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Elements of Inventory Management Inventory Control Systems Economic Order Quantity Models Quantity Discounts Reorder Point Order Quantity for a Periodic Inventory System
What Is Inventory?
Stock of items kept to meet future demand Purpose of inventory management
how many units to order when to order
Inventory Level
Demand Rate
Definitions
Inventory-A physical resource that a firm holds in stock with the intent of selling it or transforming it into a more valuable state.
Inventory System- A set of policies and controls that monitors levels of inventory and determines what levels should be maintained, when stock should be replenished, and how large orders should be
Types of Inventory
Raw materials Purchased parts and supplies Work-in-process (partially completed) products (WIP) Items being transported Tools and equipment
Work-in-Process
Necessary in process-focused production May reduce material-handling & production costs
Raw Material
Suppliers may produce/ship materials in batches Quantity discounts and freight/handling $$ savings
Zero Inventory?
Reducing amounts of raw materials and purchased parts and subassemblies by having suppliers deliver them directly. Reducing the amount of works-in process by using just-in-time production. Reducing the amount of finished goods by shipping to markets as soon as possible.
Seasonal or cyclical demand Inventory provides independence from vendors Take advantage of price discounts Inventory provides independence between stages and avoids work stop-pages
Inventory
Independent
Dependent demand
Requirements / planned Materials Requirements Planning / Just in Time
Why We Do Not Want to Hold Inventories Certain costs increase such as carrying costs cost of customer responsiveness cost of coordinating production cost of diluted return on investment reduced-capacity costs large-lot quality cost cost of production problems
Inventory Costs
Carrying cost
cost of holding an item in inventory
Ordering cost
cost of replenishing inventory
Shortage cost
temporary or permanent loss of sales when demand cannot be met
Inventory Costs
Costs associated with ordering too much (represented by carrying costs) Costs associated with ordering too little (represented by ordering costs) These costs are opposing costs, i.e., as one increases the other decreases . . . more
Lower
Inventory Costs
(continued).
The sum of the two costs is the total stocking cost (TSC) When plotted against order quantity, the TSC decreases to a minimum cost and then increases This cost behavior is the basis for answering the first fundamental question: how much to order It is known as the economic order quantity (EOQ)
Total Cost
Ordering Cost =
CoD Q
Order Quantity, Q
Co D CcQ TC = + Q 2
CoD Cc TC = + Q2 2 Q C0D Cc 0= + Q2 2 Qopt = 2CoD Cc
Qopt =
EOQ Example
Cc = $0.75 per yard Qopt = Qopt = Co = $150 D = 10,000 yards
2CoD Cc
2(150)(10,000) (0.75)
Reorder Point
Level of inventory at which a new order is placed R = dL
where d = demand rate per period L = lead time
Reorder point, R
0 LT Time LT
Safety Stocks
Safety stock
buffer added to on hand inventory during lead time
Stockout
an inventory shortage
Service level
probability that the inventory available during lead time will meet demand
Q
Reorder point, R
Safety Stock
0 LT Time LT
Using P-System audit inventory level at interval (T) quantity to place on order is difference between max. quantity (M) and amount on hand at time of review management task - set optimal T and M to balance stock availability and cost In ABC analysis, which items would use Psystem???
Under quantity discounts, a supplier offers a lower unit price if larger quantities are ordered at one time This is presented as a price or discount schedule, i.e., a certain unit price over a certain order quantity range This means this model differs from Model I because the acquisition cost (ac) may vary with the quantity ordered, i.e., it is not necessarily constant
Under this condition, acquisition cost becomes an incremental cost and must be considered in the determination of the EOQ The total annual material costs (TMC) = Total annual stocking costs (TC) + annual acquisition cost
TC = (Q/2) Co + (D/Q) Cc + (D) ac
Quantity Discounts
Price per unit decreases as order quantity increases
CoD CcQ TC = + + PD Q 2 where P = per unit price of the item D = annual demand
Carrying cost
Ordering cost
Q(d2 ) = 200
4. Compute the TMC for the feasible EOQ (just found in Step 3) and its corresponding acquisition cost. 5. Compute the TMC for each of the lower acquisition costs using the minimum allowed order quantity for each cost. 6. The quantity with the lowest TMC is
For Q = 90
Miscellaneous Systems:
Bin Systems
Two-Bin System
Empt y
Order One Bin of Inventory when one is emptied Order Enough to Refill Bin (e.g. check book)
ABC Classification
Typical observations
A small percentage of the items (Class A) make up a large percentage of the inventory value A large percentage of the items (Class C) make up a small percentage of the inventory value
These classifications determine how much attention should be given to controlling the inventory of different items
ABC Classification
Class A
5 15 % of units 70 80 % of value
Class B
30 % of units 15 % of value
Class C
50 60 % of units 5 10 % of value
A-items
Track carefully (e.g. continuous review) Sophisticated forecasting to assure correct levels
C-items
Track less frequently (e.g. periodic review) Accept risks of too much or too little (depending on the item)
100
90
+Class B
Class A
+Class C
80 70 60 50 40
30
20 10 0 10 20 30 40 50 60 70 80 90 100
Percentage of items
UNIT COST
$ 60 350 30 80 30 20 10 320 510 20
ANNUAL USAGE
90 40 130 60 100 180 170 50 60 120
9 8 2 1 4 3 6 5 10 7
$30,600 1 16,000 2 14,000 3 5,400 4 4,800 5 3,900 3,600 6 CLASS 3,000 7 2,400 A 8 1,700 B 9 C $85,400
10
35.9 6.0 $ 60 18.7 5.0 350 16.4 4.0 30 6.3 9.0 80 5.6 6.0 30 4.6 10.0 4.2 % OF TOTAL 18.0 20 VALUE ITEMS 3.5 13.0 10 12.0 9, 8,2.8 2 71.0 320 17.0 1, 4,2.0 3 16.5 510 6, 5, 10, 7 12.5
20
6.0 90 11.0 40 A 15.0 130 24.0 60 30.0 B 100 40.0 % 58.0 180 OF TOTAL QUANTITY 71.0 170 C 83.0 50 15.0 100.0 25.0 60 60.0 120
Example 10.1
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