool batteries
- Light bulbs
- Hard hats
- Cleaning supplies
- Office stationery
Components
Components are parts or subassemblies which have been manufactured but aren’t themselves the final product.
In a boatbuilding business, the sail and hull of the boat can be considered two commonly used components. In an automobile factory, the car doors and chassis could be considered components of the cars being manufactured.
Packaging inventory
At the end of your accounting period, packaging materials which haven’t yet been utilised in a final product are considered packaging inventory. Packaging inventory is all the material ready to use in your product packaging. This can include items such as branded cardboard boxes, product labels, and containers.
Some organisations break packaging materials into three further subtypes:
- Primary: The packaging that’s in direct contact with your product. For example, a sealed plastic bag containing cornflakes.
- Secondary: The packaging which goes around primary packaging (the cornflake box).
- Tertiary: The packaging used to transport SKUs in bulk, like boxes and shrink wrap. Tertiary packaging may also be known as bulk or transit packaging.
Learn more: Eco-friendly Food Packaging: 8 Trends in Food & Bev Explained
6 types of inventory stored on-premises
In addition to finished goods inventory, there are several types of saleable stock that a business may keep in its storage location. And as you'll learn below, not all of these inventory types are welcome.
Cycle inventory
Cycle inventory is your main supply of on-hand stock. This is the inventory you’ll pick from first when producing new goods or shipping finished products that have been sold. It excludes safety stock and other inventory types kept in case your cycle inventory runs dry.
Vendor-managed inventory (VMI)
A vendor-managed inventory system is where the inventory of one company is supplied and managed by another. In this relationship, if the vendor knows the buyer running low on stock, they’ll supply it without prompting. Vendor-managed inventory levels are maintained by the seller instead of the buyer.
For VMI to work, the buyer needs to communicate regularly with the vendor, keeping them up to date on stock levels, sales data, forecasted trends, and other key business details.
Consignment inventory
Consignment inventory, like vendor-managed inventory, is inventory managed by the supplier on behalf of the buyer. It differs from VMI in that the vendor also retains ownership of the items up until the point of sale. The buyer doesn’t pay for consignment stock until that sale is made.
Retailers often use consignment inventory as a way to test out unproven products or trial unfamiliar relationships with a new manufacturer. Consignment stock can also be provided to a buyer on a vendor-managed basis.
- Learn more: Consignment Inventory Accounting Defined
Obsolete inventory
Obsolete inventory, also called dead stock, refers to finished goods that are unable to be sold. This includes products for which there is no longer customer demand, older iterations of improved products, the remaining on-hand stock of a recalled product, and products that are no longer legal to sell.
Excess inventory
Excess inventory, also called inventory waste, is stock which has not been sold and may take longer to sell than is efficient for a business. The major risk of excess inventory is that it ties up cash flow and consumes valuable storage space.
Zero inventory
Zero inventory is the stock kept on hand by a business practising the zero-inventory strategy. This is a tactic that involves keeping the bare minimum of inventory stock on hand – in some cases, that means none. Stock is effectively pushed back up the supply chain until it is necessary.
For example, e-book authors utilising Amazon’s on-demand book printing sell their products to customers all over the world but generally hold no stock unless they need it for an event.
4 types of just-in-case inventory
Just-in-case stock control is a strategy for managing inventory with minimal risk of stockouts. Similarly, just-in-case inventory refers to stock kept in case production or customer demand exceeds your predicted stock requirements.
Anticipation inventory
Anticipation inventory refers to stock purchased or manufactured to prepare for an expected spike in demand. For example, a chocolate retailer may rely on anticipation inventory ahead of Valentine’s Day and Christmas because they know sales are likely to spike around those periods.
Some manufacturers also use anticipation inventory to prepare for supply chain issues, including price increases. If the chocolate retailer knows the price of cocoa will go up on December 1st, they might buy extra (anticipation) stock in November while the price is more desirable.
Safety stock
Safety stock is an extra quantity of goods held in your warehouse as a buffer against unexpected spikes in demand or supply chain disruptions. It differs from anticipation inventory in that it is bought in case it is needed, whereas anticipation inventory is bought because a business expects it will be needed.
Decoupling inventory
Decoupling inventory is a stock of materials your business keeps on hand to allow for unforeseen problems in the production process. In the same way that safety stock protects against supply chain and demand issues, decoupling inventory protects against manufacturing issues, such as lost or broken subassemblies.
Spare parts inventory
Spare parts inventory is a supply of extra parts that can be dipped into to maintain or repair your organisation’s equipment. This includes physical things like belts, gears, batteries, and also consumables like oil or duct tape.
3 types of inventory stored off-premises
An important consideration in inventory management is accounting for stock that is not currently inside your storage facility. This can mean goods that are on the move or stored in a third-party location.
Pipeline inventory
Pipeline inventory, also known as in-transit inventory, refers to goods you’ve bought but haven’t yet received. They’ve been shipped by the seller and are on their way to their destination. This can mean goods purchased by a retailer from a wholesaler or goods purchased by a customer from a retailer.
Reverse inventory
Reverse inventory is any goods which are coming back up the supply chain as a part of reverse logistics. This includes items being returned to a business by a customer, either for a refund or a repair. It can also refer to unsold goods that are returned to manufacturers, the return of rented equipment, and the return of failed deliveries.
Reverse inventory has already been sold once and may need to be sold again. It can cause complications such as adding more holding costs or taking up warehouse space which could have gone to a more valuable product.
Dropshipping inventory
Dropshipping inventory is stock that, upon being purchased, will be shipped directly from the selling business’s supplier to their customer, never landing in the merchant’s warehouse. From a cost calculations perspective, dropshipping inventory is not a held inventory but rather the availability of stock from a third party.
3 types of unseen inventory
Some types of inventory are intangible – but still important – meaning they’re easily forgotten. To wrap up this list, let’s look at three kinds of unseen inventory.
Service inventory
Service inventory is how much of a particular service your organisation can provide customers in each inventory accounting period. It accounts for staff hours as well as the availability of resources. If you have three technicians who can do five installations a day, your service inventory will be 75 installations per week.
Theoretical inventory
Theoretical inventory is used mainly by food businesses and is a calculation used to determine the quantity of stock needed to produce finished products. It’s sometimes also described as the amount of stock expected to be left over after a set of predefined production tasks.
Cloud-based inventory
Cloud-based inventory refers to goods managed by a cloud-based inventory management system. Rather than recording your inventory data on spreadsheets or clipboards, cloud-based inventory puts your data on the Internet.
This has two major benefits:
- You can access it from anywhere, at any time.
- You can more easily share it between warehouse locations.
How to effectively manage different types of inventory
Inventory management software is designed to help you track parts and products through the entire supply chain in real-time. It allows businesses to work faster with greater efficiency and minimal bottlenecks.
Some core benefits of implementing an inventory management system:
- End-to-end control. Easily adjust and track stock movements as they happen with automatic updating whenever a product is sold, relocated, or changed.
- Optimised stocktakes. Save time with hassle-free stocktakes that can be immediately reflected in your inventory records without interrupting other staff members’ workflow.
- Reduced admin time. Inventory management software automates many of the manual tasks involved in stock control, improving accuracy, speed, and cost of fulfilment.
- Everything you need in one place. Integrate your inventory system with accounting, commerce, and customer management to build a single source of truth for your business.
- Manufacturing efficiency. Easily assemble components ahead of time with production planning and auto-populated bill of materials. Records are updated as assemblies are marked complete.
To get started with inventory management software, try Unleashed free for 14 days to see if it’s the right fit for your business.
