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McGraw-Hill/Irwin Copyright © 2007 by The McGraw-Hill Companies, Inc. All rights reserved.
1212
Inventory Management
12-2
Learning ObjectivesLearning Objectives
Define the term inventory and list the major reasons for holding inventories; and list the main requirements for effective inventory management.
Discuss the nature and importance of service inventories
Discuss periodic and perpetual review systems. Discuss the objectives of inventory management. Describe the A-B-C approach and explain how it
is useful.
12-3
Learning ObjectivesLearning Objectives
Describe the basic EOQ model and its assumptions and solve typical problems.
Describe the economic production quantity model and solve typical problems.
Describe the quantity discount model and solve typical problems.
Describe reorder point models and solve typical problems.
Describe situations in which the single-period model would be appropriate, and solve typical problems.
12-4
Independent Demand
A
B(4) C(2)
D(2) E(1) D(3) F(2)
Dependent Demand
Independent demand is uncertain. Dependent demand is certain.
Inventory: a stock or store of goods
InventoryInventory
12-5
Inventory ModelsInventory Models
Independent demand – finished goods, items that are ready to be sold E.g. a computer
Dependent demand – components of finished products E.g. parts that make up the computer
12-6
Types of InventoriesTypes of Inventories
Raw materials & purchased parts Partially completed goods called
work in progress
Finished-goods inventories (manufacturing firms)
or merchandise (retail stores)
12-7
Types of Inventories (Cont’d)Types of Inventories (Cont’d)
Replacement parts, tools, & supplies
Goods-in-transit to warehouses or customers
12-8
Functions of InventoryFunctions of Inventory
To meet anticipated demand
To smooth production requirements (to build inventories during preseason period)
To decouple operations (in terms of operational difficulties)
To protect against stock-outs
12-9
Functions of Inventory (Cont’d)Functions of Inventory (Cont’d)
To take advantage of order cycles (to produce in economic lot size)
To help hedge against price increases
To permit operations (work in progress inventory)
To take advantage of quantity discounts
12-10
Objective of Inventory ControlObjective of Inventory Control
To achieve satisfactory levels of customer service while keeping inventory costs within reasonable bounds
Level of customer service
Costs of ordering and carrying inventory
Inventory turnover is the ratio ofaverage cost of goods sold toaverage inventory investment.
12-11
A system to keep track of inventory
A reliable forecast of demand
Knowledge of lead times
Reasonable estimates of Holding costs
Ordering costs
Shortage costs
A classification system
Effective Inventory ManagementEffective Inventory Management
12-12
Inventory Counting SystemsInventory Counting Systems
Periodic SystemPhysical count of items made at periodic intervals (Manager periodically check the shelves)
Perpetual Inventory System (Continuous)
System that keeps track of removals from inventory continuously, thus monitoringcurrent levels of each item
12-13
Inventory Counting Systems Inventory Counting Systems (Cont’d)(Cont’d)
Two-Bin System - Two containers of inventory; reorder when the first is empty
Universal Bar Code - Bar code printed on a label that hasinformation about the item to which it is attached 0
214800 232087768
12-14
Lead time: time interval between ordering and receiving the order
Holding (carrying) costs: cost to carry an item in inventory for a length of time, usually a year
Ordering costs: costs of ordering and receiving inventory
Shortage costs: costs when demand exceeds supply
Key Inventory TermsKey Inventory Terms
12-15
ABC Classification SystemABC Classification System
Classifying inventory according to some measure of importance and allocating control efforts accordingly.
AA - very important
BB - mod. important
CC - least important
Figure 12.1
Annual $ value of items
AA
BB
CC
High
Low
Low HighPercentage of Items
12-16
Economic order quantity (EOQ) model
The order size that minimizes total annual cost
Economic production model
Economic Order Quantity ModelsEconomic Order Quantity Models
12-17
Only one product is involved
Annual demand requirements known
Demand is even throughout the year
Lead time does not vary
Each order is received in a single delivery
There are no quantity discounts
Assumptions of EOQ ModelAssumptions of EOQ Model
12-18
The Inventory CycleThe Inventory CycleFigure 12.2
Profile of Inventory Level Over Time
Quantityon hand
Q
Receive order
Placeorder
Receive order
Placeorder
Receive order
Lead time
Reorderpoint
Usage rate
Time
12-19
Total CostTotal Cost
Annualcarryingcost
Annualorderingcost
Total cost = +
TC = Q2
H DQ
S+
12-20
Cost Minimization GoalCost Minimization Goal
Order Quantity (Q)
The Total-Cost Curve is U-Shaped
Ordering Costs
QO
An
nu
al C
os
t
(optimal order quantity)
TCQH
D
QS
2
Figure 12.4C
12-21
Minimum Total CostMinimum Total Cost
The total cost curve reaches its minimum where the carrying and ordering costs are equal.
Q2
H DQ
S=
12-22
Deriving the EOQDeriving the EOQ
Using calculus, we take the derivative of the total cost function and set the derivative (slope) equal to zero and solve for Q.
Q = 2DS
H =
2(Annual Demand)(Order or Setup Cost)
Annual Holding CostOPT
12-23
Example Example
A local distributor for a national tire company expects to sell approximately 9,600 steel belted radial tires of a certain cize and tread design next year. Annual carrying cost is $16 per tire and ordering cost is $75. The distributor operates 288 days a year.
a) What is the Economic Order Quantity? b)How many times per year does the store Re-order?c) What is the length of an order cycle? d)What is the total annual cost if the EOQ quantity is
ordered?
12-24
Production done in batches or lots Capacity to produce a part exceeds the
part’s usage or demand rate Assumptions of EPQ are similar to EOQ
except orders are received incrementally during production
Economic Production Quantity (EPQ)Economic Production Quantity (EPQ)
12-25
Only one item is involved Annual demand is known Usage rate is constant Usage occurs continually Production rate is constant Lead time does not vary No quantity discounts
Economic Production Quantity Economic Production Quantity AssumptionsAssumptions
12-26
Economic Run SizeEconomic Run Size
QDS
H
p
p u0
2
12-27
A toy Manufacturing uses 48,000 rubber weels per year for its popular dump truck series. The firm makes its own wheels, which it can produce at a rate of 800 per day. The toy trucks are assembled uniformly over the entire year. Carrying cost is $1 per wheel a year. Setup cost for a production run of a wheels is $45. The firm operates 240 days per year. Determine the :-
a) Optimal run size (optimal quantity produced)
b) Minimum total annual cost for carrying cost and setup.
c) Cycle time for the optimal run size?
d) Run time
12-28
Safety StockSafety Stock
LT Time
Expected demandduring lead time
Maximum probable demandduring lead time
ROP
Qu
an
tity
Safety stock
Figure 12.12
Safety stock reduces risk ofstockout during lead time
12-29
THANKSTHANKS