1. Chapter 13 - Inventory Management
BUAD306
Chapter 13 - Inventory Management

2. Everyday Inventory
Food
Gasoline
Clean clothes…
What else?

3. Inventory Stock or quantity of items kept to meet demand
Takes on different forms
Final goods
Raw materials
Purchased/component parts
Labor
In-process materials
Working capital

4. Types of Inventory Static – only one opportunity to buy and sell units
Dynamic – ongoing need for units; reordering must take place

5. Types of Demand Dependent Demand Independent Demand
Items are used internally to produce a final product
Independent Demand
Items are final products demanded by external customers

6. Reasons To Hold Inventory
To meet anticipated demand
To smooth production requirements
To decouple components of the production-distribution system
To protect against stock-outs
To take advantage of order cycles
To hedge against price increases or to take advantage of quantity discounts
To permit operations

7. Inventory Costs
Carrying Costs - Storage, warehousing, insurance, security, taxes, opportunity cost, depreciation, etc.
Ordering Costs - Determining quantities needed, preparing documentation, shipping, inspection of goods, etc.
Stockout Costs – Temporary or permanent loss of sales / goodwill when demand cannot be met

8. What are the implications of each from a cost perspective?
What if?
Operate 365 days/year
Demand = 1,000/day
Two scenarios for ordering supplies:
1 x 365,000
365 x 1,000
What are the implications of each
from a cost perspective?

9. Inventory Management How much and when to order inventory?
Objective: To keep enough inventory to meet customer demand AND also be cost-effective
Goal: To determine the amount of inventory to keep in stock - how much to order AND when to order

10. Inventory Management Requirements
A system to keep track of the inventory on hand and on order
A reliable forecast of demand
Knowledge of lead times
Reasonable estimates of inventory costs

11. Inventory Control Systems
Control the level of inventory by determining how much to order and when
Continuous (Perpetual) Inventory System - a continual record of the inventory level for every item is maintained
Periodic Inventory System - inventory on hand is counted at specific time intervals

12. Other Control Systems/Tools
Universal Product Codes (UPC)
RFID Tags
Two-Bin System – two containers of inventory; reorder when the first is empty

13. Considerations Lead Time Cycle Counting Usage Rate
Time interval between ordering and receiving the order
Cycle Counting
Physical count of items in inventory
Usage Rate
Rate at which amount of inventory is depleted

14. Profile of Inventory Level Over Time
Inventory Cycle
Profile of Inventory Level Over Time Q
Usage
rate
Quantity
on hand
Reorder
point
Time
Receive
order
Place
order
Receive
order
Place
order
Receive
order
Lead time

15. Economic Order Quantity
The EOQ Model determines the optimal order size that minimizes total inventory costs

16. Optimal Order Quantity
2DS H
2 (Annual Demand) (Order Cost) Q = = o
Annual Holding Cost per unit Qo D
Length of order cycle = D Qo
# Orders / Year =

17. Basic EOQ Model Annual carrying cost ordering Total cost = + Qo 2 H D
TC =
Where: Qo = Economic order quantity in units
H = Holding (carrying) cost per unit
D = Demand, usually in units per year
S = Ordering cost

18. Cost Minimization Goal
The Total-Cost Curve is U-Shaped
Annual Cost
Carrying Costs
Ordering Costs QO
(optimal order quantity)
Order Quantity (Q)

19. EOQ Example 1 A) What is the EOQ?
A local office supply store expects to sell 2400 printers next year. Annual carrying cost is $50 per printer, and ordering cost is $30. The company operates 300 days a year.
A) What is the EOQ?
B) How many times per year does the store reorder?
C) What is the length of an order cycle?
D) What is the total annual cost if the EOQ quantity is ordered?

20. EOQ Example 2 A) What is the EOQ?
A local electronics store expects to sell 500 flat-screen TVs each month during next year. Annual carrying cost is $60 per TV, and ordering cost is $50. The company operates 364 days a year.
A) What is the EOQ?
B) How many times per year does the store reorder?
C) What is the length of an order cycle?
D) What is the total annual cost if the EOQ quantity is ordered?

21. Carrying cost + Ordering cost + Purchasing cost =
Quantity Discounts
A price discount on an item if predetermined numbers of units are ordered
TC =
Carrying cost + Ordering cost + Purchasing cost =
(Q / 2) H + (D / Q) S + PD
where P = Unit Price

22. Quantity Discount Example
Campus Computers 2Go Inc. wants to reduce a large stock of laptops it is discontinuing. It has offered the University Bookstore a quantity discount pricing schedule as shown below. Given the discount schedule and its known costs, the bookstore wants to determine if it should take advantage of this discount or order the basic EOQ order size.
Quantity
Price
1 – 49
$1,500
50 – 89
$1,000
90 +
$800
Carrying Cost:
$200
Ordering Cost
$1,000
Annual Demand
400 units

23. EPQ – Economic Production Quantity (EOQ w/Incremental Replenishment)
Used when company makes its own product
Considers a variety of costs/terms:
Carrying Cost
Setup Cost (analogous to ordering costs)
Maximum and Average Inventory Levels
Economic Run Quantity
Cycle Time
Run Time

24. EOQ with Incremental Replenishment (EPQ)
Definitions
S = Setup Cost
H = Holding Cost
Imax = Maximum Inventory
Iavg = Average Inventory
D = Demand/Year
p = Production or Delivery Rate
u = Usage Rate

25. EOQ with Incremental Replenishment (EPQ)
Total Cost = Carrying Cost + Setup Cost
(Imax/2) H + (D/Qo) S
Economic run quantity
Qo = 2DS/H * p/(p-u)
Cycle time (time between runs)
Qo /u
Run time (production phase)
Qo /p
Maximum Inventory Level
Imax = (Qo /p)(p-u)
Average Inventory Level
Iaverage = Imax /2

26. EPQ Assumptions Only one item is involved Annual demand is known
Usage rate is constant
Usage occurs continually, production periodically
Production rate is constant
Lead time doesn’t vary
No quantity discounts

27. EPQ Example
A toy manufacturer uses 48,000 rubber wheels per year for its product. The firm makes its own wheels, which it can produce at a rate of 800 per day. The toy trucks are assembled uniformly over the entire year. Carrying cost is $1 per wheel a year. Setup cost for a production run of wheels is $45. The firm operates 240 days per year. Determine the:
Optimal run size
Minimum total annual cost for carrying and setup
Cycle time for the optimal run size
Run time

28. EPQ Example Idle Time Calculation Value for Production Planning
Value for “What If” Scenario