Material Productivity

By T. A. Khan
January 2008

RM Productivity

Raw materials productivity =

Output (value or unit or value added)

Value of Raw material used

How to Increase?
Efforts to reduce the cost of input materials.

Material productivity

Reduce scrap or waste so that a higher

percentage of the raw materials is utilised.
Use of non corrosive materials or coatings to
increase product life. (e.g. Bridges, highways
& tools etc.)
Reduce inventories to get higher returns per
unit of inventory item.

Cost of Input Materials

Reduce the actual quantity of materials used

per unit of the finished product.

Improve product design.

Improve manufacturing processes to:
Enhance product quality
Reduce material waste.

Improve Suppliers processes

Reduce inventory costs.

What is Inventory?
Stock of materials
Stored capacity
Examples

The Functions of Inventory

To provide a stock of goods that will

provide a selection for customers
To take advantage of quantity discounts
To hedge against inflation and upward price
changes.
Protect against shortages
WIP decouples production stages

The Functions of Inventory

Independence of operations
Decouple production & distribution

permits constant production quantities

Variation in demand
Flexibility in scheduling
Supply (lead-time) variability
Economic purchase order size

Disadvantages of Inventory

Higher costs

Item cost (cost of the item)

Ordering (or setup) cost

Holding (or carrying) cost

cost of forms, clerks wages, EDI system

Building lease, insurance, money tied up

Difficult to control
Hides production problems

Types of Inventory

Raw material
Work-in-progress
Maintenance/repair/operating supply
Finished goods
Defectives
Returns

Performance and WIP Level

Less WIP means products go through system faster

reducing the WIP makes you more sensitive to
problems, helps you find problems faster
Stream and Rocks analogy:

Inventory (WIP) is like water in a stream

It hides the rocks
Rocks force you to keep a lot of water (WIP) in the stream

Lowering Inventory Reduces

Waste

WIP hides problems

Lowering Inventory Reduces

Waste

WIP hides problems

Lowering Inventory Reduces

Waste
Reducing WIP makes
problem very visible
STOP

Lowering Inventory Reduces

Waste

Remove problem, run

With less WIP

Lowering Inventory Reduces

Waste

Reduce WIP again to find

new problems

The Material Flow Cycle

The Material Flow Cycle

Input

Other

Wait
Time

Move
Time

Queue
Time

Setup
Time

Run
Time

Output

Cycle Time
1
2

4
5

Run time: Job is at machine and being worked on

Setup time: Job is at the work station, and the work
station is being "setup."
Queue time: Job is where it should be, but is not being
processed because other work precedes it.
Move time: The time a job spends in transit
Wait time: When one process is finished, but the job is
waiting to be moved to the next work area.
Other: "Just-in-case" inventory.

Inventory Costs

Holding costs - associated with holding

or carrying inventory over time
Ordering costs - associated with costs
of placing order and receiving goods
Setup costs - cost to prepare a machine
or process for manufacturing an order

Holding (Carrying) Costs

Obsolescence
Insurance
Extra staffing
Interest
Pilferage
Damage
Warehousing
Etc.

Inventory Holding Costs

Category
Housing (building) cost
Material handling
Labor cost
Opportunity/investment
Pilferage/scrap/obsolescence
Total Holding Cost

% of Value
6%
3%
3%
11%
3%
26%

Shrinkage Costs

How much is stolen?

2% for discount, dept. stores, hardware, convenience,

sporting goods
3% for toys & hobbies
1.5% for all else

Where does the missing stuff go?

Employees:
Shoplifters:
Administrative / paperwork error:
Vendor fraud:

44.5%
32.7%
17.5%
5.1%

ABC Analysis

Divides on-hand inventory into 3 classes

Basis is usually annual $ volume

A class, B class, C class

$ volume = Annual demand x Unit cost

Policies based on ABC analysis

Develop class A suppliers more

Give tighter physical control of A items
Forecast A items more carefully

Classifying Items as ABC

% Annual $ Usage

A
B
% of Inventory Items

Ordering Costs

Supplies
Forms
Order processing
Clerical support
Etc.

Setup Costs

Clean-up costs
Re-tooling costs
Adjustment costs
Etc

Inventory Models

Fixed order-quantity models

Economic order quantity
Production order quantity
Quantity discount

Probabilistic models

Fixed order-period models

EOQ Assumptions

Known and constant demand

Known and constant lead time
Instantaneous receipt of material
No quantity discounts
Only order (setup) cost and holding cost
No stockouts

Inventory Usage Over Time

Minimum
inventory

Inventory Level

Order quantity = Q
(maximum inventory
level)

Usage Rate

Average
Inventory
(Q*/2)

Time

EOQ Model
How Much to Order?
Annual Cost

Minimum
total cost

ve
r
u
C
ost
C
l
a
rve
u
Tot
C
st
o
C
ing
d
l
o
H

Order (Setup) Cost Curve

Optimal
Order Quantity (Q*)

Order quantity

EOQ Model Equations

Optimal Order Quantity
Expected Number of Orders
Expected Time Between Orders

d =

D
Working Days

ROP = d L

/ Year

2 D S
H
D
=N =
Q*

= Q* =

=T =

Working Days

/ Year

D = Demand per year

S = Setup (order) cost per order
H = Holding (carrying) cost
d = Demand per day
L = Lead time in days

Material productivity
Raw materials productivity =

Output (value or unit or value added)

Value of Raw material used

Value of
Perfect
Requirement

Value of Raw
Material used.

Value of
waste

Inventory
Costs

Improve Product Design

Improve Manufacturing Process

Improve Material Quality
Optimize Inventory carrying Costs
Optimize Inventory Ordering Costs

ABC Classification Solution

Stock #

Vol.

206
105
019
144
207

26,000
200
2,000
20,000
7,000

Total

Cost

$ Vol.

$ 36 $936,000
600 120,000
55 110,000
4
80,000
10
70,000
1,316,000

ABC

ABC Classification Solution

Deriving an EOQ
1.

2.
3.
4.

Develop an expression for setup or ordering

costs
Develop an expression for holding cost
Set setup cost equal to holding cost
Solve the resulting equation for the best
order quantity

Why Holding Costs Increase

More units must be stored if more are ordered

Purchase Order
Description
Qty.
Microwave
1

Order quantity

Purchase Order
Description
Qty.
Microwave
1000

Order quantity

Why Order Costs Decrease

1 Order (Postage $ 0.33)

1000 Orders (Postage $330)

Purchase Order
Description
Qty.
Microwave
1000

PurchaseOrder
Order
Purchase
PurchaseOrder
OrderQty.
Description
Purchase
Description Qty.
Qty.
Description
Microwave Qty. 11
Description
Microwave
Microwave
Microwave
11

Order quantity

EOQ Model

(When To Order)

Inventory Level
Average
Inventory
(Q*/2)

Optimal
Order
Quantity
(Q*)
Reorder
Point (ROP)

Lead Time

Time

The Reorder Point (ROP) Curve

Q*

Inventory level (units)

Slope = units/day = d

ROP
(Units)

Time (days)
Lead time = L

Sample Problem 1

Assume you have a product with the following

parameters:

Annual Demand = 360 units

Holding cost = $1.00 per unit
Order cost = $100 per order

What is the EOQ for this product? Assuming a

300-day work year, how many orders should
be processed per year? What is the expected
time between orders?

Problem 2 Solution
EOQ

2* Demand *Order Cost

2*360*100

72000 268.33 items

Holding cost
1

Demand 360
N

1.34 orders per year

Q
268
T

Working days
300 /1.34 224 days between orders
Expected number of orders