Inventory Holding Cost Formula Definition
Inventory holding cost refers to the amount of money required to store goods in a warehouse. It is represented as the percentage of the total inventory cost of a company at a certain point in time.
Significance of Inventory Holding Cost Formula
Using inventory holding costs is beneficial for businesses as it avoids loss of sales. It holds utmost importance and helps businesses in:
- Holding inventory to avoid loss of sales
- Managing the inventory effectively
- Reduceing the risk of production shortage
- Ensuring seamless continuity of the supply chain for the e-commerce business
Applications of Inventory Holding Cost Formula
The inventory holding cost formula plays an important part in reducing the risk of production shortages. Some of the common applications of the formula include:
- Helping e-commerce businesses know how much income they can earn based on the current inventory level. It affects a company’s financial health and profitability.
- Managing optimal levels of inventory in the warehouse and saving up costs
Inventory Holding Cost Formula
Annual holding cost formula =
Inventory service cost + Capital Cost + Storage Space Cost + Inventory Risk
Where,
Inventory Service Cost = IT hardware, applications, tax, insurance, etc.
Storage Space Cost = Fees for storing inventory
Inventory Risk = The probability of not being able to sell goods.
Understanding With the Help of an Example
Let’s say you have an electronic manufacturing company that stores the unsold inventory at the warehouse. The total amount of your inventory is ₱125,000.
Your inventory service cost, capital cost, inventory risk, and storage space stand at ₱10,000. This is your inventory holding sum.
To calculate the holding sum percentage –
(Inventory holding sum/ Total value of inventory) X 100 = holding cost percentage
(10,000/ 125,000) X 100 = 8%.
Inference
With the help of inventory holding costs, sellers can manage their budget and avoid paying additional fees to store their inventory. It also gives them a better idea of the stocks and how much of it is yet to be sold.