Inventory Costs

Inventories are generally referred to as the stocks held by a firm. Costs incurred to hold inventories are called as inventory costs that comprise capital tied up in the inventory, the carrying costs and the ordering costs of inventories. Carrying costs are the costs of holding materials in the stores. They include the cost of storage space, bins, protection of assets, interest on blocked funds, insurance, and costs of spoilage/ obsolescence. Ordering costs comprise the costs of placing orders, inspection, checking and handling of goods, the cost of floating tenders, stationery, fax, etc. The inventory costs are minimised when the carrying costs and ordering costs are balanced and the resulting order quantity is called the economic order quantity/economic lot size.

Holding of inventories gives rise to capital costs. Capital cost primarily is the opportunity cost of capital tied up in form of raw materials, intermediate goods and finished goods. The opportunity cost is the productive opportunities of the assets tied up in inventories. 

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