Chapter 6 Quantity & Delivery By: Paul Batchelor, Paige Frank, Matthew Johnson, Priscilla Mak, Missy McCormick

Why Do We Care? Purchases ABC Forecasting Inventory Carrying Costs JIT Demand Models Service Levels MRP Game Case 6-3 Continuous improvement and organizational goals drive management attitudes to quality, quantity and delivery Ch 5 – Quality Ch 6 – Quantity and Delivery Pris

Classification of Purchases ABC Forecasting Inventory Carrying Costs JIT Demand Models Service Levels MRP Game Case 6-3 Direct/Indirect Purchases Types of Requirements i.e. raw materials, resale items, packaging, etc. Frequency of Purchase Stock Items i.e. whether or not purchases are for stock replenishment Physical/Chemical Nature Transport Type Monetary Value – ABC Classification Pris

ABC Classification Concentrates efforts in the areas of highest payoff Purchases ABC Forecasting Inventory Carrying Costs JIT Demand Models Service Levels MRP Game Case 6-3 Concentrates efforts in the areas of highest payoff Reduces paperwork and managerial effort, but maintains a high service coverage Steps: Calculate purchase value (unit price x number of units) Classify the purchase value of each item into groups of high annual purchase value (A), medium value (B), low value (C) Concentrate time and effort on A & B items versus on C items Pris

Forecasting Purchases ABC FORECASTING Inventory Carrying Costs JIT Demand Models Service Levels MRP Game Case 6-3 Forecasts of usage, supply, market conditions, technology, price, etc., are always necessary to make good decisions Sales forecasts drive the need for raw materials, parts and subassemblies Pris

Review of Forecasting Techniques Purchases ABC FORECASTING Inventory Carrying Costs JIT Demand Models Service Levels MRP Game Case 6-3 Qualitative Forecasting Gathering opinions from a number of people Delphi Technique Quantitative Forecasting Using past data to predict the future Causal Models Time Series Forecasting Pris

Inventory Purchases ABC Forecasting INVENTORY Carrying Costs Inventory JIT Demand Models Service Levels MRP Game Case 6-3 Inventory policy has a great influence on purchase quantity decision Need to know: How much to order When to order How much to carry Missy’s slide

Inventory Costs Main types of inventory costs Other costs Purchases ABC Forecasting INVENTORY Carrying Costs Inventory JIT Demand Models Service Levels MRP Game Case 6-3 Main types of inventory costs Carrying Costs Holding Costs Possession Costs Other costs Ordering or Purchase Costs Setup Costs Stockout Costs Price Variation Costs

Article: “Poor Inventory Control” Purchases ABC Forecasting INVENTORY Carrying Costs Inventory JIT Demand Models Service Levels MRP Game Case 6-3 Areas of investigation: Bills of Material (BOM) Receiving Policies Do You Know Each Part’s ATP? Engineering Changes Scrap Reporting Lead Times Reorder Triggers Warehouse Locator System Missy

Basic Elements of Carrying Costs Purchases ABC Forecasting Inventory CARRYING COSTS JIT Demand Models Service Levels MRP Game Case 6-3 1) Capital Costs 2) Inventory Service Costs 3) Storage Space Costs 4) Inventory Risk Costs After carrying costs have been estimated, annual carrying costs can be calculated

Inventory Carrying Costs Purchases ABC Forecasting Inventory CARRYING COSTS JIT Demand Models Service Levels MRP Game Case 6-3 (CC per year) = (avg. inventory value) x (inventory CC as a % of inventory value) Avg. inv. value = (avg. inv. in units) x (material unit cost)

Inventory Carrying Costs Purchases ABC Forecasting Inventory CARRYING COSTS JIT Demand Models Service Levels MRP Game Case 6-3 CC = Q/2 x C x I Where: CC = carrying cost per year Q = order quantity for the material C = delivered unit cost of the material I = inventory carrying cost for the material, as a % of inventory value

Forms of Inventory 1) Raw Materials and Purchased Parts Purchases ABC Forecasting Inventory Carrying Costs INVENTORY JIT Demand Models Service Levels MRP Game Case 6-3 1) Raw Materials and Purchased Parts 2) Work In Process 3) Finished Goods 4) MRO Items 5) Resale Items Missy

Functions of Inventory Purchases ABC Forecasting Inventory Carrying Costs INVENTORY JIT Demand Models Service Levels MRP Game Case 6-3 Roles of Inventory: Transit or Pipeline Inventories Cycle Inventories Buffer/Safety Stocks Anticipation Inventories Decoupling Inventories PAIGE WHY??

Inventory Systems Inventory has costs associated with storage Purchases ABC Forecasting Inventory Carrying Costs INVENTORY JIT Demand Models Service Levels MRP Game Case 6-3 Inventory has costs associated with storage Systems developed to decrease stocks: Just-in-time (JIT) Kanban Materials Resource Planning (MRP) Paige

Just-in-Time (J.I.T.) What is it? Goals Purchases ABC Forecasting Inventory Carrying Costs JIT Demand Models Service Levels MRP Game Case 6-3 What is it? Goals Integration with process and production function Layout Automation standardization Quality is the key! 3 principles PAIGE

J.I.T. Continued Kanban systems What will J.I.T. accomplish? Purchases ABC Forecasting Inventory Carrying Costs JIT Demand Models Service Levels MRP Game Case 6-3 Kanban systems What will J.I.T. accomplish? PAIGE

Dependent vs. Independent Demand Purchases ABC Forecasting Inventory Carrying Costs JIT DEMAND Models Service Levels MRP Game Case 6-3 Independent Fixed-Quantity Model Fixed-Period Model Dependent MRP Matt

Fixed-Quantity Model Reorder when inventory drops to a reorder point Purchases ABC Forecasting Inventory Carrying Costs JIT Demand MODELS Service Levels MRP Game Case 6-3 Reorder when inventory drops to a reorder point Consider safety stock Calculations Optimal Order Quantity (EOQ) Reorder Point Matt

Fixed-Period Model Reorder only at review time Purchases ABC Forecasting Inventory Carrying Costs JIT Demand MODELS Service Levels MRP Game Case 6-3 Reorder only at review time Count inventory at the fixed interval period Inventory level should prevent stockouts Calculation: Optimal Order Period Matt

Formula Variables S = Order cost R = Annual demand Purchases ABC Forecasting Inventory Carrying Costs JIT Demand MODELS Service Levels MRP Game Case 6-3 S = Order cost R = Annual demand K = Carrying cost percentage C = Purchase cost L = Lead time Matt

Example: Fixed-Quantity Model See pg 212-213 of text – Refer to handout Purchases ABC Forecasting Inventory Carrying Costs JIT Demand MODELS Service Levels MRP Game Case 6-3 Given: R = 900 units K = 25 percent L = 10 working days C = $45 / unit S = $50 / order Matt

Calculation EOQ Qopt = √ (2RS / KC) Purchases ABC Forecasting Inventory Carrying Costs JIT Demand MODELS Service Levels MRP Game Case 6-3 EOQ Qopt = √ (2RS / KC) Qopt = √ (2 * 900 * 50) / (25% * 45) Qopt = 89 units Reorder point P = LR/250  Assume 250 working days P = (10 * 900) / 250 = 36 units Matt

Example: Fixed-Period Model Purchases ABC Forecasting Inventory Carrying Costs JIT Demand MODELS Service Levels MRP Game Case 6-3 Topt = (2S)/(RKC) Solution: R = 900 units C = $45 / unit K = 25 percent S = $50 / order Topt = (2S)/(RKC) Topt = (2)(50) (900)(0.25)(45) Topt = 0.1 = 0.1*250 working days = 25 reorder times per year Matt Note: 250/25 = 10 working days

Example: Fixed-Period Model Purchases ABC Forecasting Inventory Carrying Costs JIT Demand MODELS Service Levels MRP Game Case 6-3 Reordering every 10 working days minimizes total costs Carrying costs Order costs Order must meet demand for 20 days: Review period (10 working days) Lead time (10 working days) Matt

Safety Stock and Service Levels Purchases ABC Forecasting Inventory Carrying Costs JIT Demand Models SERVICE LEVELS MRP Game Case 6-3 Service Coverage Percentage of requests that are immediately served Stockout Costs Loss of business due to running out of inventory Paul

Safety Stock and Service Levels Purchases ABC Forecasting Inventory Carrying Costs JIT Demand Models SERVICE LEVELS MRP Game Case 6-3 Critical Fractile = Cu/(Cu + Co) Where Cu = the cost of understocking Co = the cost of overstocking Paul

Safety Stock and Service Levels Purchases ABC Forecasting Inventory Carrying Costs JIT Demand Models SERVICE LEVELS MRP Game Case 6-3 Critical Fractile: Difficult to determine 95% or 19:1 Understocking is generally more costly than overstocking Exception: “bait and switch” Paul

MRP Used for dependent demand Goals of MRP: Minimize inventory Purchases ABC Forecasting Inventory Carrying Costs JIT Demand Models Service Levels MRP Game Case 6-3 Used for dependent demand Goals of MRP: Minimize inventory Maintain high service coverage Coordinate delivery schedules and manufacturing and purchasing activities Paul

Matt will announce Paul Paul will explain rules and will ask questions Paige & Missy will keep track of points! Pris cues music, eraser of questions Pris will segueway into case “And now that you’ve had a little bit of break, let’s get back to work!” – Ask for summary of Case

D A I L Y D O U B L E

Case 6-3: Abbey Paquette Purchases ABC Forecasting Inventory Carrying Costs JIT Demand Models Service Levels MRP Game CASE 6-3 Abbey Paquette, Purchasing Agent for Pentz International, has been instructed by the new President to reduce annual inventory carry costs from two and a half million to zero by year end. Upon further investigation, the firm’s database was filled with outdated, inaccurate information. Much of the inventory still on the system was not actually in stock. Pris

Problems Immediate Problem: Basic Problems: Purchases ABC Forecasting Inventory Carrying Costs JIT Demand Models Service Levels MRP Game CASE 6-3 Immediate Problem: How to cut inventory carrying costs? Basic Problems: Lack of internal and external information systems Poor inventory controls Poor communication with employees Pris

Analysis No system to classify inventory Purchases ABC Forecasting Inventory Carrying Costs JIT Demand Models Service Levels MRP Game CASE 6-3 No system to classify inventory No knowledge of required inventory No forecasting May have resulted in unnecessary spending & stockout costs Missy

Analysis No analysis/system to measure carrying costs Purchases ABC Forecasting Inventory Carrying Costs JIT Demand Models Service Levels MRP Game CASE 6-3 No analysis/system to measure carrying costs Goal: minimize total annual costs Timing considerations Obsolescence Tradeoff between different costs: Inventory carrying costs vs. ordering costs Inventory carrying costs vs. stockout costs Inventory carrying costs vs. safety stock costs Paige

Analysis Minimal supplier relationships Purchases ABC Forecasting Inventory Carrying Costs JIT Demand Models Service Levels MRP Game CASE 6-3 Minimal supplier relationships Inconsistent data Top management does not understand purchasing function Overabundance of small tasks minimizes time for strategy Low level of automation Paige

Analysis Purchases ABC Forecasting Inventory Carrying Costs JIT Demand Models Service Levels MRP Game CASE 6-3 Current system of inventory tracking and control is not very useful or accurate Employees are not following the system and have not been properly trained on how to use the system The quality of the entire process is reduced without the problem being fixed Missy

Alternatives Immediate reduction of inventory Purchases ABC Forecasting Inventory Carrying Costs JIT Demand Models Service Levels MRP Game CASE 6-3 Immediate reduction of inventory Goal: Zero inventory Refrain from reordering, until it is absolutely necessary Utilize J.I.T. Gradual reduction of inventory Goal: Some inventory Continue to reorder, but in smaller quantities May require improved supplier relationships Pris

Class Discussion Split into 2 groups and prepare to defend why the following should be chosen: Alternative #1 – Group A Alternative #2 – Group B

Gradual Reduction of Inventory Our Solution … Gradual Reduction of Inventory (Alternative #1) Pris

Implementation: Short Term Time frame: August to end of December Purchases ABC Forecasting Inventory Carrying Costs JIT Demand Models Service Levels MRP Game CASE 6-3 Comprehensive Analysis ABC classification Supplier relations EOQ Analysis Research information systems MRP EDI-INT Barcode scanning Paul

Implementation: Short Term Time frame: August to end of December Purchases ABC Forecasting Inventory Carrying Costs JIT Demand Models Service Levels MRP Game CASE 6-3 Choosing information systems. Consult other employees Meet with Isaac Chisholm Explain issues with Zero inventory Present the plan of action Paul

Implementation: Medium Term Time frame: January to the end of December Purchases ABC Forecasting Inventory Carrying Costs JIT Demand Models Service Levels MRP Game CASE 6-3 Get employee buy-in Implement new Information Systems Barcode inventory management system Internet-based EDI system Hire a consultant Train employee to do cycle counting Paul

Implementation: Long Term Time frame: January and on Purchases ABC Forecasting Inventory Carrying Costs JIT Demand Models Service Levels MRP Game CASE 6-3 Continue working with suppliers and employees to achieve a stockless inventory purchasing system Use checks and balances Generate feedback from employees Analyze the average carrying cost to determine the plan’s success Matt

QUESTIONS? Matt THANK YOU!