Inventory planning and control Source: Corbis

Inventory planning and control Inventory planning and control Operations strategy The market requires … a quantity of products and services at a particular time Operations management Design Improvement The operation supplies ... the delivery of a quantity of products and services when required Planning and control

Inventory is created to compensate for the differences in timing between supply and demand Rate of supply from input process Source: Alamy/Van Hilversum Rate of demand from output process Inventory Input process Inventory Output process

What is Inventory? Stock of materials Stored capacity Examples © 1995 Corel Corp. © 1984-1994 T/Maker Co. © 1984-1994 T/Maker Co. © 1995 Corel Corp.

Role of Inventory Is to protect us (firms) from critical stock-out; this approach gives the level of dependability of supplies

Strategic role of Inventory At a strategic level, the essential role of inventory is to support the five operations performance objectives of quality, speed, dependability, flexibility and costs. Supporting quality objectives, E.g. Scotch, whisky, fine wine, are stored in barrels for many years to acquire distinctive and mature flavours, also timbers.

Strategic role of Inventory Cont.. Supporting speed objectives, E.g. Inventory of fuels – on power station, Hospitals must always have inventory of blood, bandages etc for immediate response to accident and emergency patient. Supporting dependability objectives, Supporting flexibility objectives, and Those supporting cost objectives.

The Functions of Inventory To ”decouple” or separate various parts of the production process 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

Types of Inventory Raw material Work-in-progress Maintenance/repair/operating supply Finished goods

COST ASSOCIATED WITH INVENTORIES From a manager point of view, two basic categories of costs are associated with inventories; Inventory carrying costs, and Inventory acquisition costs.

Holding (Carrying) Costs Obsolescence Insurance Extra staffing Interest Pilferage Damage Warehousing Etc.

Inventory carrying costs Carrying materials in inventory is very expensive Prior to the relative recent period of high interest rates, the annual cost of carrying a production inventory where approximately 25% of the value of the inventory, But in recent years due to escalation and volatile costs of money the figure ranges from 25 – 35% of the value of the inventory,

Inventory carrying costs Cont… Five major element make up these costs in the following manner, Opportunity cost of invented funds...12 – 20% Insurance costs…………………..……2 – 4% Property costs………………………....1 – 3% Storage costs………………………..…1 – 3% Obsolescence and deterioration …….4 – 10% Total carrying costs……………………..20 – 40%

Inventory carrying costs Cont… Generally; These group of carrying cost rises and fall nearly portionatery with the rise and fall of inventory level, The inventory level is directly related to the quantity in which the ordered materials is delivered, Thus, the large the order quantity, the higher the average inventory level during the period covered by the order,

Inventory carrying costs Cont… Thus; if a firm has estimated its approximate inventory costs, as a % of inventory value; the annual inventory costs that would be generated by delivery quantities of various sizes can be calculated as follows; Carrying cost per year = (Average inventory value) * (inventory carrying costs as a % of inventory value) But, Average inventory value is given by; (Average inventory in units) * (Material unit cost) Therefore; Carrying cost per year = average inventory in units) * (Material unit cost) * (inventory carrying costs as a % of inventory level

Inventory carrying costs Cont… Symbolically; CC = Q/2 * C * I, Whereby; CC = Carrying cost per year for the materials in question, Q = Order or delivery quantity for the material in units, C = Delivery unit costs of the materials, I = Inventory carrying cost for the material, expressed as a % of inventory value

Ordering Costs Forms Order processing Clerical support Etc.

Setup Costs Clean-up costs Re-tooling costs Adjustment costs Etc.

Inventory acquisition costs These are the costs of generating, processing and handling an order, along with its related paper work, ( or costs - associated with ordering and receiving an order)

Inventory acquisition costs Cont… If a firm’s cost accounting department can estimate its approximate acquisition cost per order; the annual acquisition costs that would be generated by order quantities of various sizes can be calculated as follows: Acquisition cost per year is given by; (No. of order placed per year) * ( acquisition cost per order)

Inventory acquisition costs Cont… Symbolically; i.e. AC = (U/Q) * A, Whereby AC = Acquisition cost per year for the material in questions, U = Expected annual usage of the material, in units, Q = Order or delivery quantity for the material, in units, A = Acquisition costs per order or per delivery of the materials

Inventory Models Fixed order-quantity models Probabilistic models Economic order quantity Production order quantity Quantity discount Probabilistic models Fixed order-period models © 1984-1994 T/Maker Co.

How Much? When! All inventory models essentially answer just two questions, how much and when. We will start this section by looking at the how much question.

Economic Order Quantity The EOQ is one of the most easily understood approaches to answering the how much question. This slide advances automatically.

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 Inventory Level Average Inventory (Q*/2) Minimum inventory Order quantity = Q (maximum inventory level) Usage Rate

Economic Order Quantity The next series of slides presents Figure13.3. The series builds in steps to the final Figure. This slide advances automatically.

Economic Order Quantity On-hand inventory (units) Time

Economic Order Quantity On-hand inventory (units) Time This sequence of slides is intended to show the actual behavior of inventory over time.

Economic Order Quantity On-hand inventory (units) Time Receive order Q

Economic Order Quantity On-hand inventory (units) Time Receive order Q 1 cycle

Economic Order Quantity On-hand inventory (units) Time Receive order Q 1 cycle This slide advances automatically.

Economic Order Quantity On-hand inventory (units) Time Receive order Inventory depletion (demand rate) Q 1 cycle

Economic Order Quantity On-hand inventory (units) Time Receive order Inventory depletion (demand rate) Q 1 cycle This slide advances automatically.

Economic Order Quantity On-hand inventory (units) Time Average cycle inventory Q — 2 1 cycle Receive order Inventory depletion (demand rate)

Economic Order Quantity The next series of slides presents Figure 13.4. The series builds in steps to the final Figure. This slide advances automatically.

Economic Order Quantity Annual cost (dollars) Lot Size (Q)

Economic Order Quantity Annual cost (dollars) Lot Size (Q) Holding cost (HC) To improve legibility, this Figure is presented in three parts.

Economic Order Quantity Annual cost (dollars) Lot Size (Q) Holding cost (HC) Ordering cost (OC)

Economic Order Quantity Annual cost (dollars) Lot Size (Q) Ordering cost (OC) Holding cost (HC) Total cost = HC + OC

Noninstantaneous Replenishment Production quantity Q On-hand inventory Time

Noninstantaneous Replenishment Production quantity Q Demand during production interval On-hand inventory p – d Time

Noinstantaneous Replenishment Production quantity Demand during production interval On-hand inventory Q Time p – d

Noinstantaneous Replenishment Production quantity Demand during production interval On-hand inventory Q Time p – d Production and demand Demand only TBO

Noinstantaneous Replenishment Production quantity Demand during production interval Production and demand Demand only TBO On-hand inventory Q Time p – d

Special Inventory Models Production quantity Demand during production interval Maximum inventory Production and demand Demand only TBO On-hand inventory Q Time Imax p – d

Noinstantaneous Replenishment Production and demand Demand only TBO Production quantity Demand during production interval Maximum inventory On-hand inventory Q Time Imax p – d Imax = (p – d) = Q( ) p

Noinstantaneous Replenishment Production and demand Demand only TBO Production quantity Demand during production interval Maximum inventory On-hand inventory Q Time Imax p – d C = (H) + (S) 2 D

Noinstantaneous Replenishment Production and demand Demand only TBO Production quantity Demand during production interval Maximum inventory On-hand inventory Q Time Imax p – d C = ( ) + (S) D Q p – d 2 p

Noinstantaneous Replenishment Production and demand Demand only TBO Production quantity Demand during production interval Maximum inventory On-hand inventory Q Time Imax p – d ELS = p 2DS H

Key Terms Test Inventory (also known as stock) The stored accumulation of transformed resources in a process; usually applies to material resources but may also be used for inventories of information; inventories of customers (or customers of customers) are usually called queues. Buffer inventory An inventory that compensates for unexpected fluctuations in supply and demand; can also be called a safety inventory. Cycle inventory Inventory that occurs when one stage in a process cannot supply all the items it produces simultaneously and so has to build up inventory of one item while it processes the others.

Key Terms Test De-coupling inventory The inventory that is used to allow work centres or processes to operate relatively independently. Anticipation inventory Inventory that is accumulated to cope with expected future demand or interruptions in supply. Pipeline inventory The inventory that exists because material cannot be transported instantaneously.

Key Terms Test Work-in-process (WIP) The number of units within a process waiting to be processed further (also called work-in-progress). Economic order quantity (EOQ) The quantity of items to order that supposedly minimizes the total cost of inventory management, derived from various formulae. Economic batch quantity (EBQ) The amount of items to be produced by a machine or process that supposedly minimizes the costs associated with production and inventory holding.

Key Terms Test Re-order point The point in time at which more items are ordered, usually calculated to ensure that inventory does not run out before the next batch of inventory arrives. Re-order level The level of inventory at which more items are ordered, usually calculated to ensure that inventory does not run out before the next batch of inventory arrives. Lead-time usage The amount of inventory that will be used between ordering replenishment and the inventory arriving, usually described by a probability distribution to account for uncertainty in demand and lead time.

Key Terms Test Continuous review An approach to managing inventory that makes inventory-related decisions when inventory reaches a particular level, as opposed to periodic review. Periodic review An approach to making inventory decisions that defines points in time for examining inventory levels and then makes decisions accordingly, as opposed to continuous review. Usage value A term used in inventory control to indicate the quantity of items used or sold multiplied by their value or price.