Good inventory management is the key to sustainabilityand profitability of an organisation

BY DR AK KHANDELWAL

Inventoryoften represents asmuch as 40% of total capital ofindustrial organisations, It mayrepresent 33% of company assetsand as much as 90% of working

capital. Inventory costs in healthcare arethe second largest cost behind labour.Since inventory constitutes a major seg-ment of total investment, it is crucial thatgood inventory management be practicedfor sustain ability of organisation in thepresent era of competition among privatehospitals and rising power of insurancecompany and third party payment.

A study revealed that the control mea-sures for expensive drugs brought about20% savings, Implementation of controlmeasures of high cost medicine items(defined here costing more than ~ 1,000 Iunit) at the Anandaloke Hospital Neuro-sciences Centre, a too-bed multispecialrycentre, resulted in reduction of 57%. Thiscontrol has not only reduces shortage ofitems but also improved revenue.

The various components of inventorymanagement are:A.Purchasing policies: Purchasing poli-

cies should be Aexible and reflect thepharmacy's objectives and plans.

• Hospitalbeds • OTrent

Investigations • OPD

• Doctorfees • Drugs&consumables

Hospital revenue breakup.

The guidelines are:• Periodically assess existing purchasing

procedures to see if they meet your needs.• Delegate the job to a specific person for

requisition, purchasing, receiving andsclling , and record keeping.

• Periodically discuss your purchasingfunction with other pharmacies or withprofessional organisations to obtain sug-

gestions or techniques.• Periodically visit or investigate your

existing 01' potential vendors to verifythat they can meet your requirementsin terms of price, quality, quantity, andservice.

• Consider whether your volume of pur-chasing for any particular item warrantyour dealing directly with its manufac-turer?

• Evaluate whether your vendors haveregular and competent sales personnel?Any problems with suppliers in regardto shortages? Backdoor selling?

• Keep an eye on delivery delays? Unsolic-ited favours and gifts?

B. The receiving process: Recommenda-tions to streamline this process entail:

• When orders arrive from either themanufacturer or the wholesaler, theyshould be accompanied by either aninvoice or a packing slip that lists whatthe pharmacy is being charged for.

• Check each inventory when you removethe items from the box and place theminto store against this list.

• Ensure that this receipt of inventoryis documented either through manualentry or by bar-coding.

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C. Storing process: Recommendations forstandardising th is process:

• Store inventory in designated process.Depending on the size and type ofpharmacy operation, the product maybe placed in a bulk, central storage areaor into the active dispensing areas of thepharmacy.

• Ensure that inventory already in stockthat has expired should be removed.

• Ensure that near expiry inventory futureshould be highlighted and placed inthe front of the shelf/bin. The newlyacquired inventory should be placedbehind packages that will expire beforethem. This technique is referred to asstock rotation.

D. Expired drugs: The most commonreason drugs are returned to the manu-facturer is because they have expired.Recommendations to tackle this are:

• To return drugs, pharmacy personnelmust complete the paperwork requiredby the manufacturer/wholesaler andpackage the products so that it may beshipped.

• It is important to dispose of these prod-ucts for safety reasons. Biological wastemanagement rule guidelines should beimplemented.

HURDLES IN INVENTORYMANAGEMENTS

• Constantly evolvingtechnology resultingin short product lifecyclesand high costfor physicianpreference items.

• Difficultyin predicting frequency,durationand primarydiagnosis for patient visitsand the associated product requirements.

• Lackof standardised nomenclature/coding for healthcare products andcommodities.

• Lackof capital to build a sophisticatedinformation technology infrastructureto support supplychain managementefforts.

• Inadequate business education andsupply chain management capabilitiesamong hospital-based buyers

381 Healthcare Radius 1May 2014

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A study of inventory control measuresat Anandaloke Hospital & NeurosciencesCentre.

The inventory record keeping methodsare classified as being visual, periodic, orperpetual systems. Each can be used ef-fectively in a pharmacy, depending on theparticular situation.

Visual system: The least expensive andgenerally the least effective system of in-ventory control is the visual system. Withthis system, one simply looks at the num-ber of units in inventory and comparesthem with a listing of how many should becarried in stock.

Generally, this type of system is usedfor the less expensive and least importantitems in the pharmacy. There are type citems of ABC inventory system. The draw-backs of the usc of a visual system is itstendency to informality, the system is notused as frequently or with the precisionit requires. However, even with these po-tential problems, this system is commonlyused in pharmacies since techniciansuse the stock and thereby conduct visualinspections frequently,

Periodic system: A more elaboratemeans of inventory control is througha periodic system. With this inventorycontrol process, as its name suggests, stockon hand is counted at predeterminedintervals and compared to the minimumdesired levels. If the stock is below mini-mum desired, an order is placed. Evalua-tion of inventory levels is made on a moreformal basis than with a visual system,so the system tends to be more precise.

While periodic systems are more accurate,they are also more expensive than visualsystems, and accordingly tend to be usedmostly for B and sometimes A items ofABC inventory system. The most seri-ous limitation of such systems, however,is their measurement at a single point intime. Thus, one could have significantvariations in inventory levels which wouldnot be evident from a periodic audit.

Perpetual system: The most elaborateand accurate basic inventory controlsystem is the perpetual system. With thissystem, inventory is monitored at all times.In this way, it is possible to determine at amoment's notice how many units of eachitem are in stock. This type of systemprovides the best opportunity to controlboth the number of units and the dollar

Formula for EOO:

2* A *CpCh

A - Demand for the yearCp - Cost to place a single orderCh - Cost to hold one unit inventory fora year* -X

investment in inventory. Certainly, thegreatest drawback of perpetual systems isthat they are the most expensive to main-tain. Furthermore, they generate inordi-nate amounts of data - far more than oneis likely to use. Some pharmacies becomeoverwhelmed by the mass of data that theytend to ignore the data altogether.

Financial ratios are routinely used toassess the effectiveness of a pharmacy

operations inventory control techniques.The most common of these ratios is theinventory turnover ratio. The inventoryturnover ratio is a benchmark used bypharmacy managers to assess inventorycontrol and measure how many times theinventory of a company is used up duringa period, usually a year. The expression

'turns' or 'turn days' is calculated by divid-ing 365 by the annual inventory turnover.This number is used to estimate the num-ber of days of inventory available for sale.

The inventory turnover ratio is calcu-lated by the formula:

Inventory turnover - Cost of goods sold=Average inventory

Average inventory is calculated by aver-aging the beginning and ending inventorybalance (from the balance sheet) and givenby the equation: Average inventory - (Be-ginning inventory +Ending inventory/2)

In general, an inventory turnover ratioof approximately 12 turns pel' year isconsidered optimal for most pharmacyoperations. This means, on average, thepharmacy will operate with about 30 days,or one month, of inventory on hand. Someitems may have higher turnover rates thanthe overall operation.

These items, usually referred to as 'fastmovers' in the pharmacy environment,vary by area and represent the most com-monly used medications. Fast movers maybe purchased in larger quantities, turnovermore frequently and can have a significantimpact on profitability. The average phar-macy's inventory turnover rate does notexceed 10 turns. Most pharmacies averagebetween 8-10 turns per year.

When the inventory turnover ratiois lower than the benchmark (12 turnsper year), this can be an indicator thatinventory is too high. Possible reasons forthis might include deterioration, damage,obsolescence or overestimation of need,When the inventory turnover ratio ishigher, it usually means pharmacy manag-crs arc using inventory more efficiently.

Cost analysis (ABC analysis) has foundto be the most effective and preferred

practice for pharmacy store. ABC analysisis common to perform the analysis withpast consumption data and monetaryvalue. The analysis classify items intothree categories: the first 10-15%of theitems account for approximately 70% ofcumulative cost (category A), 20-25% arccategory B items account for a further 20%of the cumulative cost and the remaining

CARRYING COST OFA 1DO-BED MULTISPECIALTY

HOSPITAL (AHNC)EXPENSES

HEADSalaryElectricityShop RentPrintingand stationeriesGeneral expensesTelephoneLoadingand unloading charges

YEARLYEXPENSES

ConveyanceexpensesAudit feesInsurance chargesBank charges + interestDepreciationVat&CSTretun fillingfeePostage and courierchargeslegal feesTotal

17520001958401800002400003600018000126003600

112361162730000230006,000

5009,600

2,530,003

65-70% are category C items, amountingfor a mere 10% of the total value. Imple-mentation of this analysis can reduce highcost items storage budget by 20 %.

JTT is a quality-control process aimed atreducing inventory costs. This method canbenefit a pharmacy business by reducingaverage inventory and even improving cus-tomer satisfaction when stock outs do notoccur. JIT inventory control is generally notsensitive to rapid changes in demand. Forinstance, during allergy season, when therecan be rapid increases in demand for cer-tain allergy, cough, and cold medications.

One of the best known models for inven-tory control is the economic order quantity(EOQ). The purpose of this model is toanswer two important questions:• When should an item be reordered

(resulting in replenishment cost),• What quantity should be ordered (re-

sulting in carrying cost)? The model canthus be used to determine how muchinventory needs to be carried to meetdemand, but not so much that excessCOStSare incurred.The cost of inventories constitute:Shortage cost: This is important for

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0. hcalthcare organisation. VED analysiswill help administrator to estimate thevalue of shortage cost.

Carrying costs (K Cost): The carryingcost of inventory is the cost of maintain-ing your average inventory investment ofinventory in your pharmacy. What costs doyou incur in carrying inventory?1. Cost of putting away stock receipts and

moving materials within the pharmacy.In other words, the cost of paying someone

to do these activities.2. Rent and utilities for the portion of the

pharmacy used to store inventory.3. Insurance and taxes on inventory. You

have to insure your inventory and ex-cept for tax exempted hospitals, all aresubjected to taxes.

4. Physical inventory and cycle counting.5. Inventory shrinkage and obsolescence.

Most drugs have an expiration date.6. Opportunity cost of the money invested

in inventory. What could you be doingwith the money you have invested in theinventory? For example, in a retail phar-macy you could spend more on advertis-ing. In a hospital pharmacy, you mightuse that money for added services.The carrying cost percentage is

calculated by dividing the sum of theseexpenses (along with opportunity cost) bythe average inventory value. c:lI

Dr AK Khandelwalis medical director;AnandaLoke Hospital& NeuroscienecesCentre, Siliguri.

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