INVENTORY MANAGEMENT MODELS

T.Kalirathinam 11-501-009

outline

Inventory? Types of inventory Purposes of inventory Inventory costs Inventory systems Single-period inventory model Multi period Inventory systems ABC classification

Inventory

Inventory: stock of any item or resources used in an organisation. idle stock of physical goods that contain economic value Any organization which is into production, trading, sale and service of a product will necessarily hold stock of various physical resources to aid in future consumption and sale.

Types of inventory
In manufacturing inventory is classified into -raw materials Eg : Fuel, Stationary, Bolts & Nuts etc -work in progress Eg : Semi Finished Production in various stages, lying with various departments like Production, -finished products Eg : Finished Goods at Distribution Centers through out Supply Chain

The basic purpose of inventory analysis is 1)when items should be ordered 2)how large the order should be.

Purposes of Inventory
-To maintain independence of operations A supply of material at a work centre allows that centre flexibility in operations

-To meet variation in product demand

The demand is not completely known the inventory must be maintained to absorb variation

-To allow flexibility in production scheduling A stock of inventory relieves the pressure on the production system to get the goods out.

-To provide a safeguard for variation in raw material delivery time

The delay in supply of raw material from the vendors

Inventory costs are basically categorized into three headings: Holding (or carrying) costs
-the Costs for storage facilities, handling, insurance, etc

Ordering costs
-these Costs to the managerial and clerical costs to prepare the purchase order.

Shortage costs
-the costs resulting from stockout, etc

Independent and dependent demand

In the dependent demand for various items are unrelated to each other. In dependent demand the need for any one item is a direct result of the need for some other item.

Independent vs. Dependent Demand

Independent Demand (Demand for the final endproduct or demand not related to other items)

Finished product
Dependent Demand (Derived demand items for component parts, subassemblies, raw materials, etc)

E(1 )

Component parts

Example: automobile company the demand for car is 500/day -number of wheels and tires needed is dependent on the production level -the demand for the cars is independent it comes from many sources, it is unrelated to the demand for other products

Inventory systems

Inventory system: An inventory system is the set of policies and controls that monitors the levels of inventory and determine what levels should be maintained, when stock should be replenished, and how large orders should be. It provides the organisational structure and the operating policies for maintaining and controlling goods to be stocked.

Based on whether the decision is one-time purchasing or purchased periodically The inventory system is classified into 1.Single period Inventory system 2.Multiple period system

Single-period inventory model

Single-Period Inventory Model

One

time purchasing decision (Example: vendor selling t-shirts at a football game) Seeks to balance the costs of inventory overstock and under stock

Single period inventory model

Cu P Co Cu
Where : Co Cost per unit of demand over estimated Cu Cost per unit of demand under estimated P Probabilit y that theunit will be sold

Single period inventory model example

Our college basketball team is playing in a tournament game this weekend. Based on our past experience we sell on average 2,400 shirts with a standard deviation of 350. We make $10 on every shirt we sell at the game, but lose $5 on every shirt not sold. How many shirts should we make for the game? Cu = $10 and Co = $5; P $10 / ($10 + $5) = .667 Z.667 = .432 (use NORMSDIST(.667) or Appendix E) therefore we need 2,400 + .432(350) = 2,551 shirts

Multi period Inventory systems

It is designed ensure that an item will be available on an ongoing basis throughout the year. The item will be ordered multiple times throughout the year.

There are two types of multiperiod inventory systems:

Fixed-Order

Quantity Models (Q model)

Event

triggered (Example: running out of

Period Models (P model)

stock)
Fixed-Time

Time

triggered (Example: Monthly sales call by sales representative)

Fixed-order quantity models

It initiates an order when the event of reaching a specified reorder levels occurs. This event may take place at any time, depending on the demand for the items considered. The inventory remaining must be monitored continuously

Fixed order quantity models attempt to determine the specific point, R ,at which an order will be placed and the size of that order,Q. The order point, R, is always a specific number of units

Basic Fixed order Quantity Model

1. You receive an order quantity Q. 4. The cycle then repeats.
Number of units on hand

Q R

2. Your start using them up over time.

L
Time

R = Reorder point Q = Economic order quantity L = Lead time(time from ordering to receipt)

L 3. When you reach down to a level of inventory of R, you place your next Q sized order.

The optimal order quantity are based on the following characteristics of the model. -demand for the product is constant -lead time is constant -ordering costs are constant -Price per unit of product is constant

The optimum order quantity is Qopt = 2DS H D=annual demand S=ordering cost H=Holding cost

In this model assumes constant demand and lead time,the reorder point is
R = dL

L=lead time in days

d=average daily demand

Example for Q model

Annual demand(D)=10000 Average daily demand(d) =1000/365 Ordering cost(S)=Rs 5/day Holding cost(H)=Rs 1.25 Lead time(L)=5 days Cost per unit(c)=Rs 12.50

The optimum order quantity is

Q OPT = 2DS 2(1,000 )(10) = = 89.443 unit s H 2.50

The reorder point is R = dL =(1000/365)*5=13.7 units When the inventory position drops to 14,place an order for 89 more.

Fixed order quantity model for the above example

Number of units on hand

Q R

L
Time
R = Reorder point =14 Q = Economic order quantity=89 L = Lead time(time from ordering to receipt)

Safety stock levels

It can be defined as the amount of inventory carried in addition to the expected demand. The demand is not a constant varies from day to day The safety stock must therefore be maintained to provide some level of protection against stockouts.

Fixed order quantity model with safety stock

The uncertainty element is taken into account in the safety stock -The reorder point is Z = number of standard deviations for a specified service portability L = standard deviation of usage during lead time Z L =safety stock level

R = dL + Z L

-Fixed order quantity models(Q model) Idle state Waiting for demand
Demand occurs Units withdrawn from inventory or back ordered

Compute inventory position

no

If position<= Reorder point yes Issue an order for exactly Q units

Fixed-time period model

It is limited to placing orders at the end of a predetermined time period. In this method the counting takes place only at the review period. The fixed time period model has a larger average inventory because it must also protect against stockout during the review period

Fixed-time period model cont.,

Depending on the usage rates the fixed-time period models generate order quantities that vary from period to period Due to large demand will draw the stock down to zero right after an order is placed. Safety stock, therefore must protect against stock outs

Fixed-Time Period Model with Safety Stock Formula

q = Average demand + Safety stock Inventory currently on hand

q = d(T + L) + Z T + L - I Where : q = quantitiy to be ordered T = the number of days betw een review s L = lead time in days d = forecast average daily demand z = the number of standard deviations for a specified service probabilit y T + L = standard deviation of demand over the review and lead time I = currentinventory level (includes items on order)

-Fixed order quantity models(Q model)

Idle state Waiting for demand Demand occurs Units withdrawn from inventory or back ordered

no

Has review time arrived? yes Compute inventory position Compute order quantity to bring inventory up to required level Issue an order from the number of units needed

Difference between the Q Model and P model

Feature Q Model(fixed order quantity model) Q-constant P Model(fixed time period model) Q-variable Order quantity

Record Keeping

Each time a withdrawal or addition are made Higher-Priced, critical, or important items Higher due to perpetual recordkeeping When inventory position drops to the order level

Counted only at a review period -

Type of item

Time to maintain

When to place order

When the review period arrives

Miscellaneous Systems: Optional Replenishment System

This system reviewing the inventory level at a fixed frequency(such as weekly) and ordering a replenishment supply if the level has dropped below some amount.

Optional Replenishment System

Maximum Inventory Level, M

q=M-I Actual Inventory Level, I

M
I

Q = minimum acceptable order quantity

If q > Q, order q, otherwise do not order any.

Two-Bin system

In a two bin system, items are used from one bin, and the second bin provides an amount large enough to ensure that the stock can be replenished. The second bin would contain an amount equal to the reorder point(R). The second bin supply is brought to the first bin, an order is placed to replenish the second bin.

One-bin system

At fixed periods(such as weekly),the inventory is brought up to its predetermined maximum level.

Miscellaneous Systems: Bin Systems

Two-Bin System
Order One Bin of Inventory

Full

Empty

One-Bin System
Order Enough to Refill Bin

Periodic Check

All inventory systems are plagued by two major problems: -maintaining adequate control over each inventory item -ensuring the accurate records of stock on hand are kept

ABC inventory planning

It is a method for analyzing inventory based on value Inventory control situations involves so many items that is not practical to model and give through to each item

ABC classification

The inventory items divide into three groupings -High dollar volume(A) - Moderate dollar volume(B) -Low dollar volume(C) Dollar volume is a measure of importance

The purpose of classifying items into groups is to establish the appropriate degree of control over each item Example - Class A items may be more clearly controlled with a weekly ordering -Class B items may be ordered by weekly -Class C items may be ordered monthly

Example :Computer Manufacturing Plant;

the various items of inventory can be broadly classified as under
SKU Description Classification of Inventory A Class Remarks Processor Chips Kept under High Value Storage/Asset Tracking / Access Control required Kept under High Value Storage/Asset Tracking / Access Control required Normal Procedures Normal Procedures

Hard Disk / Storage Media A Class

Battery Pack Keyboard

B Class B Class

Mouse
Stickers Screws & Nuts Power Cord

B Class
C Class C Class C Class

Normal Procedures
Minimal Procedures Minimal Procedures Minimal Procedures

Inventory Accuracy and Cycle Counting

Inventory accuracy refers to how well the inventory records agree with physical count Cycle Counting is a physical inventory-taking technique in which inventory is counted on a frequent basis rather than once or twice a year

References
Operations &supply management -Richard B.Chase, Ravi shankar, F.Robert jacobs,Nicholas J.Aquilano http://cde.annauniv.edu/CourseMat/mba/sem2/ dba1651/im.html http://www.managementstudyguide.com/invent ory-management.htm

Thank you