1. EOQ Inventory Management

2. Why Do We Want Inventory
Improve customer service
Reduce certain costs such as
ordering costs
Stock out costs
acquisition costs
start-up quality costs
Contribute to the efficient and effective operation of the production system

3. Why We Do Not Want Inventory
Certain costs increase such as
carrying costs
cost of customer responsiveness
cost of coordinating production
cost of diluted return on investment
reduced-capacity costs
large-lot quality cost
cost of production problems

4. Inventory Stock of items held to meet future demand
Inventory management answers two questions
How much to order
When to order

5. Inventory EOQ Models Basic EOQ EOQ for Production Lots
EOQ with Quantity Discounts

6. Inventory Costs Carrying Cost Ordering Cost Shortage 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

7. 2DCo Ch Basic EOQ Model Q* = Co - cost of placing order
Ch - annual per-unit holding/carrying cost
D - annual demand
EOQ or Q*– economic order quantity
Q* =
2DCo Ch

8. EOQ Costs Annual carrying cost = (Q/2)Ch
Annual ordering cost = (D/Q)Co
Total cost (TC) = (Q/2)Ch + (D/Q)Co

9. EOQ Cost Model 2DCo Ch Q* = Annual cost ($) Total Cost Carrying Cost =
Minimum total cost
Ordering Cost =
CoD Q
Optimal order Q*
Order Quantity, Q

10. EOQ: Economic Order Quantity
EOQ balances the cost of placing an order against the cost of storing product in inventory
The cost of storing a product in inventory can include warehouse costs, shipping costs, and cost of capital tied up in inventory
Notice that nowhere did the cost of the merchandise being sold enter into the equations
EOQ is vitally important in any retail business and most businesses where stocked items are managed

11. Safety Stocks Safety stock Stockout Service level
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

12. Basis for setting the Reorder Point
During the lead time, customers continue to draw down the inventory
It is during this period that the inventory is vulnerable to stockout (run out of inventory)
Customer service level is the probability that a stockout will not occur during the lead time

13. Basis for setting the Reorder Point
Thus, the order point is set based on
the demand during lead time (DDLT) and
the desired customer service level
Reorder point (ROP) = Expected demand during lead time (EDDLT) + Safety stock (SS)
The amount of safety stock needed is based on the degree of uncertainty in the DDLT and the customer service level desired

14. Ideal Inventory Order Cycle
Demand rate
Time
Lead time
Order placed
Order receipt
Inventory Level
Reorder point, R
Order quantity, Q

15. Variable Demand with a Reorder Point
point, R Q LT
Time
Inventory level
stockout

16. Reorder Point with a Safety Stock
point, R Q LT
Time
Inventory level
Safety Stock

17. Calculating ROP Reorder Point (ROP) = d x L - d = daily demand
- L = lead time for delivery after an order
With Safety Stock (SS) we get the following:
ROP = d x L + SS

18. ROP Using Service Level
The customer service level is converted into a Z value using the normal distribution table
The safety stock is computed by multiplying the Z value by the std dev of DDLT.
The order point is set using ROP = EDDLT + SS, or by substitution
ROP = d x L + Z ( std dev D)
D = demand during lead time

19. Using Discounts in EOQ
Under this condition, material cost becomes an incremental cost and must be considered in the determination of the EOQ
The total cost (TC) = material cost + ordering cost + carrying cost
TC = DC + (D/Q) Co + (Q/2)Ch
D = annual demand in units
C = cost per unit

20. EOQ for production: EPQ
D = annual demand in units
Qp = quantity produced in one batch
Cs = setup cost per setup
Ch = cost of holding or carrying
p = daily production rate
d = daily demand rate
Qp =
2DCs
Ch(1-d/p)