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12-1 Copyright © 2004 by Nelson, a division of Thomson Canada Limited. Inventory Management 12 PowerPresentation® prepared by David J. McConomy, Queen’s.

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Presentation on theme: "12-1 Copyright © 2004 by Nelson, a division of Thomson Canada Limited. Inventory Management 12 PowerPresentation® prepared by David J. McConomy, Queen’s."— Presentation transcript:

1 12-1 Copyright © 2004 by Nelson, a division of Thomson Canada Limited. Inventory Management 12 PowerPresentation® prepared by David J. McConomy, Queen’s University

2 12-2 Copyright © 2004 by Nelson, a division of Thomson Canada Limited. Learning Objectives l Describe the traditional inventory management model. l Describe JIT inventory management.

3 12-3 Copyright © 2004 by Nelson, a division of Thomson Canada Limited. Learning Objectives l Describe the theory of constraints and explain how it can be used to manage inventory.

4 12-4 Copyright © 2004 by Nelson, a division of Thomson Canada Limited. l Ordering Costs l Setup Costs l Carrying Costs l Stockout Costs Inventory Costs Basics of Traditional Inventory Management

5 12-5 Copyright © 2004 by Nelson, a division of Thomson Canada Limited. Inventory Costs 1.Ordering Costs: The costs of placing and receiving an order Examples:clerical costs, documents, insurance for shipment, and unloading. 2.Setup Costs: The costs of preparing equipment and facilities so they can be used to produce a particular product or component Examples: setup labour, lost income (from idled facilities), and test runs. When a firm produces the goods internally, ordering costs are replaced by setup costs.

6 12-6 Copyright © 2004 by Nelson, a division of Thomson Canada Limited. Inventory Costs (continued) 3.Carrying Costs: The costs of keeping inventory Examples:insurance, obsolescence, opportunity cost of funds tied up in inventory, handling costs and storage space. 4.Stockout Costs: The costs of not having sufficient inventory Examples:lost sales (both current and future), costs of expediting (increased transportation charges, overtime, etc.) and the costs of interrupted production.

7 12-7 Copyright © 2004 by Nelson, a division of Thomson Canada Limited. Why Inventory Is Needed: Traditional View 1.Dealing with uncertainty of demand 2.Dealing with uncertainty of supply 3.Dealing with unreliable production processes

8 12-8 Copyright © 2004 by Nelson, a division of Thomson Canada Limited. Why Inventory Is Needed: Traditional View (continued) 4.To buffer against production interruptions 5.To take advantage of discounts l To hedge against future price increases

9 12-9 Copyright © 2004 by Nelson, a division of Thomson Canada Limited. The Appropriate Inventory Policy Two Basic Questions Must be Addressed l l How much should be ordered or produced? l l When should the order be placed or the setup be performed?

10 12-10 Copyright © 2004 by Nelson, a division of Thomson Canada Limited. Total Costs = Ordering costs + Carrying costs TC = PD/Q + CQ/2 where TC =The total ordering (or setup) and carrying costs P =The cost of placing and receiving an order (or the cost of setting up a production run) D =The known annual demand Q =The number of units ordered in each order (or the lot size for production) C =The cost of carrying one unit of stock for one year Economic order quantity (EOQ) =  2PD/C An Inventory Model

11 12-11 Copyright © 2004 by Nelson, a division of Thomson Canada Limited. An EOQ Illustration EOQ =  2PD/C D = 10,000 units Q = 1,000 units P = $25 per order C = $2 per unit EOQ =  (2 x 25 x 10,000) / 2 EOQ =  250,000 EOQ = 500 units

12 12-12 Copyright © 2004 by Nelson, a division of Thomson Canada Limited. Reorder Point When Demand is Certain Reorder point = Rate of usage x Lead time Example: Assume that the average rate of usage is 50 units per day for a component. Assume also that the time required to place and receive an order is 4 days. What is the reorder point? Reorder point = 4 x 50 = 200 units Thus, an order should be placed when inventory drops to 200 units.

13 12-13 Copyright © 2004 by Nelson, a division of Thomson Canada Limited. Reorder Point When Demand is Uncertain Reorder point = (Ave. rate of usage x Lead time) + Safety stock where: Safety stock = (Maximum usage - Average usage) x Lead time

14 12-14 Copyright © 2004 by Nelson, a division of Thomson Canada Limited. Reorder Point (continued) Example: Suppose that the maximum usage is 60 units per day and the average usage is 50 units per day. The lead time is 4 days. What is the reorder point? Safety stock=( ) x 4 = 40 units Reorder point=(50 x 4) + 40 = 240 units

15 12-15 Copyright © 2004 by Nelson, a division of Thomson Canada Limited. Reorder Point (no safety stock) Reorder point = Rate of usage x Lead time Time ROP

16 12-16 Copyright © 2004 by Nelson, a division of Thomson Canada Limited. Traditional versus JIT Inventory Procedures Inventory Control Systems 1.Balance setup and carrying costs 2.Satisfy customer demand 3. Avoid manufacturing shutdowns 4. Take advantage of discounts 5. Hedge against future price increases 1. Drive setup and carrying costs to zero 2. Use due-date performance *3. Total preventive maintenance *4. Total quality control *5. The Kanban system Traditional SystemsJIT Systems *Rather than holding inventories as a hedge against plant-shutdowns, JIT attacks the plant-shutdown problem by addressing these issues.

17 12-17 Copyright © 2004 by Nelson, a division of Thomson Canada Limited. JIT And Inventory Management Setup and Carrying Costs: The JIT Approach l JIT reduces the costs of acquiring inventory to insignificant levels by: –Drastically reducing setup time 2.Using long-term contracts for outside purchases l Carrying costs are reduced to insignificant levels by reducing inventories to insignificant levels

18 12-18 Copyright © 2004 by Nelson, a division of Thomson Canada Limited. JIT And Inventory Management Due-Date Performance: The JIT Solution l Lead times are reduced so that the company can meet requested delivery dates and to respond quickly to customer demand. l Lead times are reduced by: –reducing setup times –improving quality –using cellular manufacturing

19 12-19 Copyright © 2004 by Nelson, a division of Thomson Canada Limited. JIT And Inventory Management Avoidance of Shutdown: The JIT Approach l Total preventive maintenance to reduce machine failures l Total quality control to reduce defective parts l Cultivation of supplier relationships to ensure availability of quality raw materials and subassemblies l The use of the Kanban system is also essential

20 12-20 Copyright © 2004 by Nelson, a division of Thomson Canada Limited. JIT And Inventory Management JIT Purchasing Versus Holding Inventories l Careful vendor selection l Long-term contracts with vendors –Prices are stipulated (usually producing a significant savings) –Quality is stipulated –The number of orders placed are reduced

21 12-21 Copyright © 2004 by Nelson, a division of Thomson Canada Limited. What is the Kanban System? A Card System is used to monitor work-in-process l A withdrawal Kanban l A production Kanban l A vendor Kanban

22 12-22 Copyright © 2004 by Nelson, a division of Thomson Canada Limited. The Withdrawal Kanban Item No. TVD-114 Preceding Process Item Name LCD Screen Computer Assembly Computer Type Compaq 4/25 Box Capacity 12 Subsequent Process Box Type AD-1942 Final Assembly

23 12-23 Copyright © 2004 by Nelson, a division of Thomson Canada Limited. The Production Kanban Item No. TVD-114 Process Item Name LCD Screen Computer Assembly Computer Type Contra 4/25 Box Capacity 12 Box Type ___C

24 12-24 Copyright © 2004 by Nelson, a division of Thomson Canada Limited. The Vendor Kanban Item No. TVD-114 Item Name Computer Chassis Type Black Plastic Box Capacity 12 Location North Receiving Gate Box Type Cardboard--Type A Time to Deliver 8:30 AM., 12:30 P.M., 2:30 P.M. Name of Vendor Hovey Supply Company

25 12-25 Copyright © 2004 by Nelson, a division of Thomson Canada Limited. The Kanban Process Withdrawal Store CB Store Lot with P-Kanban Production Ordering Post (6) Signal CB Assembly Remove (4) P-Kanban Attach to Post (5) Attach W-Kanban (1) Remove W-Kanban Attach to Post Withdrawal Post (2), (3) (7) Final Assembly (1)

26 12-26 Copyright © 2004 by Nelson, a division of Thomson Canada Limited. l Throughput l Inventory l Operating expenses Three Measures of Organizational Performance Theory of Constraints

27 12-27 Copyright © 2004 by Nelson, a division of Thomson Canada Limited. The Theory of Constraints : Five Steps to Improve Performance 1. Identify the organization’s constraint(s). 2. Exploit the binding constraint(s). 3. Subordinate everything else to the decisions made in Step Elevate the binding constraint(s). 5. Repeat the process.

28 12-28 Copyright © 2004 by Nelson, a division of Thomson Canada Limited. The Drum-Buffer-Rope System The Drum-Buffer-Rope System Initial Process Process A Process B Drummer Process Raw Materials Process C Final Process Rope Time Buffer Finished Goods


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