Models of Inventory

• There are different models of inventory. The

inventory models can be classified into
deterministic and probabilistic models. The various
deterministic models are as given below

– Purchase model with instantaneous replenishment and

without shortages
– Manufacturing model without shortages
– Purchase model with instantaneous replenishment and
with shortages
– Manufacturing model with shortages
 Purchase model with instantaneous
replenishment and without shortages
In this model of inventory,
1. Orders of equal size are placed at periodical
intervals.
2. The items against an order are replenished
instantaneously
3. The items are consumed at a constant time
4. The purchase price per unit is the same
irrespective of order size.
 • Let D be the annual demand in units
• Co be the ordering cost / order
• Cc be the carrying cost / order
• P be the purchase price per unit
• Q be the order size

Units
Q

t
• The Number of orders/
Year = D/Q
Q
Cost of carrying /year   Cc
• Average inventory = Q/2 2
Purchase cost/ year  D  P
The total inventory cost ( TC)/ year
• Cost of ordering / year = D Q
  C o   Cc  D  P
( D/Q) x Co Q 2
Differentiating w.r.t Q Yields
d D Cc
(TC )  2 Co 
dQ Q 2
D Cc
2
C o  0
Q 2
2C D
Q2  o
Cc
2Co D
Q* 
Cc
D
No of Orders 
Q*
Q*
Time between orders 
D
• Example: Alpha industry estimates that it
will sell 12000 units of its products for the
forthcoming year. The ordering cost is Rs.
100 per order and the carrying cost per unit
per year is 20% of the purchase price per
unit. The purchase price per unit is Rs. 50.
• Find
– a) Economic order qty
– b) No of orders per year
– c) Time between successive orders
• a) D = 12000 units /
year
• Co = Rs. 100/ order
• Cc = Rs. 50 X 0.2
• = Rs. 10/ unit /year
• Solution: Q* 
2Co D
Cc
2 100  12000
  490units( Aprox )
10
D 12000
No of Orders    24.49
Q* 490
Q* 490
Time between orders   year
D 12000
• Manufacturing Model without Shortages
– If a company manufactures its components
which is required for its main product then the
corresponding model of inventory is called
Manufacturing model.
– This model will be with shortages or without
shortages.
– The rate of consumption of items is uniform
throughout the year.
– The cost of production per unit is same
irrespective of production lot size.
• Let
• R be the annual demand of an item
• k be the production rate of the item (No of
Units produced per year)
• Co be the ordering cost / order
• Cc be the carrying cost / order
• P be the production per unit
• EBQ be economic batch qty
• The operation of the manufacturing model
without shortages is show in figure
• Let
• R be the annual demand of an item
• k be the production rate of the item (No of
Units produced per year)
• Co be the ordering cost / order
• Cc be the carrying cost / order
• P be the production per unit
• EBQ be economic batch qty
• The operation of the manufacturing model
without shortages is shown in the foll. figure
• Let
• R be the annual demand of an item
• k be the production rate of the item (No of
Units produced per year)
• Co be the ordering cost / order
• Cc be the carrying cost / order
• P be the production per unit
• EBQ be economic batch qty
• The operation of the manufacturing model
without shortages is show in figure
 Manufacturing Model without
stock out
Manufacturing Model with out stock.

Units
r K-r r
K-r

t1 t2
Time
• During the period t1,the item is
produced at the rate of k units
per period
• simultaneously it is consumed
at the rate of r units per period.
• So during this period, the 2Co r
inventory is built at the rate of EBQ 
k-r units per period. Cc (1  r / k )
• During the period t2, the
production of the item is
discontinued but the t1  Q *
consumption of that item is k
continued. Hence the inventory
is decreased at the rate of r Q * [1  r / k ]
units per period during this t2 
period. The various formulas r
for this situation are given here
Cycle time  t1  t 2
• If a product is to be manufactured within
the company, the details are as follows
• r = 24000 units/year
• K= 48000 units/year
• Co = Rs. 200per set up
• Cc = Rs. 20/unit/year

Find the EBQ and Cycle time.

 2Co r 2  200  24000
EBQ  
Cc (1  r / k ) 20(1  24000 / 48000

 980 Units ( Approx)

t1  Q *  980 / 48000  0.02 year  0.24month
k
Q * [1  r / k ] 980  24000 
t2   1    0.24month
r 24000  48000 
Cycle time  t 1  t 2  0.48month
 Purchase model with shortages
• In this model, the items on order will be received
instantaneously and they are consumed at a
constant rate.

• The purchase price per unit remains same

irrespective of order size.

• If there is no stock at the time of receiving a

request for the items, it is assumed that it will be
satisfied at a later date with a penalty. This is
called backordering
Purchase model of Inventory with stock out
• Q- EOQ; Q1-Max inventory;Q2-Max stock out

Q1

t1
Q2
t2
Time
 2C o D (C s  Cc )
Q*  EOQ 
Cc C s
2C o DC s
Q *1 
Cc (C s  Cc )
Q2 *  Q * -Q *1
t*  Q * / D
t1*  Q *1 / D
t  Q2 * / D
*
2
• Example: The annual demand for an automobile
component is 24000 units. The carrying cost is Re
0.40/unit/year, the ordering cost is Rs. 20.00 per
order and the shortage cost is Rs. 10.0/ unit/year.
Find the optimal values of the following:
• Economic order qty
• Maximum Inventory
• Maximum Shortage qty
• Cycle Time
• Inventory period ( t1)
• Shortage period ( t2).
• D = 24000 units/ year
• Cc = Rs0.40/unit/year
• Co= Rs. 20.00/ order
• Cs =Rs.10.00/unit/year
• Solution: 2Co D(C s  Cc )
Q*  EOQ   1580
Cc C s
2C o DCs
Q *1   1520
Cc (C s  Cc )
Q2 *  Q * -Q *1  60units
t*  Q * / D  1580  365  24days
24000
t1*  Q *1 / D  1520 / 24000  365  23 days
t 2*  Q2 * / D  24  23  1day
 Manufacturing Model with
Shortages
• In this model, the items are produced and
consumed simultaneously for a portion of the
cycle time.
• The rate of consumption of items is uniform
throughout the year.
• The cost of production per unit is the same
irrespective of production lot size.
• In this model stock out is permitted. It is assumed
that the stock out units will be satisfied from the
units which will be produced at a later date with a
penalty. This is called backordering
r Be the annual demand of an item

k be the production rate of the item

Co The cost / set up

Cc Be the carrying cost/unit/period

Cs Be the shortage cost/unit/period

p Be the cost of production/ unit

• Manufacturing model of Inventory with
stock out

r
Q1

K-r
t3 t4
t1 t2
Q2
• In the above model
• Q-Economic Batch Qty
• Q1- Maximum Inventory
• Q2- Maximum Stockout

2C o kr (C c  C s )
Q*  EBQ 
C c ( k  r )C s
2C o r (k  r )C s
Q 
*
1
C c k (C c  C s )
2C o C c r (k  r )
Q 
*
2
C s (C c  C s ) k
k r 
Q 
*
1 Q *   Q2*
 k 
t *
Q /r
*

t1*  Q1* /( k  r )
t *
2 Q /r
*
1

t *
3 Q /r
*
2

t *
4  Q /( k  r )
*
2
• The demand for an item is 18000 per year.
Its production rate is 3000 per month. The
carrying cost is Re 0.15/unit/month and the
setup cost is Rs. 500 per set up. The
shortage cost is Rs20.00 per unit per year.
Find various parameters of the inventory
system
• r = 18000, units/year
• k= 3000 x 12 = 36000units / yr
• Co = Rs. 500.00/ Set up
• Cc = Rs. (0.15 X 12) = 1.80/ yr
• Cs = Rs 20.00 unit/ year

• Solution:

2C o kr (C c  C s )
Q*  EBQ 
C c ( k  r )C s
2  500  36000  18000(1.80  20)

1.80  (36000  18000)  20
 4669 Units
 2C o C c r (k  r ) 2  500 18000(36000  18000)
Q 
*
2 
C s (C c  C s ) k 20  (1.8  20)36000
 193Units
k r   36000  18000 
Q 
*
1 Q *   Q2  
*
4669   193
 k   36000 
 2142 Units
t *  Q* / r  4669 / 18000  95days
t1*  Q1* /(k  r )  2142 /(36000  18000)  43.5days
t 2*  Q1* / r  2142 / 18000  43.5days
t3*  Q2* / r  193 / 18000  4days
t 4*  Q2* /(k  r )  193 /(36000  18000)  4days
A plant manager of a chemical plant must
determine the lot size for a particular chemical that
has a steady demand of 30 barrels per day. The
production rate is 190 barrels per day, annual
demand is 10,500 barrels, setup cost is $200,
annual holding cost is $0.21 per barrel and the
plant operates 350 days per year.
Determine the economic production lot size
Determine the total annual setup and inventory holding
cost for this item
Determine the cycle length for the ELS
(Economic lot size)
Determine the production time per lot