Inventory Control Systems Economic Order Quantity Models Quantity Discounts Reorder Point Order Quantity for a Periodic Inventory System 1 3-2 Stock of items kept to meet future demand Purpose of inventory management how many units to order when to order 1 3-3 Bullwhip effect demand information is distorted as it moves away from the end-use customer higher safety stock inventories to are stored to compensate Seasonal or cyclical demand Inventory provides independence from vendors Take advantage of price discounts Inventory provides independence between stages and avoids work stoppages 1 3-4 Customers usually perceive quality service as availability of goods they want when they want them Inventory must be sufficient to provide high- quality customer service in QM 1 3-5 Raw materials Purchased parts and supplies Work-in-process (partially completed) products (WIP) Items being transported Tools and equipment 1 3-6 Dependent Demand for items used to produce final products Tires for autos are a dependent demand item Independent Demand for items used by external customers Cars, appliances, computers, and houses are examples of independent demand inventory
1 3-7 Carrying cost cost of holding an item in inventory Ordering cost cost of replenishing inventory Shortage cost temporary or permanent loss of sales when demand cannot be met
1 3-8 Continuous system (fixed-order-quantity) constant amount ordered when inventory declines to predetermined level Periodic system (fixed-time-period) order placed for variable amount after fixed passage of time
1 3-9 Class A 5 15 % of units 70 80 % of value Class B 30 % of units 15 % of value Class C 50 60 % of units 5 10 % of value 1 3- 10 1 3- 11 1 $ 60 90 2 350 40 3 30 130 4 80 60 5 30 100 6 20 180 7 10 170 8 320 50 9 510 60 10 20 120 PART UNIT COST ANNUAL USAGE 1 3- 12 Example 10.1 9 $30,600 35.9 6.0 6.0 8 16,000 18.7 5.0 11.0 2 14,000 16.4 4.0 15.0 1 5,400 6.3 9.0 24.0 4 4,800 5.6 6.0 30.0 3 3,900 4.6 10.0 40.0 6 3,600 4.2 18.0 58.0 5 3,000 3.5 13.0 71.0 10 2,400 2.8 12.0 83.0 7 1,700 2.0 17.0 100.0 TOTAL % OF TOTAL % OF TOTAL PART VALUE VALUE QUANTITY % CUMMULATIVE A B C $85,400 1 3- 13 Example 10.1 % OF TOTAL % OF TOTAL CLASS ITEMS VALUE QUANTITY A 9, 8, 2 71.0 15.0 B 1, 4, 3 16.5 25.0 C 6, 5, 10, 7 12.5 60.0 EOQ optimal order quantity that will minimize total inventory costs Basic EOQ model Production quantity model
1 3- 14 Demand is known with certainty and is constant over time No shortages are allowed Lead time for the receipt of orders is constant Order quantity is received all at once
1 3- 15 1 3- 16 Demand rate Time Lead time Lead time Order placed Order placed Order receipt Order receipt I n v e n t o r y
L e v e l
Reorder point, R Order quantity, Q 0 Average inventory Q 2 1 3- 17 C o - cost of placing order D - annual demand
C c - annual per-unit carrying cost Q - order quantity Annual ordering cost = C o D Q Annual carrying cost = C c Q 2 Total cost = + C o D Q C c Q 2 1 3- 18 TC = + C o D Q C c Q 2 = + C o D Q 2
C c
2 TC Q 0 = + C 0 D Q 2
C c
2 Q opt = 2C o D C c Deriving Q opt Proving equality of costs at optimal point = C o D Q C c Q 2 Q 2 = 2C o D C c Q opt = 2C o D C c 1 3- 19 Order Quantity, Q Annual cost ($) Total Cost Carrying Cost = C c Q 2 Slope = 0 Minimum total cost Optimal order Q opt Ordering Cost = C o D Q 1 3- 20 C c = $0.75 per gallon C o = $150 D = 10,000 gallons Q opt = 2C o D C c Q opt = 2(150)(10,000) (0.75) Q opt = 2,000 gallons TC min = + C o D Q C c Q 2 TC min = + (150)(10,000) 2,000 (0.75)(2,000) 2 TC min = $750 + $750 = $1,500 Orders per year = D/Q opt
= 10,000/2,000 = 5 orders/year Order cycle time = 311 days/(D/Q opt ) = 311/5 = 62.2 store days Order is received gradually, as inventory is simultaneously being depleted AKA non-instantaneous receipt model assumption that Q is received all at once is relaxed p - daily rate at which an order is received over time, a.k.a. production rate d - daily rate at which inventory is demanded 1 3- 21 1 3- 22 Q(1-d/p) Inventory level (1-d/p) Q 2 Time 0 Order receipt period Begin order receipt End order receipt Maximum inventory level Average inventory level 1 3- 23 p = production rate d = demand rate Maximum inventory level = Q - d
= Q 1 - Q p d p Average inventory level = 1 - Q 2 d p TC = + 1 - d p C o D Q C c Q 2 Q opt = 2C o D
C c 1 -
d p 1 3- 24 C c = $0.75 per gallon C o = $150 D = 10,000 gallons d = 10,000/311 = 32.2 gallons per day p = 150 gallons per day Q opt = = = 2,256.8 gallons 2C o D
C c 1 -
d p 2(150)(10,000)
0.75 1 - 32.2 150 TC = + 1 - = $1,329 d p C o D Q C c Q 2 Production run = = = 15.05 days per order Q p 2,256.8 150 1 3- 25 Number of production runs = = = 4.43 runs/year D Q 10,000 2,256.8 Maximum inventory level = Q 1 - = 2,256.8 1 -
= 1,772 gallons d p 32.2 150 1 3- 26 The optimal order size, Q, in cell D8 1 3- 27 The formula for Q in cell D10 =(D4*D5/D10)+(D3*D10/2)*(1-(D7/D8)) =D10*(1-(D7/D8)) 1 3- 28 1 3- 29 Price per unit decreases as order quantity increases TC = + + PD C o D Q C c Q 2 where P = per unit price of the item D = annual demand 1 3- 30 Q opt Carrying cost Ordering cost I n v e n t o r y
1 - 49 $1,400 50 - 89 1,100 90+ 900 C o = $2,500 C c = $190 per TV D = 200 TVs per year Q opt = = = 72.5 TVs 2C o D C c 2(2500)(200) 190 TC = + + PD = $233,784 C o D Q opt
C c Q opt
2 For Q = 72.5 TC = + + PD = $194,105 C o D Q C c Q 2 For Q = 90 1 3- 32 =(D4*D5/E10)+(D3*E10/2)+C10*D5 =IF(D10>B10,D10,B10) 1 3- 33 Inventory level at which a new order is placed R = dL where
d = demand rate per period L = lead time 1 3- 34 Demand = 10,000 gallons/year Store open 311 days/year Daily demand = 10,000 / 311 = 32.154 gallons/day Lead time = L = 10 days
R = dL = (32.154)(10) = 321.54 gallons Safety stock buffer added to on hand inventory during lead time Stockout an inventory shortage Service level probability that the inventory available during lead time will meet demand P(Demand during lead time <= Reorder Point)
1 3- 35 1 3- 36 Reorder point, R Q LT Time LT I n v e n t o r y
l e v e l
0 1 3- 37 Reorder point, R Q LT Time LT I n v e n t o r y
l e v e l
0 Safety Stock 1 3- 38 R = dL + z d L where
d = average daily demand L = lead time
d = the standard deviation of daily demand z = number of standard deviations corresponding to the service level probability z d L = safety stock
1 3- 39 Probability of meeting demand during lead time = service level Probability of a stockout R Safety stock dL Demand z d L 1 3- 40 The paint store wants a reorder point with a 95% service level and a 5% stockout probability d = 30 gallons per day L = 10 days
d = 5 gallons per day For a 95% service level, z = 1.65 R = dL + z d L = 30(10) + (1.65)(5)( 10) = 326.1 gallons
Safety stock = z d L = (1.65)(5)( 10) = 26.1 gallons 1 3- 41 The reorder point formula in cell E7 1 3- 42 Q = d(t b + L) + z d t b + L - I where
d = average demand rate t b = the fixed time between orders L = lead time
d = standard deviation of demand z d t b + L = safety stock I = inventory level 1 3- 43 1 3- 44 d = 6 packages per day
d = 1.2 packages t b = 60 days L = 5 days I = 8 packages z = 1.65 (for a 95% service level)
Q = d(t b + L) + z d t b + L - I = (6)(60 + 5) + (1.65)(1.2) 60 + 5 - 8 = 397.96 packages 1 3- 45 Formula for order size, Q, in cell D10