1. 1 6
Inventory Management

2. “Every management mistake ends up in inventory.”
Michael C. Bergerac
Former Chief Executive
Revlon, Inc.

3. Inventory Management Philosophies
Just-in-time (production philosophy)
Attempts to synchronize stock flows so as to just meet demand as it occurs
Minimizes the need for inventory
CR (2004) Prentice Hall, Inc.

4. Impact of Demand Patterns on Inventory Management
PULL versus PUSH SYSTEMS
PULL SYTEM: The company waits to produce products until customer demand it
PUSH SYSTEM: The firm produces to forecasted or anticipated sales to customers
INDEPENDENT versus DEPENDENT DEMAND
Whether the demand for an item depends on demand for something else-dependent demand
demand for an item depends on demand for something else

5. Pull strategy
In a pull-based supply chain, production and distribution are demand driven so that they are coordinated with actual customer orders, rather than forecasted demand.
Draws inventory into the stocking location
Each stocking location is considered independent
Maximizes local control of inventories

6. Push Strategy
Products are pushed through the channel, from the production side up to the retailer.
The manufacturer sets production at a level in accord with historical ordering patterns of retailers.
It takes longer for a push-based supply chain to respond to changes in demand, which can result in overstocking or bottlenecks and delays (the bullwhip effect), unacceptable service levels and product obsolescence.
Allocates production to stocking locations based on overall demand
Encourages economies of scale in production

7. Push-Pull Boundary
A supply chain is almost always a combination of both push and pull, where the interface between the push-based stages and the pull-based stages is known as the push-pull boundary.
Dell- Inventory levels of individual components are determined by forecasting general demand, but final assembly is in response to a specific customer request. The push-pull boundary would then be at the beginning of the assembly line.

8. Inventory Management Inventory management Carrying costs
Decisions drive other logistics activities
Objectives can differ for different functional areas of an organization
Must consider inventory costs
Carrying costs
Ordering costs
Stockout costs
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9. Inventory Carrying Cost
Inventory carrying costs are those costs associated with the amount of inventory stored.
Inventory carrying costs are made up of a number of different costs.
Unfortunately, many companies have never calculated inventory carrying costs, even though these costs are both real and substantial.
Benchmarking the percentage of inventory carrying costs-Avon /Revlon

10. Calculating Inventory Carrying Costs
Inventory carrying costs should include only those costs vary with the quantity of inventory and that can be categorized into the following groups;
capital costs,
inventory service costs,
storage space costs,
inventory risk costs.

11. Inventory Carrying Cost Methodology
Costs
Inventory Investment
Insurance
Taxes
Obsolescence
Pilferage
Inventory Carrying Cost Methodology
Storage space costs
Capital costs
Inventory service costs
Inventory risk costs
Plant warehouses
Public warehouses
Rented warehouses
Company-owned warehouses
Damage
Relocation costs 5 3

12. 1. Capital Costs on Inventory Investment
Holding inventory ties up money that could be used for other types of investments (Opportunity Cost of the Capital)
Some companies differentiate among projects by categorizing them according to their risk and looking for rates of returns that reflect the perceived level of risk.

13. Calculating Capital Costs on Inventory Investment
Cost of money
In the situation of financing the inventory: cost of money is actual cost of borrowing
Shortage of capital-cost of money for inventory decisions is high-decrease in inventory
Abundance of cash- cost of money for inventory is low-increase in inventory

14. 2. Inventory Service Costs
Inventory service costs are comprised of ad valorem-personal property costs
taxes,
fire and theft insurance paid
as a result of holding the inventory.

15. 3. Storage Space Costs
Storage space costs relate to four general types of facilities:
Plant warehouse costs
Public warehouse costs
Rented or leased(contract) warehouses
Company owned(private) warehouses

16. 4. Inventory Risk Costs
Inventory risk costs vary form company to company, but typically include charges for;
Obsolescence cost is the cost of each unit that must be disposed of at a loss because it can no longer be sold at a regular price.
Damage costs incurred during shipping should be considered a throughput cost, since they will continue regardless of inventory levels.
Shrinkage costs are becoming an increasingly important for businesses (inventory theft, poor record keeping,shipping wrong quantities…)
Relocation costs are incurred when inventory is transshipped from one warehouse location to another for avoiding obsolescence.

17. Inventory and Corporate Profitability
Excessive inventory levels can lower corporate profitability in two ways;
1.Net profit is reduced by out of pocket costs associated with holding inventory, such as insurance, tax,storage, obsolescence, damage, and interest expense, if the firm borrows money specifically to finance inventories,
2.Total assets are increased by the amount of the inventory investment, which decreases asset turnover, or the opportunity to invest in other more productive assets foregone.

18. Inventory and Least Total Cost Logistics
Inventory carrying cost is related with the decision of
logistics system design,
customer service levels,
number and location of DCs,
transportation modes,
inventory levels
production schedules.

19. Inventory Ordering Costs
Ordering costs refer to those costs associated with ordering inventory, such as order costs and setup costs.
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20. Inventory Ordering Costs
Examples of order costs include:
Costs of receiving an order (wages)
Conducting a credit check
Verifying inventory availability
Entering orders into the system
Preparing invoices
Receiving payment
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21. Trade-Off between Carrying and Ordering Costs
Ordering cost = number of orders per year x ordering cost per order Carrying cost = average inventory x carrying cost per unit
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22. Inventory Stockout Costs
Stockout cost is an estimated cost or penalty that is realized when a company is out of stock when a customer wants to buy an item.
Stockout costs involve an understanding of a customer’s reaction to a company being out of stock.
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23. General Rules Regarding Stockout Costs
The higher the average cost of a stockout, the better it is for the company to hold some amount of inventory (SS) to protect against stockouts.
The higher the probability of a delayed sale, the lower the average stockout costs and the lower the inventory that needs to be held by a company.
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24. Trade-Off between Carrying and Stockout Costs
Higher inventory levels (higher carrying costs) result in lower chances of a stockout (lower stockout costs)
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25. Table 8-4: Determination of Safety Stock Level
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26. Inventory carrying cost should be traded off with other logistics costs.
Place/ customer service levels
Product
Promotion
Price
Order processing and information costs
Warehousing costs
Transportation costs
Inventory carrying costs
Lot quantity costs
LOGISTICS
MARKETING
Source: Adapted from Douglas M. Lambert, The Development of an Inventory Costing Methodology: A Study of the Costs Associated with Holding Inventory (Chicago, IL: National Council of Physical Distribution Management, 1976), p. 7. 5 1

27. Inventory Turns
Inventory Turns (Inventory Turnover): The number of times that a company’s inventory cycles or turns over per year.
It is one of the  most commonly used Supply Chain Metrics showing how fast a company is selling through its inventory and efficiently managing its resources
Current Year's Cost of Goods Sold or Cost of Revenues / The average inventory for the period

28. Inventory Turnover Comparisons

29. The Impact of Inventory Turns on Inventory Carrying Costs1 2 3 4 5 6 7 8 9 10 11 12 13 14 15
$750,000
375,000
250,000
187,500
150,000
125,000
107,143
93,750
83,333
75,000
68,182
62,500
57,692
53,571
50,000
$300,000
100,000
60,000
42,857
37,500
33,333
30,000
27,273
25,000
23,077
21,428
20,000 -
$150,000
15,000
10,000
7,143
5,357
4,167
3,333
2,727
2,273
1,923
1,649
1,428
Inventory
Turns
Average
Carrying Cost
at 40 Percent
Savings
The Impact of Inventory Turns on Inventory Carrying Costs

30. Relationship between Inventory Turns and Inventory Carrying Costs$ 3 , 1 2 4 5 6 7 8 9
Inventory carrying costs

31. Annual Inventory Carrying Costs Compared to Inventory Turnovers
Variable Manufacturing Cost
Carrying Cost %
Annual Cost to Carry in Inventory
Monthly Cost (1/12)
$100
x 30%
$30
$2.50
Inventory Turns
Inventory carrying costs (per unit) 1 2 3 4 5 6 7 8 9
15.00
12.50
10.00
7.50
5.00
3.75
2.50
$30.00
6.00 10

32. Symptoms of Poor Inventory Management
Increasing numbers of back orders.
Increasing investment in inventory with back orders remaining constant.
High customer turnover rate.
Increasing number of orders canceled.
Periodic lack of sufficient storage space.
Wide variance in turnover of major inventory items between distribution centers.
Deteriorating relationship with intermediaries, as typified by dealer cancellations and declining orders.
Large quantities of obsolete items.

33. Methods for Reducing Inventory
Multiechelon inventory planning.(ABC analysis)
Lead time analysis.
Delivery time analysis.
Elimination of low turnover and/or obsolete items.
Analysis of pack size and discount structure.
Examination of procedures for returned goods.
Encouragement/automation of product substitution.
Installation of formal reorder review systems.
Measurement of fill rates by storekeeping units.

34. Methods for Reducing Inventory (Cont’d)
Analysis of customer demand characteristics.
Development of a formal sales plan and emend forecast by predetermined logic.
Expand view of inventory to include inventory management and information sharing at various levels in the SC.
Reengineering inventory management practices to realize improvements in product flow.

35. ABC Analysis-Pareto
80/20 concept is useful in distribution and inventory management.
The top 20 %-A ~ wide geographic distribution through many warehouses with high levels of stock availability
The next 30 %- B
The remainder 50 %- C~distributed from a single, central stocking point

38. Problem:
Suppose that a certain warehouse is to store 11 of the 14 items shown previously. The turnover ration for A group items is 7 to 1, for B items 5 to 1, For C items 3 to 1. If the annual sales through the warehouse are forecasted to be $ 25,000 , how much inventory investment in the warehouse can be expected?

40. HW 4 Textbook, Chapter 8, questions 2,4,5,6,8, 12 and
Case 8.1, question 1 on p
Following problem: Economic Order Quantity