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Inventory Management
Inventory is one of the most expensive assets of many companies. It represents as much as 40% of total invested capital.
What is Inventory?
Inventory- An idle resource that a firm holds in stock with the intent(anticipation of future demand) of selling it or transforming it into a more valuable state (Fred Hansmann). Inventory System- A set of policies and controls that monitors levels of inventory and determines what levels should be maintained, when stock should be replenished, and how large orders should be
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Inventory?
Inventory Level
Supply Rate
Inventory Level
Demand Rate
Inventory Management
controlling the acquisition, storage, handling, movement, distribution of inventories in order to meet the competitive
priorities of the organization.
Effective inventory management is essential for realizing the full potential of any value chain.
Inventory management requires information about expected demands, amounts on hand and amounts on order for every item stocked at all locations.
The appropriate timing and size of the reorder quantities must also be determined.
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How much to order or produce each time a supplier or production order is placed? When to order items from a supplier or when to initiate production runs if the firm makes its own items?
subassemblies, and supplies are inputs to manufacturing and service-delivery processes. partially finished products in various stages of completion that are awaiting further processing. ready for distribution or sale to customers.
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of inventory that is kept over and above the average amount required to meet demand.
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Order Quantity
Economic Order Quantity
Order Timing
Reorder Point
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Material Cost
Carrying Cost
Costs
Ordering Cost
Shortage Cost
of of of of
Ordering Cost
Ordering Costs include,
Paper work costs, typing and despatching an order. 2. Follow-up costs required to ensure timely supplies includes the travel cost for purchase follow-up, telephone, telex and postal bills. 3. Costs involved in receiving the order, inspection, checking and handling in the stores. 4. Any set up cost of machines if charged by the supplier, either directly indicated in quotations or assessed through quotations for various quantities. 5. The salaries and wages to the purchase department. The ordering cost is valid if the products are purchased NOT produced internally.
1.
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Set-up cost
Carrying Costs
This cost includes: 1) interest on capital. 2) insurance and tax charges. 3) storage costs any labour, the costs of provisions of storage area and facilities like bins, racks, etc. 4) allowance for deterioration or spoilage. 5) salaries of stores staff. 6) Obsolescence.
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Out-of-Stock Costs
A backorder occurs when a customer is willing to wait for an item. A lost sale occurs when the customer is unwilling to wait and purchases the item elsewhere.
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demand for other SKUs and needs to be forecast. Dependant demand is demand directly related to the demand for other SKUs and can be calculated without needing to be forecast. Deterministic demand is when uncertainty is not included in its characteristics. Stochastic demand incorporates uncertainty by using probability distributions. Static demand is stable demand. Dynamic demand varies over time.
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location.
Nature of Items:
Perishable Items Non-Perishable Items
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The lead time is the time between placement of an order and its receipt. Number of Supply Echelons
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Company deals with stock of thousands of items it may not be necessary to have the same closeness of control on each and every item. only a few of the inventories require close attention to achieve desired results and the balance many may be trivial for the purpose. An analysis of the inventories based on selected criterion will help in selecting the vital few and trivial many in respect of control for achieving the objective.
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Different types of analyses each having its own specific advantages and purposes, help in finding a practical solution to the control of inventory with minimum efforts.
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ABC Analysis VED Analysis SDE Analysis HML Analysis FSN Analysis -
based on annual consumption. criticality for production. availability. weight / cost permit. consumption rate.
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ABC Analysis
ABC is said to connote Always Better Control. It is also known as Pareto analysis. (which is named after principles dictated by Italian economist Vilfredo Pareto).
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ABC Analysis
The idea is to focus resources on the critical few and not on the trivial many. criterion used here is the money spent and not the quantity consumed Annual CONSUMPTION VALUE of an Item = (Its Annual Demand) x (Its Cost per unit)
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ABC Analysis
Class A items are those on which the annual CONSUMPTION VALUE is high. They represent 70-80% of total inventory costs, but they account for only 10% of total inventory items.
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ABC Analysis
Class B items are those on which annual CONSUMPTION VALUE is medium. They represent 15-25% of total value, and they account for 20% of total inventory items on the average.
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ABC Analysis
Class C items are low CONSUMPTION VALUE items. They represent only the 10% of total value, but they include as many as 60-70% of total inventory items.
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+Class B
+Class C
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20 10 0 10 20 30 40 50 60 70 80 90 100
Percentage of items
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Graphical solution for AAU Corp showing the ABC classification of materials
The A items (106 and 110) account for 60.5% of the value and 13.3% of the items The B items (115,105,111,and 104) account for 25% of the value and 26.7% of the items The C items make up the last 14.5% of the value and 60% of the items How might you control each item classification? Different ordering rules for each?
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ABC Analysis
Some of the Inventory Management Policies that may be based on ABC analysis include: a) Class A items should have tighter inventory control. b) Class A items may be stored in a more secure area. c) Forecasting Class A items may warrant more care.
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VED ANALYSIS
This analysis specially pertain to the classification of maintenance spares denoting the essentiality of stocking spares according to their criticality.
It is a subjective analysis.
V E D -
Stands for vital items when out of stock or when not readily available, completely brings the production to a halt. is for Essential items without which temporary losses of production or dislocation of production work occurs. denotes Desirable items all other items which are necessary but do not cause any immediate effect on production.
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VED ANALYSIS
V A B C AV BV CV E AE BE CE D AD BD CD CATEGORY 1 CATEGORY 2 CATEGORY 3 ITEM 10 20 70 COST 70% 20% 10%
- NEEDS CLOSE MONITORING & CONTROL - MODERATE CONTROL. - NO NEED FOR CONTROL
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SDE ANALYSIS
This analysis is based on availability of an item S refers to Scarce Items, especially imported and those which are very much in short supply.
D -
are Difficult items which are procurable in market but not easily available. For example, items which have to come from far off cities or where there is not much competition in market or where good quality supplies are difficult to get or to be procured. refers to Easy items Items are those which are easily available; mostly local items.
E -
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HML ANALYSIS
The cost per item (per piece) is considered for this analysis.
High cost items (H), Medium Cost items (M) and Low Cost item (L)
FSN ANALYSIS
This analysis is to help control obsolescence and is based on the consumption pattern of the items. The items are analyzed to be classified as Fast-moving (F), Slow-moving (S) and Non-moving (N) items. The Non-moving items (usually not consumed over a period of two years) are of great importance. Scrutiny of non-moving items is to be made to determine whether they could be used or be disposed off. The fast and slow-moving classifications help in arrangement of stock in stores and their distribution and handling methods.
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Inventory Models
Inventory Models
Inventory Models
Here, we will deal with the Independent Demand Situation. In the independent demand situation, we should be interested in answering: a) When to place an order for an item, and b) how much of an item to order.
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History
Developed in 1912 by Ford Whitman Harris, a production engineer at Westinghouse, the U.S. electrical goods manufacturer.
In 1913, the journal, Factory: The Magazine of Management , published an article by Harris.
Engineer, inventor, author, and patent attorney. No formal education beyond high school. Calculus-based models that allow the firm to develop an inventory control doctrine for each material or component stocked.
Variable Interpretations
SERVICE SECTOR
Q* or EOQ is the optimal purchase amount from an outside vendor
MANUFACTURING
Q* or EOQ is the optimal production run or lot size
Variable Interpretations
SERVICE SECTOR MANUFACTURING
D is either: D is the external annual customer demand
Variable Interpretations
SERVICE SECTOR
A is the fixed administrative cost of ordering Q* regardless of the amount
MANUFACTURING
A is the setup cost for Q*
Purchase Forms Supervisor Approvals Shipping Costs Delivery Inspections Stocking Costs Accounts Payable Processing
- Equipment Resets - Worker Preps - Lost Productivity - Product Scrappage and Rework
Variable Interpretations
SERVICE SECTOR
MANUFACTURING
H or CH is the carrying or holding cost: the cost of storing one unit for one year
SALARIES AND WAGES FOR WAREHOUSE EMPLOYEES WAREHOUSE PAPER AND FORMS WAREHOUSE DEPRECIATION MATERIALS HANDLING COST OF CAPITAL OBSOLESCENCE INSURANCE SPOILAGE UTILITIES TAXES THEFT
EOQ
Inventory Level Q* Optimal Order Quantity Decrease Due to Constant Demand
Time
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EOQ
Inventory Level Q* Optimal Order Quantity Instantaneous Receipt of Optimal Order Quantity
Time
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Average Level
Cycle 3
Time
EOQ
Inventory Level Q*
Time
Lead Time
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EOQ
Inventory Level Q* Average Inventory Q/2 Reorder Point (ROP)
Time
Lead Time
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TC HC OC
Total annual ORDERING cost
Average Level
0 Time
Only ordering and carrying costs need to be minimized (all other costs are assumed constant) As Q (order quantity) increases: Carry cost increases Ordering cost decreases (since the number of orders per year decreases)
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Order Quantity
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Order Quantity
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Order Quantity
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Optimal Q
Order Quantity
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EQUAL
or
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Note: (Q/2) is the average inventory level (D/Q) are the number of orders Purchase cost does not depend on Q
Q D TC (Q) Ch * A * 2 Q
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Finding Q*
Recall that at the optimal order quantity (Q*): Carry cost = Ordering cost (D/Q*) x A = (Q*/2) x Ch
Rearranging to solve for Q*: Q* = (2 AD / Ch ) (2 AD / IC)
TC (Q* ) 2 ADIC
since Q DT Q 1 T D D 2 AD IC 2A DIC
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Q D IC * A * 2 Q
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D Q*
=T =
IC *
Q D A* 2 Q
d =
D
Working Days / Year
ROP = d L
D = Demand per year A = Setup (order) cost per order Ch = Holding (carrying) cost d = Demand per day L = Lead time in days
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Parameter