Inventory control

Techniques :

What Is Inventory?
Stock of items kept to meet future demand Purpose of inventory management

how many units to order when to order

Types of Inventory
Raw materials inventory M.R.O/ spare parts inventory Work-in-process (partially completed) Finished goods inventory

TECHNIQUES OF INVENTORY CONTROL:

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ABC analysis:
A very close control is exercised over the items of A group which account for a high percentage of costs while less stringent control is adequate for category B and very little control would suffice for category C items.

Copyright 2006 John Wiley & Sons, Inc.

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Always Better Control (ABC) Analysis

This technique divides inventory into three categories A, B & C based on their annual consumption value. It is also known as Selective Inventory Control Method (SIM) This method is a means of categorizing inventory items according to the potential amount to be controlled. ABC analysis has universal application for fields requiring selective control.

Procedure for ABC Analysis

Make the list of all items of inventory. Determine the annual volume of usage & money value of each item. Multiply each items annual volume by its rupee value. Compute each items percentage of the total inventory in terms of annual usage in rupees. Select the top 10% of all items which have the highest rupee percentages & classify them as A items. Select the next 20% of all items with the next highest rupee percentages & designate them B items. The next 70% of all items with the lowest rupee percentages are C items.

ABC Classification
Class A

5 15 % of units 70 80 % of value

Class B

30 % of units 15 % of value 50 60 % of units 5 10 % of value

Class C

EXAMPLES: A= diamond,bmw B= activa, bikes C= sugar, tea bags etc

Copyright 2006 John Wiley & Sons, Inc.

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Advantages of ABC Analysis

Helps to exercise selective control Gives rewarding results quickly Helps to point out obsolete stocks easily. In case of A items careful attention can be paid at every step such as estimate of requirements, purchase, safety stock, receipts, inspections, issues, etc. & close control is maintained. In case of C items, recording & follow up, etc. may be dispensed with or combined. Helps better planning of inventory control Provides sound basis for allocation of funds & human resources.

Disadvantages of ABC Analysis

Proper standardization & codification of inventory items needed. Considers only money value of items & neglects the importance of items for the production process or assembly or functioning. Periodic review becomes difficult if only ABC analysis is recalled. When other important factors make it obligatory to concentrate on C items more, the purpose of ABC analysis is defeated.

Economic Order Quantity (EOQ) Models

EOQ

optimal order quantity that will minimize total inventory costs

Basic EOQ model

Assumptions of Basic EOQ Model

Demand is known with certainty and is constant over time No shortages are allowed Lead time for the receipt of orders is constant Order quantity is received all at once

Inventory Order Cycle

Order quantity, Q Inventory Level

Demand rate

Reorder point, R

Lead time Order Order placed receipt

Lead time Order Order placed receipt

Time

EOQ Cost Model

Proving equality of costs at optimal point
Cc Co D

=carrying cost
=ordering cost =DEMAND

EOQ

2CoD = Cc

EOQ Cost Model (cont.)

Annual cost ($) Slope = 0 Minimum total cost CcQ Carrying Cost = 2

Total Cost

CoD Ordering Cost = Q Optimal order Qopt Order Quantity, Q

Economic Order Quantity (EOQ)

EOQ or Fixed Order Quantity system is the technique of ordering materials whenever stock reaches the reorder point. Economic order quality deals when the cost of procurement and handling of inventory are at optimum level and total cost is minimum. In this technique, the order quantity is larger than a single periods ne requirement so that ordering costs & holding costs balance out.

Assumptions of EOQ
Demand for the product is constant Lead time is constant Price per unit is constant Inventory carrying cost is based on average inventory Ordering costs are constant per order All demands for the product will be satisfied (no back orders)

Weaknesses of EOQ formula

Erratic usages Faulty basic information Costly calculations No formula is substitute for commonsense EOQ ordering must be tempered with judgment

Basic Fixed Order Quantity Model (EOQ)

Total Annual Cost =
Annual Annual Annual + Purchase + Holding Ordering Cost Cost Cost
TC = Total annual cost

= Demand
= Cost per unit = Order quantity = Cost of placing order/setup cost

TC DC

Q D H S 2 Q

C Q S

EOQ

2 DS H

= Annual holding and storage cost per unit of inventory

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: Example

Demand = 10,000 yards/year Store open 311 days/year Daily demand = 10,000 / 311 = 32.154 yards/day Lead time = L = 10 days R = dL = (32.154)(10) = 321.54 yards

Variable Demand with a Reorder Point

Q Inventory level

Reorder point, R

0 LT Time LT

Reorder Point with a Safety Stock

Inventory level

Q
Reorder point, R

Safety Stock

0 LT Time LT

Important Terms
Minimum Level It is the minimum stock to be maintained for smooth production. Maximum Level It is the level of stock, beyond which a firm should not maintain the stock. Reorder Level The stock level at which an order should be placed. Safety Stock Stock for usage at normal rate during the extension of lead time.