Supply Chain Management

SCM - 306

LSM-306 Supply Chain Management

Master of Business Administration (Logistics & Supply Chain Management)

GITAM INSTITUTE OF INTERNATIONAL BUSINESS

Professor P.R.S SARMA M.B.A & Ph.D. - IITD

LSM-306 Supply Chain Management 623.925- Logistics Systems Engineering

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GITAM INSTITUTE OF INTERNATIONAL BUSINESS

Professor P.R.S SARMA M.B.A & Ph.D. - IITD

What is INVENTORY?
LSM-306 Supply Chain Management 623.925- Logistics Systems Engineering

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GITAM INSTITUTE OF INTERNATIONAL BUSINESS

Professor P.R.S SARMA M.B.A & Ph.D. - IITD

What is INVENTORY?
LSM-306 Supply Chain Management 623.925- Logistics Systems Engineering

stocks of ……ready made goods or raw materials… ….. that are needed to be kept in order to be able to meet the orders of clients

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GITAM INSTITUTE OF INTERNATIONAL BUSINESS

Professor P.R.S SARMA M.B.A & Ph.D. - IITD

Why Is Inventory Required?
LSM-306 Supply Chain Management 623.925- Logistics Systems Engineering

Uncertainty in customer demand Shorter product lifecycles More competing products Uncertainty in supplies Quality/Quantity/Costs/Delivery Times Delivery lead times Incentives for larger shipments
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D.IITD Why Is Inventory Required? (2) LSM-306 Supply Chain Management 623.Logistics Systems Engineering Inventory Optimization No Idle Inventories No Shortage Of Inventories 6 .A & Ph.GITAM INSTITUTE OF INTERNATIONAL BUSINESS Professor P.S SARMA M.B.R. .925.

D.R.S SARMA M.A & Ph.Logistics Systems Engineering Fail to reach to market in time Loss of Productivity Reduced levels commitment to Customers Shortage Of Inventories 7 .IITD Why Is Inventory Required? (3) Break in Production process LSM-306 Supply Chain Management 623. .925.B.GITAM INSTITUTE OF INTERNATIONAL BUSINESS Professor P.

925.A & Ph.Logistics Systems Engineering Accumulation of inventories = Increased capital cost Increased indirect costs towards storage.S SARMA M.R. safety etc Obsolescence of inventory Idle Inventories 8 .B.GITAM INSTITUTE OF INTERNATIONAL BUSINESS Professor P.IITD Why Is Inventory Required? (4) LSM-306 Supply Chain Management 623. .D.

925.25B excess inventory charge 9 .S SARMA M.B.GITAM INSTITUTE OF INTERNATIONAL BUSINESS Professor P. .R.Logistics Systems Engineering Dell Computer’s was sharply off in its forecast of demand.IITD Holding the right amount at the right time is difficult! LSM-306 Supply Chain Management 623.A & Ph. resulting in inventory write-downs 1993 stock plunge Liz Claiborne’s higher-than-anticipated excess inventories 1993 unexpected earnings decline. IBM’s ineffective inventory management 1994 shortages in the ThinkPad line Cisco’s declining sales 2001 $ 2.D.

IITD Inventory Management-Demand Forecasts LSM-306 Supply Chain Management 623.B. .D.925.A & Ph.GITAM INSTITUTE OF INTERNATIONAL BUSINESS Professor P.S SARMA M.R.Logistics Systems Engineering Uncertain demand makes demand forecast critical for inventory related decisions: What to order? When to order? How much is the optimal order quantity? Approach includes a set of techniques INVENTORY POLICY!! 10 .

S SARMA M. and insurance on inventories Maintenance costs Obsolescence cost Opportunity costs Service level requirements 11 .D.B. .A & Ph.GITAM INSTITUTE OF INTERNATIONAL BUSINESS Professor P.R.IITD Supply Chain Factors in Inventory Policy LSM-306 Supply Chain Management 623. property taxes.Logistics Systems Engineering Estimation of customer demand Replenishment lead time The number of different products being considered The length of the planning horizon Costs Order cost: Product cost Transportation cost Inventory holding cost.925. or inventory carrying cost: State taxes.

LSM-306 Supply Chain Management 623. At plant RM Inventory FG Inv.A & Ph.Logistics Systems Engineering ….D.IITD Typical Inventory positions ….R. .B.GITAM INSTITUTE OF INTERNATIONAL BUSINESS Professor P.925. At field Consumer Inventory Re-work/ re-pack of product Retail Inventory Waste disposal Source: Duglas & James 12 . in Supplier-Manufacturer-Intermediary-consumer channel WIP Inventory FG Inv.S SARMA M.

2009 LSM-306 Supply Chain Management 623. dealers have been told to shorten the accelerator pedals while Toyota manufactures a full replacement pedal.925. In September.8 million already recalled vehicles in the US. 13 .A & Ph.D. .Logistics Systems Engineering Toyota has decided to order its dealers to alter a part in accelerator pedals on 3. the car giant advised drivers to remove their floor mats after warning the pedals could become jammed under it.IITD Toyota calling back cars with sticking pedal Thursday 26th November.S SARMA M.R.B.GITAM INSTITUTE OF INTERNATIONAL BUSINESS Professor P. The pedal fault has been blamed for at least one fatal accident involving a Lexus ES350 that killed a California Highway Patrol officer and three members of his family. Now.

IITD Types of Inventory LSM-306 Supply Chain Management 623.D.A & Ph.B.GITAM INSTITUTE OF INTERNATIONAL BUSINESS Professor P.925.S SARMA M. .Logistics Systems Engineering Cycle Stock – required to meet demand under conditions of certainty In-transit Inventories – part of cycle stock (but en route from one location to other) though not available for sale and/or shipment Safety or Buffer stock – is in excess of cycle stock because of uncertainty in demand or lead times Speculative stock – inventory held for reasons other than satisfying current demand Seasonal Stock – a form of speculative stock involving accumulation of inventory before beginning of a season Dead Stock – set of products for which no demand registered for a specified period of time 14 .R.

925.A & Ph. .GITAM INSTITUTE OF INTERNATIONAL BUSINESS Professor P.Logistics Systems Engineering 15 .B.IITD Effect of Reorder Qty on Average Inventory Investment with Constant Demand and Lead time LSM-306 Supply Chain Management 623.R.S SARMA M.D.

925.A & Ph.B.IITD Demand Uncertainty LSM-306 Supply Chain Management 623.R. .S SARMA M.GITAM INSTITUTE OF INTERNATIONAL BUSINESS Professor P.Logistics Systems Engineering 16 .D.

GITAM INSTITUTE OF INTERNATIONAL BUSINESS Professor P.Logistics Systems Engineering Firms to remember the following principles: The forecast is always wrong It is difficult to match supply and demand The longer the forecast horizon.S SARMA M.D. More difficult to predict customer demand for individual (StockKeeping Units) SKUs Much easier to predict demand across all SKUs within one product family 17 .B.A & Ph. .925.R.IITD Effect of Demand Uncertainty LSM-306 Supply Chain Management 623. the worse the forecast It is even more difficult if one needs to predict customer demand for a long period of time Aggregate forecasts are more accurate.

A & Ph.GITAM INSTITUTE OF INTERNATIONAL BUSINESS Professor P.925. .S SARMA M.IITD Inv.R.D.Logistics Systems Engineering 18 . LSM-306 Supply Chain Management 623. Management under conditions of Certainty Replenishment policy under conditions of certainty requires balancing of ordering costs against inventory costs Ordering costs: sourcing from an outside supplier Costs of Transmitting the order Costs of receiving product Costs of placing product in storage Costs associated with processing invoice for payment Ordering costs: sourcing from is own field store Costs of Transmitting and processing the inventory transfer Costs of handling product Costs of receiving product at field location Costs of associated documentation Note: Remember that only direct out-of-pocket expenses should be included.B.

IITD Cost trade-offs required to determine the most Economical Order Quantity LSM-306 Supply Chain Management 623.R.925.A & Ph. .D.B.S SARMA M.GITAM INSTITUTE OF INTERNATIONAL BUSINESS Professor P.Logistics Systems Engineering 160 140 120 C o s t ($) 100 80 60 40 20 0 0 500 1000 (Number of Units) Total Cost Inv. carrying Cost Ordering Cost 1500 Orde r Quantity 19 .

holding cost) as a % of product cost V = Average cost of one unit of inventory LSM-306 Supply Chain Management 623. D = Demand per annum (number of units) C = Annual inventory carrying cost accrued per unit held in inventory per day that the unit is held (also known as.IITD Assumptions P = Ordering cost Q items per order: Order quantities are fixed. .Logistics Systems Engineering 20 . each time the warehouse places an order.e.B. i. it is for Q items.A & Ph.D.925.S SARMA M.R.GITAM INSTITUTE OF INTERNATIONAL BUSINESS Professor P..

C. cost) dTAC = d(V x C x Q/2) + d(P x (D/Q)) dQ dQ dQ dTAC = VC/2 + (PD (-Q-2 )) dQ = VC/2 – PD/Q2 Setting VC/2 –PD/Q2 = 0 VC/2 = PD/Q2 Q2 = 2PD/VC Q= Q = * 2 KD 2PD/VC h 21 . .Logistics Systems Engineering Total Annual cost (TAC) = (V x C x Q/2) + (P x (D/Q)) (I.S SARMA M.GITAM INSTITUTE OF INTERNATIONAL BUSINESS Professor P. cost) (Ord.925.IITD Deriving EOQ LSM-306 Supply Chain Management 623.D.A & Ph.B.R.

GITAM INSTITUTE OF INTERNATIONAL BUSINESS Professor P.S SARMA M.A & Ph. .IITD Effect of Reorder Qty on Average Inventory Investment with Constant Demand and Lead time LSM-306 Supply Chain Management 623.D.B.R.925.Logistics Systems Engineering 22 .

25 x 100 2 KD h Q*= 124 units .D.S SARMA M. .IITD EOQ: Example LSM-306 Supply Chain Management 623.GITAM INSTITUTE OF INTERNATIONAL BUSINESS Professor P.84.800 units C = Annual inventory carrying cost accrued per unit held in inventory per day that the unit is held = 25 % of product cost V = Average cost of one unit of inventory = $ 100 per unit * Q* = Q = 2 KD 2PD/VC h 2 KD 3.R.925.000 Q = --------------h 25 * 23 Q*= Q = * 2(40) (4800) --------------0.A & Ph.B.Logistics Systems Engineering Let us determine the best ordering policy : P = Ordering cost = $ 40 D = Demand per annum = 4.

00 960.100.00 3. .600.00 2.00 4.00 3.00 480.00 3.000.00 3.R.A & Ph.200.480.920.200.950.110.D.00 2.00 5.Logistics Systems Engineering (Q) .00 3. 40 60 80 100 120 140 160 200 300 400 120 80 60 48 40 34 30 24 16 12 Ordering cost ($) P x (D/Q) P = $ 40 4.00 3. of Orders (D/Q) D = 4800 nos.00 3.000.00 24 Inventory carrying cost ($) (Q/2 x C x V) Total cost ($) LSM-306 Supply Chain Management 623.170.300.925.390.460.00 5.400.00 2.000.00 1.400.00 640.750.IITD Cost trade-offs required to determine the most Economical Order Quantity Order Qty.S SARMA M.00 1.200.B.00 750.00 1.00 1.00 500.00 1.360.750.00 1.00 3.00 5.GITAM INSTITUTE OF INTERNATIONAL BUSINESS Professor P.500.00 3.00 1.250.500.00 1. No.800.

IITD Sensitivity Analysis Total inventory cost relatively insensitive to order quantities LSM-306 Supply Chain Management 623.925. For a given b.S SARMA M. the quantity ordered is Q = bQ* b .5% 0 .2 1.8 .A & Ph.6% 8. .Logistics Systems Engineering Actual order quantity: Q Q is a multiple b of the optimal order quantity Q*.4% 1.GITAM INSTITUTE OF INTERNATIONAL BUSINESS Professor P.R.9% 25% 25 .5 .1 1.9 1 1.B.5% 0.5 2 Increase in cost 25% 2.D.

D.Logistics Systems Engineering A continuous and constant and known rate of demand A constant and known replenishment or lead time A constant purchase price that is independent of order quantity or time No stock-outs are permitted Only one item in inventory An infinite planning horizon No limit on capital availability 26 .R. .925.GITAM INSTITUTE OF INTERNATIONAL BUSINESS Professor P.IITD Assumptions to EOQ Model LSM-306 Supply Chain Management 623.S SARMA M.A & Ph.B.

S SARMA M.IITD Adjustments to EOQ LSM-306 Supply Chain Management 623.R.925.Logistics Systems Engineering Adjustments need to be made to include: Volume of transportation costs and Quantity discounts 27 .GITAM INSTITUTE OF INTERNATIONAL BUSINESS Professor P.D. .A & Ph.B.

.S SARMA M.GITAM INSTITUTE OF INTERNATIONAL BUSINESS Professor P.A & Ph. holding cost) as a % of product cost Q0 = EOQ based on current price Q1 = 2(r D/C) + (1-r) Q0 28 .925.B.IITD Adjustments to EOQ (2) LSM-306 Supply Chain Management 623.Logistics Systems Engineering Q1 = Maximum quantity that can be economically ordered to qualify for a discount on unit cost r = Percentage of price reduction if a larger quantity is ordered D = Demand per annum (number of units) C = Annual inventory carrying cost accrued per unit held in inventory per day that the unit is held (also known as.R.D.

Carrying cost ($) (I) Total annual cost ($) LSM-306 Supply Chain Management 623.040.698 17.720 128.400 128.340 16. .IITD Cost trade-offs to determine the most Economical Order Quantity with transportation costs included (A) (B) No.90/cwt. which is = $0. Orders for less than 15000 lbs (15000/25=600 cases) have a rate of $ 4.200 16.600 128.400.S SARMA M. Cost ($) (H) Inv.00 9. of Order s/Yr (C) Purchase price/order ($) (D) Value of orders/Yr ($) (E) Transportati on cost/order ($) (F) Annual Ord.00 14.00 6.600.00 3.866 16.442 16.GITAM INSTITUTE OF INTERNATIONAL BUSINESS Professor P.198 16.000 128. which is = $1 per case 2.742 14.600 130.975 per case 3. cost ($) (G) Annual transp.600 16.800.000 15.A & Ph.400.078 17.64/cwt.560 338 428 450 898 1346 1782 2005 2228 17.00 16.Logistics Systems Engineering Order Qty.638 1.000.456 1.850 16.925.00 12. Orders weighing 40000 or more lbs (1600 cases) have a rate of $ 3.00/cwt.400.91 per case 29 . Orders weighing between 15000 lbs and 39000 lbs (600 cases and 1560 cases) have a rate of $ 3.868 1.000 129. which is = $0.00 3.820 540 430 400 200 140 100 90 80 16.560 14.00 129.000 134.B.837 16.170 1.000 300 380 400 780 1. (A) x $8 (B) x ( C) (B) x $10 (B) x (E) 1/2(C+E)25% (F+G+H) 300 380 400 800 1200 1600 1800 2000 Given: 54 43 40 20 14 10 9 8 2.R.D.200.380 14.

under Uncertainty LSM-306 Supply Chain Management 623.S SARMA M.IITD I.GITAM INSTITUTE OF INTERNATIONAL BUSINESS Professor P.D.Logistics Systems Engineering Factors influencing forecast accuracy: Economic conditions Competitive actions Changes in Govt. .B.A & Ph.925. regulations Market shifts Changes in consumer buying patterns Transit times may vary More time may be required to assemble an order or wait for scheduled production on one occasion than another occasion Inconsistent lead times for components and raw materials Incapability of suppliers to respond to the demand changes 30 .R.M.

GITAM INSTITUTE OF INTERNATIONAL BUSINESS Professor P. .S SARMA M.925.D. under Uncertainty (2) LSM-306 Supply Chain Management 623.R.M.Logistics Systems Engineering Importance of Order quantity It influences number of orders Consequently the number of times the firm is exposed to a potential stock-out at the end each order cycle Note: The point at which the order is placed is the primary determinant of future ability to fill demand while waiting for replenishment stock 31 .IITD I.A & Ph.B.

B.GITAM INSTITUTE OF INTERNATIONAL BUSINESS Professor P.925.S SARMA M.A & Ph. .IITD I.R.M.Fixed Order Quantity Model Order is placed when inventory in hand and on the order reaches to a pre-determined minimum level required to satisfy demand during order cycle Fixed Order Interval Model … compares current inventory with fore cast demand … …places an order for the necessary quantity at regular specified time …. under Uncertainty (3) LSM-306 Supply Chain Management 623..there by qualifying for : Volume purchase discounts and freight consolidation savings 32 . Facilitates combining orders for various items in a vendor’s line ….Logistics Systems Engineering Fixed Order point .D.

B.IITD LSM-306 Supply Chain Management 623.D.Logistics Systems Engineering Forecasting 33 . .925.S SARMA M.A & Ph.R.GITAM INSTITUTE OF INTERNATIONAL BUSINESS Professor P.

.GITAM INSTITUTE OF INTERNATIONAL BUSINESS Professor P.Logistics Systems Engineering Establishment of service level – a safety stock policy (Customer relation) (ability to continuous production) …really a matter of managerial judgment.R. Customer service levels should not be improved solely by addition of inventories 34 .IITD Inventories and Customer service LSM-306 Supply Chain Management 623.B.S SARMA M.D.A & Ph.925.

B.IITD Inventories and Customer service (2) LSM-306 Supply Chain Management 623.S SARMA M.A & Ph.Logistics Systems Engineering Establishment of more economical policy: (i) To stock highest volume products at retail locations (ii) To stock high-moderate volume products at field-ware house locations (iii) To stock slow-moving products at centrlised-locations (may be distribution centre or a plant ware house) 35 .GITAM INSTITUTE OF INTERNATIONAL BUSINESS Professor P.R. .D.925.

as typified by dealer cancellations and declining orders Large quantities of obsolete items 36 .Logistics Systems Engineering Increasing investment in inventory with back orders remaining constant High customer turnout Increasing number of orders being cancelled Wide variance in inventory turnover among distribution centers and among major inventory items Deteriorating relationships with intermediaries.IITD Symptoms of poor Inventory Increasing number of back orders LSM-306 Supply Chain Management 623.S SARMA M.D. .GITAM INSTITUTE OF INTERNATIONAL BUSINESS Professor P.R.925.A & Ph.B.

D.A & Ph.IITD Steps to reduce Inventory levels LSM-306 Supply Chain Management 623.R.S SARMA M.GITAM INSTITUTE OF INTERNATIONAL BUSINESS Professor P.925.B.Logistics Systems Engineering Multi-echelon inventory planning (Ex: ABC Analysis) Lead time analysis Elimination of obsolete items Analysis of pack size and discount structure Measurement of fill rates (magnitude of the stock-out situation) by SKUs Analysis of customer demand characteristics Note: The best method of reducing inventory investment is to reduce ordercycle time by using advanced order processing systems 37 . .

R.A & Ph.IITD ABC Analysis LSM-306 Supply Chain Management 623.Logistics Systems Engineering Logic behind ABC Analysis: …20% of firm’s customers or products account for 80% of the sales (may be a larger % of profits) Steps in ABC analysis: Rank products by sales or preferably by contributing to profitability Check for differences between high-volume and low-volume items 38 . .S SARMA M.GITAM INSTITUTE OF INTERNATIONAL BUSINESS Professor P.B.925.D.

925.R. .B.Logistics Systems Engineering A 39 .S SARMA M.A & Ph.D.GITAM INSTITUTE OF INTERNATIONAL BUSINESS Professor P.IITD C B Sales history for Market Area -1 LSM-306 Supply Chain Management 623.

IITD ABC Analysis (3) A Items: Continuous review of inventory status is appropriate May be stocked at all ware houses Customer service level: Order fill rate of 98% B Items May be reviewed weekly May be stocked at regional warehouses Customer service level: Order fill rate of 90% C Items May be least attention May be stocked only at the factory Customer service level: Order fill rate of 85% LSM-306 Supply Chain Management 623. 40 .Logistics Systems Engineering Resulting overall Customer service Level of 95% Note: Though transportation costs for B & C items are greater.A & Ph.925.GITAM INSTITUTE OF INTERNATIONAL BUSINESS Professor P. inventory reductions are more.B. .S SARMA M.D.R.

high volume and low variability.S SARMA M.GITAM INSTITUTE OF INTERNATIONAL BUSINESS Professor P. . Service level < 95% for products with low profit margin.IITD Profit Optimization and Service Level LSM-306 Supply Chain Management 623.Logistics Systems Engineering Target inventory level = 95% across all products. Service level > 99% for many products with high profit margin. 41 . low volume and high variability.A & Ph.R.D.925.B.

GITAM INSTITUTE OF INTERNATIONAL BUSINESS Professor P.S SARMA M.925.Logistics Systems Engineering 42 .B. .IITD Forecasting …is an important aspect of aspect of I. Developed at the total company or product level Down to product class and SKUs (based on past sales history) Down to central Distribution center to branch/regional distribution centers using one of the following methods: Going rate – rate of sales that the SKU is experiencing at each location Weeks/months of supply – the number of weeks/months of sales based on expected future sales that management wishes to hold at each location Available inventory – currently available inventory less back orders LSM-306 Supply Chain Management 623.A & Ph.D.M.R.

A & Ph. 43 .GITAM INSTITUTE OF INTERNATIONAL BUSINESS Professor P. The longer the forecast horizon.S SARMA M.R.Logistics Systems Engineering RULES OF FORECASTING The forecast is always wrong.925.IITD Forecasting LSM-306 Supply Chain Management 623.D. .B. the worse the forecast. Aggregate forecasts are more accurate.

it can be used for a variety of decisions Number of techniques allow prudent use of forecasts as needed 44 .A & Ph. .S SARMA M.B.D.Logistics Systems Engineering Part of the available tools for a manager Despite difficulties with forecasts.IITD Utility of Forecasting LSM-306 Supply Chain Management 623.925.GITAM INSTITUTE OF INTERNATIONAL BUSINESS Professor P.R.

S SARMA M.A & Ph. .R.D.B.Logistics Systems Engineering .GITAM INSTITUTE OF INTERNATIONAL BUSINESS Professor P.925.IITD Techniques Judgment Methods Sales-force composite Experts panel Delphi method Market research/survey Time Series Moving Averages Exponential Smoothing Trends Regression Holt’s method Seasonal patterns – Seasonal decomposition Trend + Seasonality – Winter’s Method Causal Methods 45 LSM-306 Supply Chain Management 623.

IITD The Most Appropriate Technique (s) LSM-306 Supply Chain Management 623.S SARMA M.D.R.GITAM INSTITUTE OF INTERNATIONAL BUSINESS Professor P.B.Logistics Systems Engineering Purpose of the forecast How will the forecast be used? Dynamics of system for which forecast will be made How accurate is the past history in predicting the future? 46 . .925.A & Ph.

R.Logistics Systems Engineering Matching supply with demand a major challenge Forecast demand is always wrong Longer the forecast horizon. .S SARMA M.A & Ph. less accurate the forecast Aggregate demand more accurate than disaggregated demand Need the most appropriate technique Need the most appropriate inventory policy 47 .IITD SUMMARY LSM-306 Supply Chain Management 623.B.925.GITAM INSTITUTE OF INTERNATIONAL BUSINESS Professor P.D.

Logistics Systems Engineering Demand variability is reduced if one aggregates demand across locations.D. .925.IITD Risk Pooling LSM-306 Supply Chain Management 623.R. More likely that high demand from one customer will be offset by low demand from another.A & Ph.GITAM INSTITUTE OF INTERNATIONAL BUSINESS Professor P. Reduction in variability allows a decrease in safety stock and therefore reduces average inventory. 48 .S SARMA M.B.

B.R.925.D.A & Ph.S SARMA M.Logistics Systems Engineering Standard deviation measures how much demand tends to vary around the average Gives an absolute measure of the variability Coefficient of variation is the ratio of standard deviation to average demand Gives a relative measure of the variability. relative to the average demand 49 .IITD Demand Variation LSM-306 Supply Chain Management 623.GITAM INSTITUTE OF INTERNATIONAL BUSINESS Professor P. .

D.Logistics Systems Engineering 50 .925. .A & Ph.IITD LSM-306 Supply Chain Management 623.GITAM INSTITUTE OF INTERNATIONAL BUSINESS Professor P.R.S SARMA M.B.