Prepared by Hazem Abdel-Al 1 Inventory Planning, Control & Valuation

Prepared by Hazem Abdel-Al 2 What is an Inventory ? Inventory  the stock of any item or resource used in an organization: raw materials, finished products, component parts, supplies and work-in-process. An inventory system  policies and controls for monitoring levels of inventory  Information system that records transactions and enables analysis of stock requirements and levels/quantities, costs etc

Prepared by Hazem Abdel-Al 3 Why hold inventory / stock?  Provide flexibility  minimum delay in supplying customers  a good range  Protect against uncertainties  Enable economic purchasing  Anticipate changes in demand or supply  Buffers to feed processes and enable efficient scheduling  Strategic stock holdings

Prepared by Hazem Abdel-Al 4 Inventory Types  Raw-materials.  Work-in-progress or in-transit  Finished-goods  In the warehouse, awaiting shipment, in delivery vehicles, in tanks, on shelves, in the stores  Strategic inventory  Scrap & re-work

Prepared by Hazem Abdel-Al 5 The Nature of Inventory Planning  Inventory do not give revenues without operations.  Organizations resources are limited there for investments in inventory should be optimized ( Economic ).  Why to manage inventory ? To ensure a continues operation activities (non-stop).

Prepared by Hazem Abdel-Al 6 Costs of Inventory  Ordering costs  Offering prices, purchase order & office, shipping and/or set up  Holding / Carrying Costs  tied up capital (item value), staff & equipment, obsolescence, perish ability, shrinkage, insurance & security, (rent/lease), audit, taxes.  Cost of being out of stock, cancelling an order  Scrap and re-working  Shortage Costs.

Prepared by Hazem Abdel-Al 7 Inventory Costs  Item cost  Carrying costs  Capital costs  Storage costs  Risk costs  Obsolescence  Damage  Pilferage  Deterioration

Prepared by Hazem Abdel-Al 8 Inventory Costs (cont)  Ordering costs  Production control costs  Setup and teardown costs  Lost capacity costs  Purchase order costs  Stockout costs  Capacity-associated costs

Prepared by Hazem Abdel-Al 9 Material-Flows Process From Suppliers To Customer Production Processes Inventory in transit Stores warehouse Finished goods WIP Work in process

Prepared by Hazem Abdel-Al 10 Stock : Input (Flow in), Storage (Holding) and Flow out (Usage) Supply Rate Inventory Level Rate of Demand (Usage) Stock Level

Prepared by Hazem Abdel-Al 11 Economic Order Quantity (EOQ)  In trying to minimize inventory costs a company must find the order quantity which spreads the ordering or set-up costs over as many units as possible without incurring excess holding costs.  The EOQ model attempts to determine the amount of units to purchase which will minimize the total costs associated with ordering and holding inventory

Prepared by Hazem Abdel-Al 12 Economic Order Quantity (EOQ)  How to calculate EOQ ? Tabular Approach /Trial and Error. (waste time) Graphic Approach /By using charts. Formula Approach /Mathematically.

Prepared by Hazem Abdel-Al 13 EOQ Aim = Cost Minimization Cost Ordering Costs Holding Costs Q eoq Order Quantity (Q) Total Cost Holding + Ordering costs = total cost curve. Find Q eoq inventory order point to minimize total costs.

Prepared by Hazem Abdel-Al 14 Economic Order Quantity (EOQ)  EOQ Assumptions Demand is known and constant. Lead time is known and constant. Order and holding costs are averaged across all transactions. Single product line No quantity discounts - stable unit cost No stock-outs allowed Items ordered/produced in a lot or batch Batch received all at once Holding cost is linear based on average stock level Fixed order + set up cost

Prepared by Hazem Abdel-Al 15 Calculate EOQ Q eoq = 2DS H = 2(Annual/Period Demand) (Order cost) Holding Cost Exercise EOQ and reorder point? Annual demand = 12,000 units Days/year in average daily demand = 365 Cost to place an order = £500 Holding cost /unit p.a. = £12 ( 20% Cost per unit) Lead time = 7 days Cost per unit = £60 (total unit cost * %storage) =

Prepared by Hazem Abdel-Al 16 EOQ Solution Q = 2DS H = 2(12,000 )(500) 0.2 * 60 = 1000 units eoq Number of orders = Annual Demand / EOQ = / 1000 = 12 orders per year. Orders Cost = 12 * 500 = 6000 £ Total Holding Cost = 0.2*60* = £ There for Total Inventory Cost = = £

Prepared by Hazem Abdel-Al 17 EOQ Table – minimum TVc Avg.stock x item £ x hc % Oc + Hc

Prepared by Hazem Abdel-Al 18 Cost Estimation & Model Sensitivity  In practical way it’s difficult to estimate the variables in the EOQ model such as the holding cost.  Example: Daily demand Demand during period (240 days) EOQ Total cost of inventory 40 Min9600 units894.4 units10,733 £ 60 Max1440 units units10,800 £ Not that much in sensitivity

Prepared by Hazem Abdel-Al 19 Extensions of the EOQ model 1. EOQ with Order Size Restrictions. 2. EOQ with Storage limitations. 3. EOQ with quantity discount.

Prepared by Hazem Abdel-Al 20 Extensions of the EOQ model 1. EOQ with Order Size Restrictions. Example: AICO ltd Demand Expected next year : 5000 units. Supplier packages only contains 400 unit for each. EOQ = 1000 unit when ordering cost 10$ & holding cost per unit 0.1$ We have two options : 800 unit or 1200 unit. OptionOrdering CostHolding CostTotal Cost 800 unit62.5 $40 $ $ 1200 unit41.7 $60 $ $

Prepared by Hazem Abdel-Al 21 Extensions of the EOQ model 2. EOQ with Storage limitations. Example: AICO ltd Demand Expected next year : 5000 units. Supplier packages only contains 400 unit for each. EOQ = 1000 unit when ordering cost 10$ & holding cost per unit 0.1$

Prepared by Hazem Abdel-Al 22 Extensions of the EOQ model 3. EOQ with quantity discount.

Prepared by Hazem Abdel-Al 23 The Reorder Point (ROP) Reorder point ROP = D * L D = Avg daily demand (constant) L = Lead time (constant) when to place an order in units? Annual Demand = 10,000 units Days per year considered in average daily demand = 365 Cost to place an order = £10 Holding cost per unit per year = 10% of cost per unit Lead time = 10 days Cost per unit = £15

Prepared by Hazem Abdel-Al 24 EOQ and ROP example (366 units)= (10,000)(10) = H 2DS = Q eoq D = 10,000 units/year 365 days = units/day If lead time = 10 days, Reorder point = * 10 days = = 274 units Place order for 366 units. When 274 left, place next order for 366.

Prepared by Hazem Abdel-Al 25 Order Quantities & Reorder Points R = Reorder point L = Lead time L L q R Time No. of units on hand safety or buffer level Average stock q/2 q

Prepared by Hazem Abdel-Al 26 Order Quantities & Reorder Points

Prepared by Hazem Abdel-Al 27 Safety Stock and Re-order Levels  Reserve - buffer - cushion against uncertain demand (usage) & lead time.  A basis for a "2-bin" system  Application to JIT? EOQ assumes certain demand & lead time. If uncertain, then: ROL = Average usage in lead time + safety stock (Avg. lead time x Avg. daily usage)

Prepared by Hazem Abdel-Al 28 How Much Safety Stock? Cost vs. safety level Depends on:  Uncertainty: demand & lead time  cost of  being out of stock  carrying inventory  increasingly better service Service level policy  % confidence of not hitting a stock-out situation

Prepared by Hazem Abdel-Al 29 Order Point with Safety Stock Units Days Safety Stock Actual lead time is 3 days! (at day 21) Order Point Dip into safety stock

Prepared by Hazem Abdel-Al 30 End of Part One