CHAPTER 6 Inventory Management

1. CHAPTER 6 Inventory Management

2. Purposes of Inventory • Enables the firm to achieve economics of scale • Balances supply and demand • Enables specialization in manufacturing • Provides protection from uncertainties in demand and order cycle • Acts as a buffer between critical interfaces within the supply chain

3. Kinds of Inventory • Cycle Stock • In-transit Inventories • Safety or Buffer Stock • Speculative Stock • Seasonal Stock • Dead Stock

4. A . O r d e r q u a n t i t y o f 4 0 0 u n i t s I n v e n t o r y O r d e r O r d e r a r r i v a l a r r i v a l 4 0 0 O r d e r O r d e r A v e r a g e p l a c e d p l a c e d c y c l e i n v e n t o r y 2 0 0 0 1 0 2 0 3 0 4 0 5 0 6 0 D a y s a 6-3 a The Effect of Reorder Quantity on Average Inventory Investment with Constant Demand and Lead Time

5. B . O r d e r q u a n t i t y o f 2 0 0 u n i t s I n v e n t o r y A v e r a g e O r d e r O r d e r c y c l e 2 0 0 a r r i v a l p l a c e d i n v e n t o r y 1 0 0 0 1 0 2 0 3 0 4 0 5 0 6 0 D a y s b 6-3 b The Effect of Reorder Quantity on Average Inventory Investment with Constant Demand and Lead Time

6. C . O r d e r q u a n t i t y o f 6 0 0 u n i t s I n v e n t o r y 6 0 0 O r d e r a r r i v a l A v e r a g e O r d e r c y c l e p l a c e d i n v e n t o r y 3 0 0 0 1 0 2 0 3 0 4 0 5 0 6 0 D a y s c 6-3 c The Effect of Reorder Quantity on Average Inventory Investment with Constant Demand and Lead Time

7. A . W i t h v a r i a b l e d e m a n d I n v e n t o r y 2 0 0 A v e r a g e c y c l e i n v e n t o r y { 1 0 0 A v e r a g e { i n v e n t o r y 8 1 0 2 0 3 0 4 0 S a f e t y ( 1 5 0 ) s t o c k D a y s ( 5 0 ) a 6-4 a Average Inventory Investment Under Conditions of Uncertainty

8. B . W i t h v a r i a b l e l e a d t i m e I n v e n t o r y 2 0 0 A v e r a g e c y c l e i n v e n t o r y { 1 0 0 A v e r a g e { i n v e n t o r y 10 1 2 2 0 3 0 4 0 S a f e t y ( 1 4 0 ) s t o c k D a y s ( 4 0 ) Average Inventory Investment Under Conditions of Uncertainty b 6-4 b

9. C . W i t h v a r i a b l e d e m a n d a n d l e a d t i m e I n v e n t o r y 2 0 0 A v e r a g e c y c l e i n v e n t o r y { 1 0 0 A v e r a g e { i n v e n t o r y 8 10 1 2 2 0 3 0 4 0 ( 2 0 0 ) S a f e t y s t o c k D a y s ( 1 0 0 ) c 6-4 c Average Inventory Investment Under Conditions of Uncertainty

10. The EOQ Model 2 P D E O Q = 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 6-5

11. The Assumptions of EOQ • Continuous, constant, known demand • Constant and know lead time • Constant purchase price that is independent of the order quantity or time • Constant transportation cost that is independent of the order quantity or time • No stockouts • No inventory in transit • No limit on capital

12. Total cost Annual cost (dollars) L o w e s t t o t a l c o s t ( E O Q ) Inventory carrying cost Ordering cost Size of order 6-6 Cost Trade-offs to Determine the Most Economic Order Quantity

13. Inventory Carrying Number Ordering Total Cost of Orders Cost Order Cost 1/2 Q X C X V (D/Q) PX (D/Q) Quantity 40 120 $ 4,800 $ 500 $ 5,300 60 80 3,200 750 3,950 80 60 2,400 1,000 3,400 100 48 1,920 1,250 3,170 120 40 1,600 1,500 3,100 140 35 1,400 1,750 3,150 160 30 1,200 2,000 3,200 200 24 960 2,500 4,460 300 18 720 3,750 4,470 400 12 480 5,000 5,480 6-7 Cost Trade-offs Required to Determine the Most Economic Order Quantity

14. Adusting EOQ for Volume Discounts Because of • Transportation Discounts • Quantity Discounts • Incremental Replenishment The EOQ must be adjusted

15. Inventory Management Under Uncertainty • Uncertainties with demand and lead time cause most managers to concentrate on when to order rather than the quantity to order. • The order quantity is important to the extent that it influences the number of orders, and consequently the number of times that the company is exposed to a potential stockout at the end of each order cycle. • There are two methods used for inventory control under conditions of uncertainty: a. The fixed order point or fixed order quantity model b. The fixed order interval model

16. Inventory Management Under Uncertainty • Fixed order point or order quantity model: an order is placed when inventory on hand and on order reached a predetermined minimum level required to satisfy demand during the order cycle. The EOQ will be ordered whenever demand drops the inventory level to the reorder point. • Fixed order interval model: current inventory is compared with forecast demand, and an order is placed for the necessary quantity at a regular, specified time. • In either case, we must calculate safety stock requirements.

17. Symptoms of Poor Inventory 6-8 • Increasing numbers of back orders • Increasing dollar investment in inventory with back orders remaining constant. • High customer turnover rate. • Increasing number of orders being canceled. • Periodic lack of sufficient storage space. • Wide variance in inventory turnover among distribution centers and major inventory items.

18. Improving Inventory Management - Methods • ABC Analysis • Forecasting • Enterprise Resource Planning Software • Improved Order Processing Systems