1. 1 5
Inventory Concepts

2. “Every management mistake ends up in inventory.” Michael C. Bergerac
INVENTORY IS A
LARGE AND COSTLY
INVESTMENT
“Every management mistake ends up in inventory.”
Michael C. Bergerac
Former Chief Executive
Revlon, Inc.

3. What are Inventories? Finished product held for sale
Goods in warehouses
Work in process
Goods in transit
Any owned or financially controlled raw material, work in process, and/or finished good or service held in anticipation of a sale but not yet sold
CR (2004) Prentice Hall, Inc.

4. Inventory Management Objectives
Good inventory management is a careful balancing act between stock availability and the cost of holding inventory.
Customer Service ,
i.e., Stock Availability
Inventory Holding costs
(inventory Carrying Costs)
Service objectives
Setting stocking levels so that there is only a specified probability of running out of stock
Cost objectives
Balancing conflicting costs to find the most economical replenishment quantities and timing
CR (2004) Prentice Hall, Inc.

5. Inventory Management Answers Four Important Questions4 3
How to order?
When to order?
What to order?
How much to order?

6. Why Hold Inventory? It enables the firm to achieve economies of scale4 2
It enables the firm to achieve economies of scale
It balances supply and demand
It enables specialization in manufacturing
It provides protection from uncertainties in demand and order cycle
It acts as a buffer between critical interfaces within the channel of distribution

7. Economies of Scale
Inventory is required if an organization is to realize economies of scale in purchasing, transportation, or manufacturing.
Per unit price reductions!
The cost of maintaining this inventory must be “traded off” against the production savings realized.

8. Balancing Supply and Demand
Seasonal supply or demand may make it necessary for a firm to hold inventory. (finished goods)
Demand for a product may be relatively stable throughout the year, but raw materials may be available only at certain times during the year.
Ex: Canned fruits and vegetables

9. Specialization
Inventory makes it possible for each of a firm’s plants to specialize in the products that it manufactures.
The finished products can be shipped to field warehouses where they are mixed to fill customer orders.
Whirlpool Co.- cost savings through specializing manufacturing by plant location and the consolidation of warehouse operations
Focused Factories-specialization by facility

10. Protection From Uncertainties
Inventory is held as protection from uncertainties; that is, to prevent a stock out in the case of variability in demand or variability in the replenishment cycle.
Inventory planning is critical to successful manufacturing operations to protect from uncertainties.

11. Inventory As A Buffer
Inventory is held throughout the supply chain to act as a buffer for the following critical interfaces:
* supplier-procurement
* procurement-production
* production-marketing
* marketing-distribution
* distribution-intermediary
* intermediary-customer/user

12. TYPES OF INVENTORIES
Inventories can be classified based on the reasons for which they are accumulated.
In-transit inventories
Speculative stock
Seasonal stock
Dead stock
Cycle stock
Safety or buffer stock

13. In-transit Inventories
In-transit inventories are items that are en route from one location to another
For calculating inventory carrying costs,in-transit inventory should be considered as inventory at the place of shipment origin since the items are not available for use, sale ,etc.

14. Speculative Stock
Speculative stock is inventory held for reasons other than satisfying current demand
Materials may be purchased in volumes larger than necessary:
to receive quantity discounts,
because of a forecasted price increase
materials shortage,
to protect against the possibility of a strike.

15. Seasonal Stock
Seasonal stock is a form of speculative stock that involves the accumulation of inventory before a seasonal period begins
This often occurs with agricultural products and seasonal items.
Ex: back-to-school

16. Dead Stock
Dead stock refers to items for which no demand has been registered for some specified period of time.
Dead stock might be obsolete throughout a company or only at one stock keeping (SKU) location.
J.C. Whitney Company-sells auto parts that are no longer produced
Transshipment of dead stock-Asia markets

17. Cycle Stock
Cycle stock is inventory that results from replenishment of inventory sold or used in production.
It is required in order to meet demand under conditions of certainty; that is, when the firm can predict demand and replenishment times (lead times).
Orders are scheduled to arrive just as the last unit is sold-no extra inventory beyond the cycle stock is required.

18. Cycle Stock
Lot or batch size: The quantity that a stage of supply chain either produces or purchases at a given time
Q: quantity in a lot or batch size
Cycle stock: Q / 2

19. Safety or Buffer Stock
Safety or buffer stock is held in excess of cycle stock because of uncertainty in demand or lead time.
Average inventory at a stock keeping location that experiences demand or lead time variability = half the order quantity (cycle stock)+ the safety stock

20. 2 4 D a y s 1 3 5 6 I n v e t o r O d p l c i A g . q u f
The Effect of Reorder Quantity on Average Inventory Investment with Constant Demand and Lead Time 4
Demand:20 units

21. I n v e t o r y O d p l a c i A g D s 1 2 3 4 5 6 B . q u f
The Effect of Reorder Quantity on Average Inventory Investment with Constant Demand and Lead Time 4 5
Demand:20 units

22. A v e r a g c y l i n t o O d p C . q u f 6 s D 1 2 3 4 5 I
The Effect of Reorder Quantity on Average Inventory Investment with Constant Demand and Lead Time 4 6
Demand:20 units

23. Average Inventory Investment Under Conditions of Uncertainty11 A . W i t h v a r b l e d m n
Average Inventory Investment
Under Conditions of Uncertainty I o y g c S s ( f k 5 ) 1 2 8 3 4 D { 4
Demand:2025 units

24. Average Inventory Investment Under Conditions of Uncertainty12
Average Inventory Investment
Under Conditions of Uncertainty B . W i t h v a r b l e d m I n o y A g c ( 1 4 ) 2 10 { 3 D S s f k 4
If orders arrive 2 days late

25. Average Inventory Investment Under Conditions of Uncertainty. W i t h v a r b l e d m n I o y A g c ( 2 ) 1 10 { 3 4 D S s f k 8
Average Inventory Investment
Under Conditions of Uncertainty 4 13

26. Factors Influencing Safety Stocks
Forecast error
Exposure to stockout
Lead time
Service level requirement 4 14

27. Impact of Demand Patterns on Inventory Management
Just-in-time (production philosophy)
Attempts to synchronize stock flows so as to just meet demand as it occurs
Minimizes the need for inventory
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

28. Pull strategy
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

29. 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

30. Push-Pull Boundary
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.

31. 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

32. Normative Model of Inventory Carrying Cost Methodology
Costs
Inventory Investment
Insurance
Taxes
Obsolescence
Pilferage
Normative Model of 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

33. MAIN AIMS OF INVENTORY MANAGEMENT
To improve cash flows
To improve return on investment (ROI)

34. 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.

35. Inventory turnover as a Measure Of Inventory Management Effectiveness
Inventory turnover= Total cost of goods sold /Average inventory at cost
Average inventory at cost = beginning inventory (cost) + ending inventory (cost) / 2
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

36. Coca-Cola Balance Sheet
Coca-Cola Balance Sheet
2000
1999
Inventories
$1,066,000,000
$1,076,000,000
Income Statement
Cost of Goods Sold
$6,204,000,000
5.79 times each year

37. 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

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

39. 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

40. 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

43. The EOQ Model E O Q = 2 P D C V where:
P = The ordering cost (dollars per order)
D = Annual demand or usage of the product
(number of units)
C = Annual inventory carrying cost (as a percentage
of product cost or value)
V = Average cost or value of one unit of inventory
The EOQ Model 4 7

44. Cost Trade-offs Required to Determine the Most Economic Order Quantity
Size of order
Annual cost
(dollars) L o w e s t a l c ( E O Q )
Total cost
Inventory
carrying
cost
Ordering cost
Cost Trade-offs Required to Determine the Most Economic Order Quantity 4 8

45. Cost Trade-offs Required to Determine the Most Economic Order Quantity
Number
of Orders
(D/Q)
Ordering
Cost
PX (D/Q)
Inventory
Carrying
1/2 Q X C X V
Total 40 60 80
100
120
140
160
200
300
400 48 35 30 24 18 12
$ 4,800
3,200
2,400
1,920
1,600
1,400
1,200
960
720
480
$ 500
750
1,000
1,250
1,500
1,750
2,000
2,500
3,750
5,000
$ 5,300
3,950
3,400
3,170
3,100
3,150
4,460
4,470
5,480
Cost Trade-offs Required to Determine the Most Economic Order Quantity 4 9

46. Assumptions of the Simple EOQ Model
A continuous, constant, and known rate of demand.
A constant and known replenishment cycle or lead time.
A constant purchase price that is independent of the order quantity or time.
A constant transporation cost that is independent of the order quantity or time.
The satisfaction of all demand (no stockouts are permitted).
No inventory in transit.
Only one item in inventory, or at least no interaction among items.
An infinite planning horizon.
No limit on capital availability. 10 4

47. 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.

48. 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.

49. 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.