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Unit-Iii: Inventory Control

This document discusses inventory control and various inventory models. It begins by defining inventory and listing the major reasons for holding inventory. It then discusses the objectives of inventory management and different types of inventories. Several inventory models are described including economic order quantity, economic production quantity, reorder point, and single period models. The assumptions and calculations for determining optimal order quantities, reorder points, and stocking levels are provided for each model. The goals of minimizing total costs and achieving good customer service are also addressed.

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31 views

Unit-Iii: Inventory Control

This document discusses inventory control and various inventory models. It begins by defining inventory and listing the major reasons for holding inventory. It then discusses the objectives of inventory management and different types of inventories. Several inventory models are described including economic order quantity, economic production quantity, reorder point, and single period models. The assumptions and calculations for determining optimal order quantities, reorder points, and stocking levels are provided for each model. The goals of minimizing total costs and achieving good customer service are also addressed.

Uploaded by

KarthickKrishna
Copyright
© © All Rights Reserved
Available Formats
Download as PPTX, PDF, TXT or read online on Scribd
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UNIT-III

INVENTORY CONTROL
1

Learning Objectives

Define the term inventory and list the major reasons for
holding inventories; and list the main requirements for
effective inventory management.
Discuss the nature and importance of service inventories
Discuss periodic and perpetual review systems.
Discuss the objectives of inventory management.
Describe the basic EOQ model and its assumptions and
solve typical problems.
Describe the economic production quantity model and
solve typical problems.
Describe reorder point models and solve typical
problems.

Inventory

Independent Demand
nventory: a stock or store of goods

Dependent Demand

C(2)

B(4)

D(2)

E(1)

D(3)

F(2)

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

Types of Inventories
Raw materials & purchased parts
Partially completed goods called
work in progress
Finished-goods inventories

(manufacturing firms)
or merchandise
(retail stores)

Types of Inventories (Contd)


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

Functions of Inventory
To meet unexpected demand
To smooth production requirements
To protect against stock-outs
To take advantage of order cycles
To help hedge against price increases
To permit operations
To take advantage of quantity discounts

Objective of Inventory Control


To achieve satisfactory levels of customer service
while keeping inventory costs within reasonable
bounds
Level of customer service
Costs of ordering and carrying inventory

Inventory turnover is the ratio of


average cost of goods sold to
average inventory investment.

Effective Inventory
Management
A system to keep track of inventory
A reliable forecast of demand
Knowledge of lead times
Reasonable estimates of
Holding costs
Ordering costs
Shortage costs

A classification system

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
monitoring
current levels of
each item
10

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 has
information about the item
to which it is attached

0
214800 232087768

11

Key Inventory Terms


Lead time: time interval between ordering and
receiving the order
Holding (carrying) costs: cost to carry an item in
inventory for a length of time, usually a year
Ordering costs: costs of ordering and receiving
inventory
Shortage costs: costs when demand exceeds
supply

12

ABC Classification System

Figure 12.1

Classifying inventory according to some measure of


importance and allocating control efforts accordingly.

ABC-

very important
mod. important
least important

High
Annual
$ value
of items
Low

A
B
C 13
Lo
High
w Percentage of Items

Cycle Counting
A physical count of items in inventory
Cycle counting management
How much accuracy is needed?
When should cycle counting be performed?
Who should do it?

14

Economic Order Quantity


Models
Economic order quantity (EOQ) model
The order size that minimizes total annual cost

Economic production model


Quantity discount model

15

Assumptions of EOQ
Model
Only one product is involved
Annual demand requirements known
Demand is even throughout the year
Lead time does not vary
Each order is received in a single delivery
There are no quantity discounts

16

The Inventory Cycle

Figure 12.2
Q
Quantit
y
on
hand

Usage
rate

Profile of Inventory Level Over Time

Reorder
point

Receive
order

Place Receive
order order

Lead time

Place Receive
order order

Time
17

Total Cost
Annual
Annual
Total cost =carrying + ordering
cost
cost
Q
H
TC =
2

DS
Q

18

Cost Minimization Goal

Figure
12.4C

Annual Cost

The Total-Cost Curve is U-Shaped


Q
D
TC H S
2
Q

Ordering Costs
Q
(optimal
order quantity)
O

Order
Quantity (Q)19

Deriving the EOQ


Using calculus, we take the derivative of the total cost
function and set the derivative (slope) equal to zero
and solve for Q.

Q OPT =

2DS
=
H

2(Annual Demand)(Order or Setup Cost)


Annual Holding Cost

20

Minimum Total Cost


The total cost curve reaches its minimum where the
carrying and ordering costs are equal.

Q
H
2

DS
Q
21

Economic Production Quantity (EPQ)


Production done in batches or lots
Capacity to produce a part exceeds the parts
usage or demand rate
Assumptions of EPQ are similar to EOQ except
orders are received incrementally during
production

22

Economic Production Quantity


Assumptions

Only one item is involved


Annual demand is known
Usage rate is constant
Usage occurs continually
Production rate is constant
Lead time does not vary
No quantity discounts

23

Economic Run Size

Q0

2DS
p
H p u

24

Total Costs with Purchasing


Cost
Annual
Annual Purchasing
TC =carrying+ ordering+cost
cost
cost
Q
H
TC =
2

DS
Q

PD

25

Total Costs with PD


Cost

Figure 12.7

Adding Purchasing cost TC with PD


doesnt change EOQ

TC without
PD

PD

EOQ

Quantity

26

Total Cost with Constant


Carrying
Costs
Figure
12.9
Total Cost

TCa
TCb

Decreasing
Price

TCc

CC
a,b,c

OC

EOQ

Quantity

27

When to Reorder with EOQ


Ordering
Reorder Point - When the quantity on hand of an
item drops to this amount, the item is reordered
Safety Stock - Stock that is held in excess of
expected demand due to variable demand rate
and/or lead time.
Service Level - Probability that demand will not
exceed supply during lead time.

28

Determinants of the Reorder


Point

The rate of demand


The lead time
Demand and/or lead time variability
Stockout risk (safety stock)

29

Safety Stock
Quantity

Figure
12.12

Maximum probable demand


during lead time
Expected demand
during lead time

ROP
Safety stock reduces risk of
stockout during lead time
LT

Safety stock
Time

30

Reorder Point
Figure
12.13
The ROP based on a normal
Distribution of lead time demand
Service level

Risk of
a stockout

Probability of
no stockout
Expected
demand
0

ROP

Quantity

Safety
stock
z

z-scale
31

Fixed-Order-Interval Model

Orders are placed at fixed time intervals


Order quantity for next interval?
Suppliers might encourage fixed intervals
May require only periodic checks of inventory
levels
Risk of stockout
Fill rate the percentage of demand filled by the
stock on hand

32

Fixed-Interval Benefits
Tight control of inventory items
Items from same supplier may yield savings in:
Ordering
Packing
Shipping costs

May be practical when inventories cannot be


closely monitored

33

Fixed-Interval
Disadvantages
Requires a larger safety stock
Increases carrying cost
Costs of periodic reviews

34

Single Period Model


Single period model: model for ordering of
perishables and other items with limited useful
lives
Shortage cost: generally the unrealized profits per
unit
Excess cost: difference between purchase cost and
salvage value of items left over at the end of a
period

35

Single Period Model


Continuous stocking levels
Identifies optimal stocking levels
Optimal stocking level balances unit shortage and
excess cost

Discrete stocking levels


Service levels are discrete rather than continuous
Desired service level is equaled or exceeded

36

Optimal Stocking Level


Cs
Cs = Shortage cost per unit
Service level =
Cs + Ce Ce = Excess cost per unit
C
e

Cs

Service Level
Quantity
So

Balance point

37

Example 15

Ce = $0.20 per unit


Cs = $0.60 per unit
Service level = Cs/(Cs+Ce) = .6/(.6+.2)
Service level = .75
C
e

Cs

Service Level = 75%


Quantity

Stockout risk = 1.00 0.75 = 0.25

38

Operations Strategy
Too much inventory
Tends to hide problems
Easier to live with problems than to eliminate them
Costly to maintain

Wise strategy
Reduce lot sizes
Reduce safety stock

39

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