© 2000 by Prentice-Hall Inc Russell/Taylor Oper Mgt 3/e Chapter 12 Inventory Management

2000 by Prentice-Hall, Inc2 Ch © 2000 by Prentice-Hall Inc Russell/Taylor Oper Mgt 3/e Inventory  Stock of items held to meet future demand  Inventory management answers two questions  How much to order  When to order

2000 by Prentice-Hall, Inc3 Ch © 2000 by Prentice-Hall Inc Russell/Taylor Oper Mgt 3/e Types of Inventory  Raw materials  Purchased parts and supplies  Labor  In-process (partially completed) products  Component parts  Working capital  Tools, machinery, and equipment  Finished goods

2000 by Prentice-Hall, Inc4 Ch © 2000 by Prentice-Hall Inc Russell/Taylor Oper Mgt 3/e Reasons To Hold Inventory  Meet unexpected demand  Smooth seasonal or cyclical demand  Meet variations in customer demand  Take advantage of price discounts  Hedge against price increases

2000 by Prentice-Hall, Inc5 Ch © 2000 by Prentice-Hall Inc Russell/Taylor Oper Mgt 3/e Two Forms Of Demand  Dependent  items used to produce final products  Independent  items demanded by external customers

2000 by Prentice-Hall, Inc6 Ch © 2000 by Prentice-Hall Inc Russell/Taylor Oper Mgt 3/e Inventory Costs  Carrying Cost  cost of holding an item in inventory  Ordering Cost  cost of replenishing inventory  Shortage Cost  temporary or permanent loss of sales when demand cannot be met

2000 by Prentice-Hall, Inc7 Ch © 2000 by Prentice-Hall Inc Russell/Taylor Oper Mgt 3/e Inventory Control Systems  Fixed-order-quantity system (Continuous)  constant amount ordered when inventory declines to predetermined level  Fixed-time-period system (Periodic)  order placed for variable amount after fixed passage of time

2000 by Prentice-Hall, Inc8 Ch © 2000 by Prentice-Hall Inc Russell/Taylor Oper Mgt 3/e ABC Classification System  Demand volume & value of items vary  Classify inventory into 3 categories Class% of Units% of Dollars A B3015 C

2000 by Prentice-Hall, Inc9 Ch © 2000 by Prentice-Hall Inc Russell/Taylor Oper Mgt 3/e ABC Classification Example

2000 by Prentice-Hall, Inc10 Ch © 2000 by Prentice-Hall Inc Russell/Taylor Oper Mgt 3/e Assumptions Of Basic EOQ Model  Demand is known with certainty  Demand is relatively constant over time  No shortages are allowed  Lead time for the receipt of orders is constant  The order quantity is received all at once

2000 by Prentice-Hall, Inc11 Ch © 2000 by Prentice-Hall Inc Russell/Taylor Oper Mgt 3/e The Inventory Order Cycle Demand rate 0Time Lead time Lead time Order Placed Order Placed Order Received Order Received Inventory Level Reorder point, R Order qty, Q

2000 by Prentice-Hall, Inc12 Ch © 2000 by Prentice-Hall Inc Russell/Taylor Oper Mgt 3/e EOQ Cost Model C O - cost of placing order D - annual demand C C - annual per-unit carrying cost Q - order quantity Annual ordering cost = C O D/Q Annual carrying cost = C C Q/2 Total cost = C O D/Q + C C Q/2

2000 by Prentice-Hall, Inc13 Ch © 2000 by Prentice-Hall Inc Russell/Taylor Oper Mgt 3/e EOQ Model Cost Curves Slope = 0 Total Cost Ordering Cost = C o D/Q Order Quantity, Q Annual cost ($) Minimum total cost Optimal order Q opt Carrying Cost = C c Q/2

2000 by Prentice-Hall, Inc14 Ch © 2000 by Prentice-Hall Inc Russell/Taylor Oper Mgt 3/e EOQ With Noninstantaneous Receipt Q(1-d/p) Inventory level (1-d/p) Q2Q2 Time 0 Order receipt period Begin Order receipt End Order receipt Maximum inventory level Average inventory level

2000 by Prentice-Hall, Inc15 Ch © 2000 by Prentice-Hall Inc Russell/Taylor Oper Mgt 3/e EOQ With Noninstantaneous Receipt

2000 by Prentice-Hall, Inc16 Ch © 2000 by Prentice-Hall Inc Russell/Taylor Oper Mgt 3/e Quantity Discounts Price per unit decreases as order quantity increases Order SizePrice 0-99$ (d1) (d2)

2000 by Prentice-Hall, Inc17 Ch © 2000 by Prentice-Hall Inc Russell/Taylor Oper Mgt 3/e Quantity Discount Model Q opt Carrying cost Ordering cost Inventory cost ($) Q(d 1 ) = 100Q(d 2 ) = 200 TC (d 2 = $6 ) TC (d 1 = $8 ) TC = ($10 )

2000 by Prentice-Hall, Inc18 Ch © 2000 by Prentice-Hall Inc Russell/Taylor Oper Mgt 3/e When to Order Reorder Point -level of inventory at which to place a new order R = dL where d = demand rate per period L = lead time

2000 by Prentice-Hall, Inc19 Ch © 2000 by Prentice-Hall Inc Russell/Taylor Oper Mgt 3/e Reorder Point Example Demand = 10,000 yds/year Store open 311 days/year Daily demand = 10,000 / 311 = yds/day Lead time = L = 10 days R = dL = (32.154)(10) = yds

2000 by Prentice-Hall, Inc20 Ch © 2000 by Prentice-Hall Inc Russell/Taylor Oper Mgt 3/e Safety Stocks  Safety stock  buffer added to on hand inventory during lead time  Stockout  an inventory shortage  Service level  probability that the inventory available during lead time will meet demand

2000 by Prentice-Hall, Inc21 Ch © 2000 by Prentice-Hall Inc Russell/Taylor Oper Mgt 3/e Reorder Point With A Safety Stock Reorder point, R Q 0 Inventory level LT Time Safety stock

2000 by Prentice-Hall, Inc22 Ch © 2000 by Prentice-Hall Inc Russell/Taylor Oper Mgt 3/e Reorder Point With Variable Demand

2000 by Prentice-Hall, Inc23 Ch © 2000 by Prentice-Hall Inc Russell/Taylor Oper Mgt 3/e Reorder Point For A Service Level Safety stock R Probability of meeting demand during lead time = service level dL Demand Probability of a stockout

2000 by Prentice-Hall, Inc24 Ch © 2000 by Prentice-Hall Inc Russell/Taylor Oper Mgt 3/e Determining Z Value For Service Level Z … Z = Probability of a stockout = 5% Service level = area to left of Z value or 95%

2000 by Prentice-Hall, Inc25 Ch © 2000 by Prentice-Hall Inc Russell/Taylor Oper Mgt 3/e Order Quantity For A Periodic Inventory System