Methodology of Calculating

Inventory
Carrying
Costs

ASSOCIATES
MANAGEMENT CONSULTANTS
20 NASSAU STREET, SUITE 244
PRINCETON, NEW JERSEY 08542

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Contents

! The Truth About Carrying Inventory

! What Makes Up Inventory Carrying Costs?

! Inventory Carrying Cost Summary

! Inventory Carrying Costs Studies

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The Truth About Carrying Inventory

Studies of industries about inventory carrying costs reveal the

following . . . .

! Over 65% of most companies do not compute inventory carrying costs,

they use rough estimates
! Leading logistics experts place the cost of carrying inventory between
18% per year and 75% per year depending on the type of products and
business
! The standard “rule of thumb” for inventory carrying cost is 25% of
inventory value on hand
! The cost of capital is the leading factor in determining the percentage
of carrying cost
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What Makes Up Inventory Carrying Costs?

Inventory carrying costs are made up of the following . . . .

Inventory
Carrying
Costs

Capital Inventory Storage Inventory

Costs Service Costs Space Costs Risk Costs

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What Makes Up Inventory Carrying Costs?

Capital costs include the investment in inventory . . . .

Capital
Costs

Inventory
Investment

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What Makes Up Inventory Carrying Costs?

Inventory service costs include insurance, physical handling,

and taxes . . . .
Inventory
Service
Costs

Physical
Insurance Taxes
Handling

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What Makes Up Inventory Carrying Costs?

Storage space costs include public, plant, rented, and

company owned warehouses . . . .
Storage
Space
Costs

Company
Plant Public Rented
Owned
Warehouses Warehouses Warehouses Warehouses
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What Makes Up Inventory Carrying Costs?

Inventory risk costs are made up of obsolescence, damage,

shrinkage, and relocation costs. . . .

Inventory
Risk Costs

Relocation
Obsolescence Damage Shrinkage
Costs

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Inventory Carrying Costs In Summary

Total inventory carrying costs can be estimated at . . . .

! Cost of Money 6% - 12%
! Taxes 2% - 6%
! Insurance 1% - 3%
! Warehouse Expenses 2% - 5%
! Physical Handling 2% - 5%
! Clerical & Inventory Control 3% - 6%
! Obsolescence 6% - 12%
! Deterioration & Pilferage 3% - 6%
Total 25% - 55%

Richardson, Helen: Transportation & Distribution, “Control Your Costs then Cut Them” December, 1995
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Inventory Carrying Costs In Summary

Total inventory carrying costs can be broken down by . . . .

Warehouse
Physical Handling
Expenses 2-5%
2-5%
Insurance 1-3%
Clerical &
Inventory Control
Taxes 2-6%
3-6%

Cost of Money Obsolescence

6-12% 6-12%

Deterioration &
Pilferage 3-6%
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Inventory Carrying Costs Studies

Inventory Management Perspective . . . .

! CLM Conference attendees identified the management of inventory as

the top priority in the next several years. The conference referred to

Logistics, as inventory in motion.

! Inventory is money and many companies assess an inventory carrying

cost of 2% per month.

Inventory Reduction Report, December 1994

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Inventory Carrying Costs Studies

Author Publication Estimate of

Carrying
Textbook inventory carrying costs Costs as a
% of
are suspect. Inventory carrying Inventory
Value
costs should not always be based L.P. Alford & John R. Production Handbook, (New York: Ronald Press, 25%
Bangs (eds.) 1955) p. 397.
George W. Aljian Purchasing Handbook, (New, York: McGraw-Hill, 12-34%
on industry averages. Inventory 1958), pp. 9-29.
Dean S. Ammer Materials Management, (Homewood, Ill.: Richard 20-25%
carrying costs should be D. Irwin, 1962), p. 137.
Donald J. Bowersox, Logistics Management, 3rd ed., (New York: 20%*
calculated by business. That David J. Closs and Macmillan, 1986), pp. 189-97.
Omar K. Helferich
Joseph L. Cavinato Purchasing and Materials Management, (St. Paul, 25%
being said the following estimates MN.: West Publishing, 1984), p. 284.
J.J. Coyle and E. J. The Management of Business Logistics, 3rd ed. 25-30%
of inventory carrying costs from Bardi (St. Paul, MN.: West Publishing, 1984), p. 144.
Gordon T. Crook “Inventory Management Takes Teamwork,” 25%
Strategic Logistics Management, Purchasing, March 26 1962, p. 70.
Thomas W. Hall “Inventory Carrying Costs: A Case Study,” 20.4%
Management Accounting, January 1974, pp. 37-39
2nd edition, 1987,James R. Stock J. L. Heskett, N.A. Business Logistics, 2nd ed. (New York: Ronald 28.7%
Glaskowsky, Jr., and Press, 1973), p. 20.
and Douglas M. Lambert, Irwin, R. M. Ivie
James C. Johnson and Contemporary Physical Distribution and 25%
Homewood, Illinois, can be used Donald F. Wood Logistics, 3rd ed. (Tulsa, OK.: PenWell
Publishing, 1986), p. 253.
John F. Magee “The Logistics of Distribution,” Harvard Business 20-35%
as rules of thumb only: Review, July-August 1960, p. 99.
Benjamin Melnitsky Management of Industrial Inventory (Conover- 25%
Mast Publication, 1951), p. 11.
Thomson M. Whitlin The Theory of Inventory Management, (Princeton, 25%
NJ.: Princeton University Press, 1957), p. 220.
* Not specified, although 20 percent was used in examples.
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 ASSOCIATES
MANAGEMENT CONSULTANTS
20 Nassau Street, Suite 244
PO Box 7345
Princeton, New Jersey 08543-7345
Phone: 609-275-4444
Fax: 609-275-5651
E-Mail: rem@[Link]
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