Carrying cost is a measure of the cost associated with holding inventory for a specified period of time. The cost takes into consideration a number of factors, including the expenses of housing the inventory in a storage facility, any utilities employed in maintaining that storage facility, and salary and wages paid for personnel to monitor and maintain that inventory over the long term. A carrying cost is usually presented as a percentage, and can provide a company with a good idea of how long the inventory can be held before it is no longer profitable to do so.
When calculating carrying cost, manufacturers look at several additional issues that contribute to the overall cost of maintaining the inventory. If the goods held as part of the inventory have a limited shelf life, the factor of perishability becomes very important. For products that are likely to be replaced by other products over a period of time, considering the potential for obsolescence also becomes very important. The potential for theft of property contained in the inventory must also be considered as part of the calculation, as well as the potential for accidental damage to one or more components of the inventory.
In general, the goal of any business is to keep the carrying cost as low as possible. This means finding ways to move existing inventory, so that the total value of the inventory remains under a certain figure. Doing so automatically helps to reduce the possibility of spoilage, as well as minimize the chances that the components in the inventory will become obsolete and have to be discarded. A steady turnover in the inventory also helps with expenses like insurance costs and taxes, thus reducing the overall expense that the company incurs as part of the operational process.
One approach that helps to reduce the carrying cost of an inventory is to implement what is known as just in time production. With this model, the manufacturer produces goods at a rate that stays only slightly above the demand. This means that the finished goods do not remain in the inventory for extended periods of time, as they are shipped out quickly to fill existing orders. This results in a much smaller inventory at any given point in time, which in turn makes it possible to enjoy fewer warehousing costs, reduce the tax debt on the inventory, and in general keep the carrying cost to a minimum.