INVENTORY MANAGEMENT

Importance of Inventory Management -- Good inventory management is essential to the successful operation for
most organizations because of:
1. The amount of money invested in inventory represents, and
. The impact that inventories have on daily operations of an organization
!efinitions:
Inventory " a stoc# or store of goods
Independent vs. !ependent demand items
Independent demand items are the finished goods or other end items that are sold to someone
Dependent demand items are typically subassemblies or component parts that $ill be used in the production of a
final or finished product
%ur focus: inventory management of finished goods, ra$ materials, purchased parts, and retail items
&unctions of Inventories
1. To meet anticipated demand
. To smooth production re'uirements
(. To decouple components of the production
). To protect against stoc#outs
*. To ta#e advantage of order cycles
+. To hedge against price increases, or to ta#e advantage of 'uantity discounts
,. To permit operations -$or# in process.
%b/ectives of Inventory 0ontrol
1. Ma1imize level of customer service
. Minimize costs -carrying costs and ordering costs.
2e'uirements for 3ffective Inventory Management
-1. 4 system to keep track of the inventory
periodic,
perpetual,
t$o-bin, and
universal product code -560.
-. 4 reliable forecast of demand
-(. 7no$ledge of lead times and lead time variability
-lead time time bet$een submitting a purchase order and receiving it
-lead time variability reliability of the supplier
-). 3stimates of inventory holding costs, ordering costs, and shortage costs
8olding cost
%rdering cost
9toc#out cost
-*. 4 classification system for inventory items
4:0 approach " classifies inventory
according to some measure of importance
-; value. $here 4 " very important,
0 " least important
&ormula for 3%< $ith =on-instantaneous 2eplenishment
u p
p
H
DS
Q
o

=
2
$here: D " annual demand
S " setup cost
H " 8olding -carrying cost. per unit
p " production or delivery rate
d " usage rate
0. <uantity !iscounts Model
1. 0ompute the common 3%<
. %nly one of the unit prices $ill have the 3%< in its feasible range. Identify the range
that:
If the feasible 3%< is on the lo$est price range, that is the optimal order 'uantity
If the feasible 3%< is in any other range, compute the total cost for the 3%< and
for the price brea#s of all lo$er unit costs. 0ompare the total costs " 3%< is the
one that yields the lo$est total cost.
When to Order (reorder points - ROPs) Models
%b/ective: minimize the ris# -probability. of stoc#outs
) !eterminants of the 2%6
1. rate of demand
. lead time
(. e1tent of demand and>or lead time variability
). degree of stoc#out ris# acceptable to management
:asic &ormula for 0omputing 2%6
stock Safety time lead during demand Expected ROP + =
4. Constant demand and constant lead time
dLT LT d simply or ROP =
:. Variability is present in demand during lead time
dLT
z dLT + = ROP

use this formula if an estimate of e1pected demand during lead time and its
standard deviation are available
d
LT z LT d + = ROP

use this formula $hen data on lead time and demand are not readily
available
Shortages and Servie !evels
The 2%6 computation does not reveal the e1pected amount of shortage for a given lead time
service level
Information on e1pected number of shortage per cycle, or per year can be determined using
the follo$ing:
4. 31pected number of units short per cycle, 3-n.
demand time lead of deviation standard -
510) (p. 13 - 11 Table using short units of number ed standardiz - ) (
ccle per short units of number e!pected - ) ( " #here
) ( ) (
dLT
dLT
z E
n E
z E n E

=
:. 31pected number of units short per year, 3-N.
Q
D
n E N E ) ( ) ( =
0. 4nnual 9ervice ?evel
Q
n E
Q
z E
iceLevel AnnualServ
dLT
) (
1
) (
1 = =

Servie !evel "or Single-period Model
5sed to handle ordering of perishables
-fresh fruits, vegetables, seafood, flo$ers., and
Items that have a limited useful life
-ne$spaper, magazines.
4nalysis focuses on t$o costs: shortage and excess
unit per cost excess
unit per cost shortage

+
=
e
s
e s
s
C
C where
C C
C
SL
"
6roblems:
" 4:0 Inventory 0lassification
( " :asic 3%<
) " :asic 3%<
11" 3%< $ith =on-instantaneous !elivery
1( " 3%< $ith !iscount
@ " 3%<, 2%6, 9hortages
(( " 3%< for multiple products
Pro#le$ %(&%&)
The "ollo'ing lassi"iation ta#le ontains "ig(res on the $onthl) vol($e
and (nit osts "or a rando$ sa$ple o" *+ (nits "ro$ a list o" %,---
inventor) ite$s at a health are "ailit).
Ite$ /nit 0ost /sage
7() 1A AA
7(* * +AA
7(+ (+ 1*A
M1A 1+ *
MA A @A
B)* @A AA
&1) A (AA
&C* (A @AA
&CC A +A
!)* 1A **A
!)@ 1 CA
!* 1* 11A
!*, )A 1A
=A@ (A )A
6A* 1+ *AA
6AC 1A (A
Pro#le$ 1(&2+)
A large #a3er) #()s "lo(r in %&-l# #ags. The #a3er) (ses an average o" 4,+2- #ags
a )ear. Preparing an order and reeiving a ship$ent o" "lo(r involves a ost o" 54
per order. Ann(al arr)ing osts are 51- per #ag.
-a. !etermine the economic order 'uantity
-b. Dhat is the average number of bags on handE
-c . 8o$ many orders per year $ill there beE
-d. 0ompute the total cost of ordering and carrying flour.
Pro#le$ ** (&%6)
A o$pan) is a#o(t to #egin prod(tion o" a ne' prod(t. The $anager o" the
depart$ent that 'ill prod(e one o" the o$ponents "or the prod(t 'ants to 3no'
ho' o"ten the $ahine (sed to prod(e the ite$ 'ill #e availa#le "or other 'or3.
The $ahine 'ill prod(e the ite$ at a rate o" %-- (nits per da). Eight) (nits 'ill
#e (sed dail) in asse$#ling the "inal prod(t . Asse$#l) 'ill ta3e plae & da)s a
'ee3, &- 'ee3s per )ear. The $anager esti$ates that it 'ill ta3e al$ost a "(ll da)
to get the $ahine read) "or prod(tion r(n, at a ost o" 5+-.
Inventor) holding osts 'ill #e 5% per (nit per )ear.
-a. Dhat run 'uantity should be used to minimize total annual costE
-b. Dhat is the length of a production run in daysE
F !uring production, at $hat rate $ill inventory build upE
-d. If the manager $ants to run another /ob bet$een runs of this item, and
needs a minimum of 1A days per cycle for the other $or#, $ill there be enough timeE
Pro#le$ *1 (&%6)
A $ail-order ho(se (ses *2,--- #o7es a )ear. 0arr)ing osts are %- ents per )ear per #o7,
and ordering osts are 51%. The "ollo'ing prie shed(le applies. 8eter$ine9
1AAA to 1CCC 1.*
AAA to )CCC 1.
*AAA to CCCC 1.1@
1AAAA or more 1.1*
-a. The optimal order 'uantity
=umber of
:o1es
6rice per
:o1
Pro#le$ %2 (&%:)
A regional s(per$ar3et is open 1+- da)s per )ear. 8ail) (se o" ash register tape
averages *- rolls. /sage appears nor$all) distri#(ted 'ith a standard deviation o" %
rolls per da). The ost o" ordering tape is 5*, and arr)ing osts are 5-.4- per roll.
a )ear. !ead ti$e is three da)s.
-a. Dhat is the 3%<E
-b. Dhat 2%6 $ill provide a lead time service level of C+GE
F Dhat is the e1pected number of units short per cycle $ith C+GE 6er yearE
-d. Dhat is the annual service levelE
(b) $etermine the %&' for each item.
Pro#le$ 11 (&1-)
Given the "ollo'ing list o" ite$s,
Item
3stimated
4nnual
!emand
%rdering
0ost
8olding
0ost -G. 5nit 6rice
! 9 6
8)-A1A AAAA *A AG .*
8*-A1 +AAA +A AG )
6+-)AA C@AA @A (AG @.*
6+-)A1 1+(AA *A (AG 1
6,-1AA +*A *A (AG C
6C-1A( )*AA *A )AG
T9-(AA 1AAA )A *G )*
T9-)AA )*AAA )A *G )A
T9-A)1 @AA )A *G A
H1-AA1 +1AA * (*G )A
-a. 0lassify the items as 4, :, and 0