Investment in inventory safety stocks often represents a significant portion of a manufacturing company’s asset base and working capital. It also represents product that was produced or purchased because needs could not be clearly predicted. Instead of risking a stock-out, extra material is stored … just in case. In addition, when just-in-case inventories climb, aggregate inventory climbs, and, ultimately, working capital increases. This is normally viewed as a negative by the shareholders because increases in working capital normally indicate higher levels of operating risk and lower levels of liquidity. This is why most professional money managers view inventory increases (via working capital turnover ratios) as a statement about the competency of operating management. Low working capital is viewed as an indicator of smart operations management, while a high working capital level is (properly) viewed as an indicator of operations management dysfunction or incompetence.
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