Inventory Management

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Inventory Management
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What is Inventory Management?
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Inventory

• Inventory A stock or store of goods.

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Inventory
Inventory a stock or store of goods
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Inventory Models

• Independent demand finished goods, items that
  are ready to be sold
• E.g. a computer
• Dependent demand components of finished
  products
• E.g. parts that make up the computer

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Examples

• Manufacturing firms carry supplies of raw
  materials, purchased parts, finished items, spare
  parts, tools,....
• Department stores carry clothing, furniture,
  stationery, appliances,...
• Hospitals stock drugs, surgical supplies,
  life-monitoring equipment, sheets, pillow
  cases,...
• Supermarkets stock fresh and canned foods,
  packaged and frozen foods, household supplies,...

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The Nature and Importance of Inventories

• Inventories are a vital part of business
• Necessary for operations
• Contribute to customer satisfaction
• Inventories represent a significant portion of
  total assets
• Sale of merchandise (inventory) is a major source
  of revenues for retail and wholesale businesses

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Types of Inventories

• Raw materials purchased parts
• Partially completed goods called work in
  progress
• Finished-goods inventories
• (manufacturing firms) or merchandise (retail
  stores)

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Types of Inventories (Contd)

• Replacement parts, tools, supplies
• Goods-in-transit to warehouses or customers

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Functions of Inventory

• To meet anticipated demand Anticipation stock
  average demand
• To smooth production requirements Seasonal
  inventories
• To protect against stock-outs Safety stock
  uncertainty
• To take advantage of quantity discounts
• To help hedge against price increases

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Inadequate Control of Inventories

• Inadequate control of inventories can result in
  both under- and overstocking of items.
• Understocking (too few) results in missed
  deliveries, lost sales, dissatisfied customers,
  and production bottlenecks (idle workers or
  machines).
• Resulting underage cost.
• Overstocking (too many) ties up funds that might
  be more productive elsewhere.
• Resulting overage cost.

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Objective of Inventory Control

• To achieve satisfactory levels of customer
  service while keeping inventory costs within
  reasonable bounds

Right goods, right place, right time, right
quantity

• Two fundamental decisions
• When to order (timing)
• How much to order (size)

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Performance Measures

• Performance measures used to judge the
  effectiveness of inventory management
• Customer satisfaction the number and quantity of
  backorders, customer complaints.
• 2. Inventory turnover
• The higher, the better more efficient use of
  inventory
• Desirable number of turns depend on industry and
  profit margin
• Indicate how many times a year the inventory is
  sold
• turnover
• 3. Days of inventory on-hand the expected number
  of days of sales that can be supplied from
  existing inventory.

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Inventory Counting Systems

• Periodic System
• Physical count of items made at periodic
  intervals
• Perpetual Inventory System System that keeps
  track of removals from inventory continuously,
  thus monitoringcurrent levels of each item

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Inventory Counting Systems (Contd)

• Two-Bin System - Two containers of inventory
  reorder when the first is empty
• Universal Bar Code - Bar code printed on a label
  that hasinformation about the item to which it
  is attached

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3. Lead Time Information

• Lead Time Time interval between ordering and
  receiving the order
• - Lead time variability the greater
• the potential variability, the greater
• the need for additional stock to
• reduce the risk of a shortage
• between deliveries

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4. Inventory Costs

• Ordering cost Costs of ordering/producing and
  receiving inventory.
• Eg. RM12 per order
• Unit ordering/production cost cost of obtaining
  one unit of the inventory.
• Eg. RM 77 per item

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4. Inventory Costs cont.

• b. Holding (carrying) cost Physically holding
  item in storage.
• interest
• insurance
• taxes
• depreciation
• obsolescence
• warehouse costs (heat, light, rent, security)
• opportunity costs
• Holding costs are stated in either way
• a percentage of unit price
• a dollar amount per unit

• deterioration
• spoilage
• theft
• breakage

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4. Inventory Costs cont.

• c. Shortage costs Costs resulting when demand
  exceeds supply.
• Opportunity cost for not making a sale
• Loss of customer goodwill
• Lateness charges
• Cost of lost production
• It is often difficult to quantify shortage costs.

One objective of Inventory Control is to minimize
the sum of these costs by balancing them.
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Replenishment Strategy -- EOQ (Basic)
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Basic Economic Order Quantity Model (EOQ)

• Assumptions
• 1. Ordering in batch from supplier.
• 2. Only one product is involved.
• 3. Constant demand rate. Demand is spread evenly
  throughout the year.
• 4. Constant lead time. Lead time does not vary
  much for a long enough time.
• 5. Single delivery for each order.
• 6. A single flat unit price from the supplier.

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The Inventory Cycle
Figure 11.2
Profile of Inventory Level Over Time
Order/batch size Q
Demand rate D
Reorder point
Time
Place order
Receive order
Receive order
Place order
Receive order
Order lead time
Order cycle time
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Inventory Level vs. Order Frequency
Small order
Low average inventory
Short order cycle time
Large order
High average inventory
Long order cycle time
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Now the Question is..

• Economic order quantity (EOQ) The order size Q
  that minimizes total costs per unit time.
• Fixed ordering cost S IGD / order
• Unit ordering cost P IGD / unit
• ( P unit price, assuming no other unit
  ordering cost component)
• Unit carrying cost H h P IGD / time
• ( h carrying cost rate for one IGD value of
  inventory/time)
• NO shortage cost here! Demand is a constant and
  it is always met.

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Example 2

• Demand for a certain radial tires at a tire
  company is 800 units per month. Each tire costs
  the company IGD 80. Ordering costs are IGD 75,
  and the annual carrying costs are 20 percent of
  the purchase price.

D 800 12 9600 /yr S IGD75 /order P
IGD80, r 0.20 H rP IGD80 0.2 IGD16
/unit yr
Match!
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Solution to Example 2

• 1. How many tires should the manager order in
  each lot?
• 2. What is the company's average inventory of
  this tire?
• 3. How often will an order be placed (length of
  order cycle)?

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Solution to Example 2 (Cont.)

• 4. How many times per year will an order be
  placed?
• 5. How much does the company spend annually on
  ordering costs?
• 6. How much does the company spend annually on
  holding (carrying) costs?

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Solution to Example 2 (Cont.)

• 7. What is the total annual cost if the EOQ
  quantity is ordered?

OR
The ordering and carrying costs are equal at the
EOQ