### Presentations text content in 12 Inventory Management

12

Inventory Management

PowerPoint presentation to accompany

Heizer and Render

Operations Management, 10e

Principles of Operations Management, 8e

PowerPoint slides by Jeff Heyl

Slide2Outline

The

Importance of Inventory

Functions of Inventory

Types of

Inventory

Managing Inventory

ABC Analysis

Record Accuracy

Cycle

Counting

Inventory Models

Independent vs. Dependent Demand

Holding, Ordering, and Setup Costs

Inventory Models for Independent Demand

The Basic Economic Order Quantity (EOQ) Model

Minimizing Costs

Reorder

Points

Slide3Learning Objectives

Conduct an ABC analysis

Explain and use cycle counting

Explain and use the EOQ model for independent inventory demand

Compute a reorder point and safety

stock

Slide4Amazon.com

Amazon.com started as a “virtual” retailer – no inventory, no warehouses, no overhead; just computers taking orders to be filled by others

Growth has forced Amazon.com to become a world leader in warehousing and inventory management

Slide5Inventory Management

The objective of inventory management is to strike a balance between inventory investment and customer service

Slide6Functions of Inventory

To decouple or separate various parts of the production process

To decouple the firm from fluctuations in demand and provide a stock of goods that will provide a selection for customers

To take advantage of quantity discounts

To hedge against inflation

Slide7Types of Inventory

Raw material

Purchased but not processed

Work-in-process

Undergone some change but not completed

A function of cycle time for a product

Maintenance/repair/operating (MRO)

Necessary to keep machinery and processes productive

Finished goods

Completed product awaiting shipment

Slide8ABC Analysis

Divides inventory into three classes based on annual dollar volume

Class A - high annual dollar volume

Class B - medium annual dollar volume

Class C - low annual dollar volume

Used to establish policies that focus on the few critical parts and not the many trivial ones

Slide9ABC Analysis

Item Stock NumberPercent of Number of Items StockedAnnual Volume (units)xUnit Cost=Annual Dollar VolumePercent of Annual Dollar VolumeClass#1028620%1,000$ 90.00$ 90,00038.8%A#11526500154.0077,00033.2%A#127601,55017.0026,35011.3%B#1086730%35042.8615,0016.4%B#105001,00012.5012,5005.4%B

72%

23%

Slide10ABC Analysis

Item Stock NumberPercent of Number of Items StockedAnnual Volume (units)xUnit Cost=Annual Dollar VolumePercent of Annual Dollar VolumeClass#12572600$ 14.17$ 8,5023.7%C#140752,000.601,200.5%C#0103650%1008.50850.4%C#013071,200.42504.2%C#10572250.60150.1%C8,550$232,057100.0%

5%

Slide11C Items

ABC Analysis

A Items

B Items

Percent of annual dollar usage

80 –

70 –

60 –

50 –

40 –

30 –

20 –

10 –

0 –

| | | | | | | | | | 10 20 30 40 50 60 70 80 90 100

Percent of inventory items

Figure 12.2

Slide12Cycle Counting

Items are counted and records updated on a periodic basisOften used with ABC analysis to determine cycleHas several advantagesEliminates shutdowns and interruptionsEliminates annual inventory adjustmentTrained personnel audit inventory accuracyAllows causes of errors to be identified and correctedMaintains accurate inventory records

Slide13Independent Versus Dependent Demand

Independent demand

- the demand for item is independent of the demand for any other item in inventory

Dependent demand

- the demand for item is dependent upon the demand for some other item in the inventory

Slide14Holding, Ordering, and Setup Costs

Holding costs

- the costs of holding or “carrying” inventory over time

Ordering costs

- the costs of placing an order and receiving goods

Setup costs

- cost to prepare a machine or process for manufacturing an order

Slide15Basic EOQ Model

Demand is known, constant, and independentLead time is known and constantReceipt of inventory is instantaneous and completeQuantity discounts are not possibleOnly variable costs are setup and holdingStockouts can be completely avoided

Important assumptions

Slide16Inventory Usage Over Time

Figure 12.3

Order quantity =

Q

(maximum inventory level)

Usage rate

Average inventory on hand

Q

2

Minimum inventory

Inventory level

Time

0

Slide17Minimizing Costs

Objective is to minimize total costs

Table 12.4(c)

Annual cost

Order quantity

Total cost of holding and setup (order)

Holding cost

Setup (or order) cost

Minimum total cost

Optimal order quantity (

Q

*)

Slide18The EOQ Model

Q = Number of pieces per order Q* = Optimal number of pieces per order (EOQ) D = Annual demand in units for the inventory item S = Setup or ordering cost for each order H = Holding or carrying cost per unit per year

Annual setup cost = (Number of orders placed per year) x (Setup or order cost per order)

Annual demand

Number of units in each order

Setup or order cost per order

=

Annual setup cost =

S

D

Q

= (

S

)

D

Q

Slide19The EOQ Model

Q = Number of pieces per order Q* = Optimal number of pieces per order (EOQ) D = Annual demand in units for the inventory item S = Setup or ordering cost for each order H = Holding or carrying cost per unit per year

Annual holding cost = (Average inventory level) x (Holding cost per unit per year)

Order quantity

2

= (Holding cost per unit per year)

= (

H

)

Q

2

Annual setup cost =

S

D

Q

Annual holding cost =

H

Q

2

Slide20The EOQ Model

Q = Number of pieces per order Q* = Optimal number of pieces per order (EOQ) D = Annual demand in units for the inventory item S = Setup or ordering cost for each order H = Holding or carrying cost per unit per year

Optimal order quantity is found when annual setup cost equals annual holding cost

Annual setup cost =

S

D

Q

Annual holding cost =

H

Q

2

D

Q

S

=

H

Q

2

Solving for

Q

*

2

DS

= Q2HQ2 = 2DS/HQ* = 2DS/H

Slide21An EOQ Example

Determine optimal number of needles to orderD = 1,000 unitsS = $10 per orderH = $.50 per unit per year

Q

* =

2

DS

H

Q

* =

2(1,000)(10)

0.50

= 40,000 = 200 units

Slide22An EOQ Example

Determine optimal number of needles to orderD = 1,000 units Q* = 200 unitsS = $10 per orderH = $.50 per unit per year

=

N = =

Expected number of orders

Demand

Order quantity

D

Q

*

N

= = 5 orders per year

1,000

200

Slide23An EOQ Example

Determine optimal number of needles to orderD = 1,000 units Q* = 200 unitsS = $10 per order N = 5 orders per yearH = $.50 per unit per year

=

T =

Expected time between orders

Number of working

days per yearN

T

= = 50 days between orders

250

5

Slide24An EOQ Example

Determine optimal number of needles to orderD = 1,000 units Q* = 200 unitsS = $10 per order N = 5 orders per yearH = $.50 per unit per year T = 50 days

Total annual cost = Setup cost + Holding cost

TC

= S + H

D

Q

Q

2

TC

= ($10) + ($.50)

1,000

200

200

2

TC

= (5)($10) + (100)($.50) = $50 + $50 = $100

Slide25Robust Model

The EOQ model is robust

It works even if all parameters and assumptions are not met

The total cost curve is relatively flat in the area of the EOQ

Slide26An EOQ Example

Management underestimated demand by 50%D = 1,000 units Q* = 200 unitsS = $10 per order N = 5 orders per yearH = $.50 per unit per year T = 50 days

TC

= S + H

D

Q

Q

2

TC

= ($10) + ($.50) = $75 + $50 = $125

1,500

200

200

2

1,500 units

Total annual cost increases by only 25%

Slide27An EOQ Example

Actual EOQ for new demand is 244.9 unitsD = 1,000 units Q* = 244.9 unitsS = $10 per order N = 5 orders per yearH = $.50 per unit per year T = 50 days

TC

= S + H

D

Q

Q

2

TC

= ($10) + ($.50)

1,500

244.9

244.9

2

1,500 units

TC

= $61.24 + $61.24 = $122.48

Only 2% less than the total cost of $125 when the order quantity was 200

Slide28Reorder Points

EOQ answers the “how much” questionThe reorder point (ROP) tells “when” to order

ROP =

Lead time for a new order in days

Demand per day

=

d

x

L

d

=

D

Number of working days in a year

Slide29Reorder Point Curve

Q

*

ROP (units)

Inventory level (units)

Time (days)

Figure 12.5

Lead time =

L

Slope = units/day =

d

Resupply takes place as order arrives

Slide30Reorder Point Example

Demand = 8,000 iPods per year250 working day yearLead time for orders is 3 working days

ROP = d x L

d

=

D

Number of working days in a year

= 8,000/250 = 32 units

= 32 units per day x 3 days = 96 units

Slide31Safety Stock

Purpose of Safety Stock

Needed when demand is variable

The level of safety stock is set based on the desired service level

Safety stock is needed to cover uncertainty during the lead-time

Slide32In-Class Problems from the Lecture Guide Practice Problems

Problem 1: What are the appropriate ABC groups of inventory items?

ABC Analysis

Stock Number

Annual $ Volume

Percent

of Annual $ Volume

J24

12,500

46.2

R26

9,000

33.3

L02

3,200

11.8

M12

1,550

5.8

P33

620

2.3

T72

65

0.2

S67

53

0.2

Q47

32

0.1

V20

30

0.1

S

= 100.0

Slide33In-Class Problems from the Lecture Guide Practice Problems

Problem 3:Assume you have a product with the following parameters:Demand = 360Holding cost per year = $1.00 per unitOrder cost = $100 per orderWhat is the EOQ?Problem 4:Given the data from Problem 3, and assuming a 300-day work year; how many orders should be processed per year? What is the expected time between orders?Problem 5:What is the total cost for the inventory policy used in Problem 3?

Slide34In-Class Problems from the Lecture Guide Practice Problems

Problem 7:If demand for an item is 3 units per day, and delivery lead-time is 15 days, what should we use for a re-order point?

Slide35Slide36

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## 12 Inventory Management

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