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Risk-Based Inventory Management:

MRP Strategies Are Wrong for MRO


Curtis Barton
Rio Tinto

Premier Sponsor

Platinum Sponsor

Steve Lyndon
Oniqua

Produced by:

Evolution of Inventory Management


Managing varying MRO inventories
Analysis of inventory for asset-

intensive business
Implementation of a solution

Key points to take home


Questions

Rio Tinto Group - Company Profile


2009 Financials

Sales (mil.) $43,840.6 USD


Assets (mil) $96,802.3 USD
Employees 101,994

Rio Tinto Group - Company Profile


Sites
Europe/Middle
East/Africa
11 Processing
Plants, 10 Mining
Sites
Australia/Asia
6 Processing Plants,
26 Mining Sites
North/South Americas
14 Processing
Plants, 18 Mining
Sites

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Rio Tinto Group - Company Profile


Minerals mined
include:
Bauxite
Borates
Coal
Copper
Diamonds
Gold
Gypsum
Iron
Molybdenum
Salt
Silver
Talc
Titanium Dioxide
Uranium

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Some of our Business Units

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Our Business
We produce commodities
o
o
o

Market sets the price


Little to differentiate our products from our
competitors
We can sell everything we can produce

To improve ROI, we can:


o
o

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Produce more with the assets we have


Reduce our cost of production

Managing Varying MRO Inventories


Varying types of assets require varying types of
analysis

Mobile Fleet
o
o

Heavy Mobile Equipment


Light Vehicle

Fixed Plant
Concentrator
o Smelter / Refinery
o Power Plant
o Material Upgrading
o

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Mobile Fleet
High volume of spares
Preventive Maintenance
o
o

Kits
Standard Jobs

Break Fix
o

Wide variety of equipment

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Haul Trucks
Shovels
Dozers / Loaders

Fixed Plant
Volume of usage of spares is lower, but more complex

Preventive maintenance
Planned / Unplanned maintenance
o
o
o

Critical equipment / Single line


Unique / old equipment
Lead-time issues

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Long lead-times
High variability

Issues in Analyzing Inventory


Mining is a very conservative industry

Asset intensive
o
o

Most of working capital is tied up in assets


Work in Process and Finished goods are small in comparison

No Bill Of Material application to forecast for MRO


High potential stock-out costs

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Issues in Analyzing Inventory

Criticality of equipment
o
o

Single systems
Environmental concerns

The majority of inventoried items have moderate to low

Slide 12

usage
Personnel monitoring inventory have varied skills in
understanding the statistical calculations

Our Inventory Profile


Movement

Tens of thousands of stock

items
Large proportion of items slow
moving or intermittent demand
Small number of items used
frequently and consistently
Wide range of criticality / impact
Wide range of availability

1%

15%
19%
65%

1%
< 1 week

8%

1 to 2 weeks
35%

up to 4 weeks
up to 2 months

25%

up to 4 months
up to 6 months

14%

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14%

MODERATE
SLOW
NON MOVING

Availability
3%

FAST

more than 6 months

The Challenges of MRO Inventory


With MRO Inventory
o Only a small fraction of items meet the profile to be effectively
managed by MRP, i.e. where:

Most of the inventory cannot be managed by MRP:

Future demand is not known with any certainty, either quantity or timing

How can we manage the inventory?

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A significant proportion of demand is known in advance


Planning is done sufficiently in advance

Competing and conflicting demands from Finance and End Users


Want to deliver Maximum Service Level at the Lowest Total Operating
Cost

SAP-MM
SAP-MM is excellent for managing inventory for manufacturing and

retail
MRP & time-phased planning
Forecasting & consumption-based planning

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Service Level
Managing to a Service Level target is not optimal
o

Target levels are arbitrarily set Why do you want 95%? Why not 90% or
98.5%?

Managing to a target Service Level is not managing risk!


o
o

Service Level is a representation of probability


Risk is probability * consequence

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What are the chances of me not having it when it is needed?


What is the penalty or cost of not having it when it is needed?

Service Level and Safety Stock


Safety Stock Value vs Service Level

Increasing Safety Stock

98%

96%

94%
Service Level

improves Service Level


But the improvements
rapidly diminish
How much Safety Stock
can we afford?

100%

92%

Item A
Item B

90%

88%

86%

84%
$0

$200

$400

$600

$800

$1,000
Safety Stock

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$1,200

$1,400

$1,600

$1,800

$2,000

Holding Costs
Keeping MRO inventory costs

money
15 20% p.a. is typical
Is this the best use of our
capital?
If end-users had to pay for the
cost of keeping inventory,
would their demands be
different?

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Stockout Cost

Not having inventory when


it is needed can have
financial impact
The higher the criticality, the
higher the penalty
o This is the consequence
part of the risk equation
o

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Variance Matters

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Finding the right balance

How Much is
Enough?
Cost of Holding
Inventory

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Cost of Not
Holding Enough
Inventory

Keeping the Right Balance

Getting the right level once is not

good enough
Things change over time
Initial estimates of usage or lead time
were not accurate
o Usage changes with production levels
and fleet size
o Market prices change the stock-out
penalty
o

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Keeping the Right Balance


Dont have time or resources to manually

review everything often enough


Need to automate decisions where we can,
and get analysts to review where we have to

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SAP-MM
Limited forecasting algorithms, focused on fast moving inventory
Only uses Normal distribution
o

Most items that have low usage have statistical distributions like Binomial,
Negative Binomial or Poisson

Lead time uses the manually assigned lead time, not the actual lead

time
Does not consider variance of lead time
Assumes Issue Size = 1; Many MRO items are used in multiples,
which can overshoot the ROP
Does not factor in Criticality or Stock-out Penalty Cost

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Our Requirements

We needed a system that:


Could support multiple business units
o Could automate the adjustment of reorder levels
o Manage by exception
o Robust, supported, maintained
o Manage by cost, not service level
o Allow modeling of whatif scenarios over multiple items
o All data in one place
o Focused on MRO Inventory
o

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Oniqua Analytics Solution (OAS)

100% focused on MRO


Dominant in mining industry and other asset-intensive industries
Selected after evaluation of SAP functionality and other apps
A perfect complement to SAP!!

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Business Impact

We found the OAS term Business


Impact useful when discussing
inventory levels with end users
The term Criticality is not the best;
To them, everything is critical!
o It is not a binary Critical/Not Critical
decision
o With Business Impact, we got them
to consider the big picture of what
would happen if the parts were not
available
o

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Considering Workarounds
What else could we do if the
material is not available when
requested?
o

o
o
o

Expedite delivery
Temporary repair
Substitute
Or, no other option.

Workarounds come at a cost, but

reduce the stock out penalty


Need input from end-users

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OAS Workbench
Worldwide inventory consolidated in
OAS, and partitioned by Business Unit

Work Queues allow analysts to


quickly get to the records that
need to be reviewed

Control Segments
Control Segments are defined to
group together items with similar
inventory management policies

Control Segments - definition


Control Segments are based on rules
configured in OAS. These are flexible,
and are defined to meet the clients
business rules

OAS Inventory Main tab


Key information
extracted using SAP
approved connectors
developed by Oniqua

A group of records
extracted for review

OAS Inventory Price details

Price information extracted


from SAP

OAS Inventory Lead Time


Receipts extracted from SAP to
calculate Average Lead Time
and variance. Review Lead
Time assigned for different
purchasing scenarios, using
rules defined in OAS

OAS Inventory - Issues

Issue Size and variance


calculated using Issue
transactions extracted from
SAP

OAS Inventory Forecast


Usage is updated monthly from issue
transactions, and various forecasting
algorithms are tested to find the one that fits
closest. Abnormal usage can be clipped.
Future usage and variance is calculated.

OAS Inventory Codes tab


Other information on item
classification can be brought in from
SAP

OAS Inventory - Results


Business Impact shows
the consequence of a
stockout

Shows the current reorder levels


and OAS recommendation

Workaround Options show


what could be done if
stock is not available when
needed

Status shows if it is an exception that


needs to be reviewed

Cost Model defines Holding Cost%,


Procurement Cost and Stockout Cost for the
item

OAS Inventory Reorder Levels


Comparison of performance for the current
and recommended reorder levels.
Optimization seeks the reorder levels that
would give the lowest Total Costs

OAS Inventory - Results

OAS Inventory What-If, fast moving

Comparison of the replenishment


cycle for the current and
recommended levels

OAS Inventory - Slow Moving Items

Slow Moving Items have


limited usage. The decision to
stock them in inventory is
based on the cost of holding
them until they are needed
compared to cost of not
having them (Stockout Cost)

OAS Inventory What-if, slow moving


This shows an item with a
MTBD of 3.83 years (based
on usage history). The cost
per stockout for this item is
more than the cost of holding
it for that length if time, so
keeping it in inventory (Min =
0, Max = 1) is justified

Graph shows decision to hold 0, 1


or 2 sets for slow-moving item

Benefits Delivered
An objective basis for review of inventory
Removes

the gut feel arguments


Standardizes the language
Identifies specific areas for improvement
Areas not generally considered with inventory can be assessed
Purchasing Costs
Stock Out Costs
Holding Costs
Analysis of the inventory follows a systematic process
By usage
By Material Group
Etc.
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Benefits Delivered
Areas of value delivery, continued:

Standardization

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Processes
Metrics
Master Data

Objectivity
Consistency
Financial Performance Improvement
Visibility of Inventory Management in the Organization
Improve the Skill Set of Inventory Controllers
Ability to Make Mass ERP Changes
Segmentation of Inventory for Analysis
Retention of Historical Data

Lessons Learned

Were the end users included early in the process?


How were the end users engaged during the implementation?
Do the end users see the tool as a positive?
How are the end users engaged as analysis is performed?
Are the inventory personnel given enough time to perform
analysis?

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