18: Cash Conversion, Inventory and Receivables ManagementMaterial Requirements Planning
Many manufacturing companies use computerised systems to control the flow of resources, particularly
inventory, within the production process. Material requirements planning (MRP) is one such system. MRP
uses a master schedule to ensure that the materials, labour and equipment needed for production are at
the right places, in the right amounts and at the right times. The schedule is based on forecasts of the
demand for the company’s products. The schedule says exactly what will be manufactured during the
next few weeks or months and when the work will take place.
Sophisticated computer programs coordinate all the elements of MRP. The computer determines
material requirements by comparing production needs to the materials the company already has in
inventory. The programs place orders so that items will be on hand when they are needed for production.
MRP helps ensure a smooth flow of finished products.
Manufacturing resource planning II (MRPII) expands on MRP. Using a complex computer system, it
integrates data from many departments, including finance, marketing, accounting, engineering and
manufacturing. MRPII can generate a production plan for the company, as well as management
reports, forecasts and financial statements. It allows the company to track and manage key inventory
items (typically A items) on a real-time basis. The system also enables managers to assess the impact of
production plans on profitability. If one department’s plans change, the system transmits the effects of
these changes throughout the company.
Just-in-time System
An important and widely adopted inventory management technique is the just-in-time (JIT) system. This
technique received a high profile in manufacturing after it was successfully developed and implemented
in a large number of major Japanese companies, and then exported around the world. JIT is based on the
belief that materials should arrive exactly when they are needed for production, rather than being stored
onsite. Relying closely on computerised systems such as MRP and MRPII, manufacturers determine
what parts will be needed and when before ordering them from suppliers, so the parts arrive just in time.
Under the JIT system, inventory products are pulled through the production process in response
to customer demand. JIT requires close teamwork among vendors and personnel in purchasing and
production; any delay in deliveries of supplies could bring production to a halt. Clearly, unexpected
events, such as a strike of staff at a shipping port or the earthquake in Christchurch, New Zealand in
February 2011, can cause problems for companies using a JIT system. In spite of such risks, a properly
employed JIT system can significantly reduce inventory levels and carrying costs, thereby freeing funds
for more productive uses.
material requirements
planning (MRP)
A computerised system used to
control the flow of resources,
particularly inventory, within
the production-sale processmanufacturing resource
planning II (MRPII)
Expands on MRP by using
a complex computerised
system to integrate data
from many departments and
generate a production plan
for the company along with
management reports, forecasts
and financial statementsjust-in-time (JIT) system
An inventory management
technique used to make sure
that materials arrive exactly
when they are needed for
production, rather than being
stored onsiteCONCEPT REVIEW QUESTIONS 18-3
5 How might the financial manager’s view of inventory differ from that of managers in production and
marketing? What is the relationship between inventory turnover and inventory investment? Explain.6 What is the ABC system? What role does the EOQ model play in controlling inventory? What basic
cost trade-off does the EOQ model address?7 From the financial manager’s perspective, describe the role of reorder points, safety stock, MRP,
MRPII and a just-in-time system in managing a company’s inventory.