supply chain management (scm) inventory management dr. husam arman 18/10/20091
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Supply Chain Management (SCM) Inventory management
Dr. Husam Arman
18/10/2009
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Today’s Outline
Inventory (system): What?Motivation for holding inventoriesCharacteristics of inventory systemsTypes of inventory Inventory costsIdentifying critical inventory items The EOQ model Overview of inventory policies P, Q and hybrid systems
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Inventory System
Inventory is the stock of any item of resource used in an organization and can include: raw materials, component parts, supplies, work-in-process and finished goodsAn inventory system is the set of policies and controls that monitors levels of inventory and determines what levels should be maintained, when stock should be replenished, and how large orders should be?
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To summarize; Purposes of Inventory
1. To maintain independence of operations.
2. To meet variation in product demand.
3. To allow flexibility in production scheduling.
4. To provide a safeguard for variation in raw material delivery time.
5. To take advantage of economic purchase-order size.
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E(1)
Independent vs. Dependent Demand
Independent Demand (Demand not related to other items or the final end-product)
Dependent Demand
(Derived demand items for
component parts, subassemblies, raw materials,
etc.)
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Types of InventoryCycle Inventory
The portion of total inventory that varies directly with lot size (Q)
Safety Stock Inventory
Surplus inventory that a company holds to protect against uncertainties in demand, lead time and supply
Anticipation Inventory
Inventory used to absorb uneven rates of demand or supply
Pipeline Inventory
Inventory moving from point to point in the material system
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Characteristics of inventory systemsDemand
Constant Vs. VariableLead time
External order: time between placement of an order until arrival of goods
Internal production: amount of time required to produce a batch of items
Lead time can be deterministic or randomReplenishment
How does the order arrive? uniform over time, instantaneous batches
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Characteristics of inventory systems
Review time Continuous review: inventory level is known at all times Periodic review: inventory level is known only discrete
points in timeExcess demand
Back ordering: excess is satisfied in the future Lost sales: excess demand is lost
Changing inventory Inventory may change over time: limited shelf life
(perishable good –food), obsolescence (e.g. automotive parts)
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Inventory costs
Optimization criterion: cost minimizationHolding (carrying) cost
Cost of storage, handling, tax / insurance, breakage deterioration, obsolescence, opportunity cost of alternative investment (cost of capital) etc.
Proportional to the amount of inventory on hand Dimension: $ per unit per year
Setup (production change-over) or ordering cost Cost of arranging specific equipment setups or
someone placing an orderPenalty (shortage or stock-out) costs
Lost sales, loss of goodwill
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Identifying critical inventory items (ABC analysis)
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Homework - 2
Q 3 page 628, demonstrate graphically
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The EOQ ModelEOQ = Economic Order QuantitySimplest, most fundamental model, basis for more complex models Trade-off: fixed order costs and holding costs One of the oldest and most well known inventory control techniquesEasy to useBased on a number of assumptions!
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Assumptions; 1. Constant demand rate 2. No constraints on lot size3. Only relevant costs are holding and
ordering/setup4. Decisions for items are independent from
other items5. No uncertainty in lead time or supply
The EOQ Model
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The EOQ Model
Averagecycleinventory
Q
Q—2
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The EOQ Model
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The EOQ Model
S Q
D H
2
Q = C
Total Annual Cost =Annual
OrderingCost
AnnualHolding
Cost+
C = Total annual costD = DemandQ = Order quantityS = Cost of placing an order or setup cost
H = Annual holding and storage cost per unit of inventory
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Two Methods for holding cost
Holding cost (H) can be expressed either:1. As a fixed cost, such as
H = $0.50 per unit per year2. As a percentage of the item’s purchase cost
(P) H = I x PI = a percentage of the purchase cost
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The EOQ Model
S Q
D H
2
Q = C
How can we find EOQ? From above
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The EOQ Model
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The EOQ Model
Have a look at example 13.2, page 604
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Overview of inventory policiesTwo basic questions:
Q1: When should we order (or produce)? Q2: How much?
Typical answers to Q1:When inventory level is equal (or below) a level
REvery P time units
Typical answers to Q2: Order or produce Q units Order or produce such that the inventory level T
Models: Continuous review: (R, Q) Periodic review: (P, T, Q)
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Continuous Review (Q) System
• Tracks inventory after every withdrawal– Determines if re-order (R) is necessary
• Fixed Order Quantity (Q)
• Inventory Position (IP) considers:• Scheduled Receipts (SR)
• On-Hand Inventory (OH)
• Backorders (BO)
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Periodic Review (P)
• Time between orders is fixed, P• Quantity changes to meet needs• Stock positions are restored on pre-
determined dates to (T) Target Inventory Level • When the order arrives (IP) and (OH) are
identical
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Comparison of Q and P SystemsP SystemsQ Systems
Idle state
Demand occurs
Compute IP
Idle state
Demand occurs
Compute IP Reorder point?
Review time?
Compute Q needed for T
Issue order; Q
Issue order; Q
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Comparison of Q and P Systems
P Systems· Convenient to
administer as fixed interval
· Orders may be combined
· IP only required at review
Q Systems· Individual review
frequencies· Possible quantity
discounts as fixed Q· Lower, less-
expensive safety stocks
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Q System – recording point Inv. Position = on hand inv. + scheduled receipts – backorders
IP = OH + SR - BO
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Reorder Point (ROP)
ROP = d x LWhere; d = demand and L = lead timed and L are certain
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If demand and lead time is not certain we need to use Safety Stock
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Q System- when demand and lead time are constant and certain
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Q System- when demand and lead time are uncertain
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Finding the safety stock using service level policy
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Finding the safety stock using service level policy
LZ
If cycle service level is 85%, then probability of stock out is 15%
Safety stock
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Have a look at example 13.5 page 612
Finding the safety stock using service level policy
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Q review system – total costs
L z HS Q
D H
2
Q = C
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Q review system – total costs
Have a look at example 13.6 page 614
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Visual system
Two-Bin System
Full Empty
Order One Bin ofInventory
One-Bin System
Order Enough toRefill Bin
R
R
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Periodic review (P) system We need to calculate;1. Time between reviews, P2. Target inventory level, T P = EOQ / D (years) T = d (P + L) + safety stock for protection interval Where d = demand during P + LSafety stock =
LPZ
LPt LP
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P System
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P review system – total costs
LP z HS Q
D H
2
Q = C
LP z HS Q
D H
2
dP = C
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P review system – total costs
Have a look at example 13.8 page 617
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Hybrid System
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Hybrid System: Base-stock levelSystem
Very simple system Issue a replenishment order with a quantity equal to the withdrawal one This will maintain the IP at a base-stock level Expensive items (e.g. aero engine) Just-in-time
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Hybrid System: Optional Replenishment System
Maximum Inventory Level, M
MActual Inventory Level, I
q = M - I
I
Q = minimum acceptable order quantity
If q > Q, order q, otherwise do not order any.
Do you remember the P system?
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Inventory Accuracy and Cycle CountingDefined
• Inventory accuracy refers to how well the inventory records agree with physical count.
• Cycle Counting is a physical inventory-taking technique in which inventory is counted on a frequent basis rather than once or twice a year. (e.g. class A in particular)