Inventory - Thien Vu

Iker Lopategi
191025700_603
Become a Supply Chain Superstar

with SCProTM
Learning Block 6 – Inventory Management

http://cscmpcertification.org
This document is authorized for use by CSCMP Spain RT in the course: SCPro Certification at EAE Business School. Any unauthorized use or reproduction of this document is strictly prohibited.
Level One:
Cornerstones of Supply Chain
Management
This document is authorized for use by CSCMP Spain RT in the course: SCPro Certification at EAE Business School . Any unauthorized use or reproduction of this document is strictly prohibited.
Level Two:
Analysis and Application of Supply
Chain Challenges
TM
SCPro s make an impact at all levels
of the supply chain profession
LB-6: Inventory Management
1. Introduction
1. Abstract
2. Description
3. Learning Objectives
2. Lectures and Inventory Management Fundamentals
1. Supply Chain Logistics Management, 3rd edition (book) Part 1 & 2 - (H)
2. Managing Inventory Investment Effectively (article) – (H)
3. The Real Cost of Holding Inventory (article) (M)
4. Understanding Inventory Fundamentals (H)
5. Independent Demand Inventory Planning (H)
6. The Infrastructure Squeeze on Global Supply Chains (article) - (L)
(H) / (M) / (L) = High / Medium / Low importance based on teacher’s experience
LB6 – Inventory Management
Introduction: Abstract
LB-6: Inventory Management

• Inventory management is focused on determining how much inventory to carry across the supply
chain, where to carry it, and how much safety stock is required to meet the organization’s cost
and customer service objectives.
• The management of inventories will depend upon the value of the product, the cost to carry the
product in inventory, the variability of demand and lead time, the cost of stocking out of the
product, the number of locations where inventory is held, and the importance of the product to
customers.
Introduction: Description
The Goal & Focus of this Learning Block is the following:
Managing
• Fundamental need for inventory
Supply Chain • How the product’s value affects inventory decisions
Inventories
• How the number of inventory locations affects the level of inventory

Inventory Level • New approaches to reducing inventory : postponement, vendor-managed
inventories, cross-docking, and quick response systems.
• Trade-offs between inventory and transportation costs are a critical element in

Inventory vs managing inventory effectively
transportation • Understanding how carrying costs can affect inventory decisions.
Introduction: LOs
The Learning Objectives (LOs) of this block are the following:
1. Describe the basic concepts of inventory management and its essential role in meeting customer
demand
2. Identify the key elements and processes in inventory management and how they interact
3. Identify principles and strategies for establishing efficient and effective flows of inventory across the
supply chain
4. Explain the critical role of technology in planning and managing inventory
5. Define the requirements and challenges of inventory management on a global basis
6. Discuss how to assess the performance of inventory management using standard metrics and
frameworks
Supply Chain Logistics Management
Introduction
• Lecture 1: Readings from Supply Chain Logistics Management
– Focus: This set of readings explain general different dimensions and concepts that
are important to properly understand the importance of inventory management within
Supply Chain Logistics Management (41 pages):
1. Business Concepts (Postponement, Purchasing, Inventory Deployment, etc.)

2. Forecasting Accuracy
3. Inventory Definitions
4. Inventory Carrying Cost
5. Inventory Planning
6. Managing Uncertainty
7. Inventory Management Practices
8. Inventory in Transportation
Inventory Definitions, pages 12-13
Average Inventory: How to calculate it in Dollars or Units?

– From a policy viewpoint, target inventory
levels must be planned for each facility. Normal Performance Cycle for a Typical product
– Average inventory is the typical amount of
inventory accross time Maximum
• Order Qty = $ 40,000

• Transit inventory = Amount typically
between facilities or on order but not
received.
• Obsolete inventory: stock out of date
or that has not experienced recent Minimum
demand.
• Speculative inventory: bought prior to
be needed to take a discount.
• Safety Stock: stock maintained in a
logistics system to protect against Typical average inventory is one-
demand and performance cycle half order quantity + Safety Stock
uncertainty. and In-transit stock
Supply Chain Visibility & Event Management, p 118-119
• A more sophisticated version of “Track & Trace” Systems

– Specific Capabilities:
1. Track & Trace: Determine where a shipment is currently
2. Notification: Alert when the shipment is delayed or hasn’t reache
destination
3. Reporting: Measure performance of individual carriers
4. Rerouting: Change the mode or flow of a shipment if it were to be
delayed
5. Simulation: Carry out “what-if” analysis using different routes and
transportation modes
– Manage exceptions. Define thresholds for alerts

– International Shipments: Many stakeholders related to a shipment
• Problems may occur at the interfaces between carriers:
– System or Timing inconsistencies
Inventory Carrying Cost, pages 14-15
Inventory Carrying Cost : the expense associated with maintaining inventory
Capital Taxes Insurance Storage Obsolescence

INVENTORY
CARRYING
Cost for Product Deterioration of a

Based on estimated
COST
Holding (not product during

Prime Interest rate risk or loss over the hanging) storage
time
Local taxes based
3PLP (allocated per Due-date / Old-
on Inventory held
unit) Fashioned
in WH Influenced by
Higher
facility
Managerially Owned WH (fixed Calculated on Past
characteristics
defined rate cost) Experience
(sprinkles)
FIELD
Planning Inventory, When to order, pages 15-16
Inventory Planning
– Focus: Determine WHEN and HOW MUCH to order, and WHERE.
• When determined by supply & demand exercise (replenishment/demand).
• Where determined by supply chain network and customer demand location
• How much determined by order quantity.
– WHEN to order (reordering point in a Perpetual Inventory System):

• Reordering logic can be based on units or on days of supply (DOS).
• Formula to be used:
– R = D x T (+ SS)
» Where R = reordering point in units
» Where D = average daily demand in units
» Where T = average performance cycle length in days
» Where SS = safety stock (optional, that’s why it’s in brackets)
– How to calculate the reorder point in a Periodic Inventory System
– R= D (T+P/2) + SS
» Where P = Review Period in days
How much to order, pages 16-20
EOQ: How to calculate it given demand and cost data?

– The EOQ is the replenishment practice that minimize
the combined inventory carrying and ordering cost.
Identification of such a quantity assumes that Economic Order Quantity
demand and costs are relatively stable throughout
the year.
– Since it is calculated on an individual product basis,
the basic formulation does not consider the impact of
consolidation of multiple products.
– Standard formulation for EOQ is:
Total ordering cost would amount to

HOW TO CALCULATE:
$152 = (2400/300 x $ 19),
- Ordering Cost
and inventory carrying
- Inventory Cost cost to
$150= [300/2 x (5 x 0,20)]
Reactive Inventory Management Methods, pages 29-31
• MRP vs DRP: Key characteristics and differences

– Requirements Planning is an approach
that integrates across the supply chain,
taking into consideration unique
requirements classified as:
• Material requirements Planning (MRP):
– Driven by a production schedule
– Dependent demand situation.
– Coordinates scheduling and
integration of materials into finished
goods.
 Distribution Requirements Planning
(DRP):
– Driven by supply chain demand.
– Independant demand situation.
– Coordinates finished goods when
are received in the plant
warehouse.
Collaborative Inventory Replenishment, pages 32-33
Collaborative Inventory Replenishment: All build on supply chain relationships to rapidly

replenish inventory on the basis of joint planning or actual sales experience
– Main Goal: Reduce reliance on forecasting when and where inventory will need to be
positioned.
– From an inventory management standpoint, we should also consider the Key

Characteristics of Collaborative Inventory Planning Techniques:
• Quick response (QR) = Tech. driven continuous information flow along SC partners.
– From 15-30 days to 5 days replenishments.
• Vendor-Managed Inventory (VMI) = supplier dealing with inventory replenishment in
exchange of information
– KEY: Who takes responsibility for setting inventory
– Vendor assumes more responsibility.
– Permits more advanced supply chains (cross-docking, direct delivery).
• Profile Replenishment (PR) = A sophisticated QR + VMI combination
– Gives suppliers the right to anticipate future requirements according to their
overall knowledge of a merchandise category.
– Automated Planning Systems (APS) + Distribution Requirement Planning
(DRP) are used by the supplier to extend their planning framework to include
customer warehouses and even retail stores.
Transportation Infrastructure, pages 37-42
Inventory along Distribution Network
– From an inventory standpoint, the more nodes we’ve in a Supply Chain, the more aggregated Safety Stock
we will have due to the fact that:
• We’re disaggregating demand. The more detailed a forecast is, the more errors it will get (forecast
from families is more accurate that item forecast).
– Increasing nodes has some advantages (i.e. be closer to demand and increase service level provided to
customer, plus will allow better outbound transportation costs), but:
• Will potentially imply and increase on inbound costs and rebalancing costs.
• Will increase warehousing costs.
• Will increase inventory driven costs (as we will have more inventory E2E).
• Will increase in transit inventory amount.
• So trade-off needs to be done.
Transportation Infrastructure, pages 37-42
REMEMBER ?
Square Root rule in Practice:

- Aggregated SS in $75/barrel situation: $225M
- From 5x to 7x Warehouses
#𝑊𝐻𝑛𝑒𝑤 7
𝑆𝑆𝑛𝑒𝑤 = 𝑆𝑆𝑜𝑙𝑑 = 225 = $266𝑀
#𝑊𝐻𝑜𝑙𝑑 5
- Increase of 18%
Questions
What is a major issue with global supply chain event

management for international shipments?
Answer 1 Organizations must have resources dedicated to monitor

event management for each international shipment
Answer 2 Status notifications sent by carriers must be reviewed for

each international shipment even when the shipment is on time
Answer 3 System or timing inconsistencies can occur at the interfaces

between multiple carriers and multiple modes for international
shipments
Answer 4 Transportation modes cannot be changed to reroute delayed

international shipments during transit
QUESTION 1 LB6 – Inventory Management
Questions

Answer 1 Organizations must have resources dedicated to monitor

event management for each international shipment
Answer 2 Status notifications sent by carriers must be reviewed for

each international shipment even when the shipment is on time
Answer 3 System or timing inconsistencies can occur at the interfaces

between multiple carriers and multiple modes for international
shipments
Answer 4 Transportation modes cannot be changed to reroute delayed

international shipments during transit
Questions

A major issue with global supply chain event management for

international shipments is that system or timing inconsistencies can
occur at the interfaces between multiple carriers and multiple
modes.
Instead of monitoring event management for each shipment and

reviewing status notifications for on-time shipments, organizations
expect to be notified when there is a problem or an
exception. Transportation modes or the flow can be changed to
reroute delayed international shipments during transit.
Questions
What are the two key indicators of inventory

performance to consider when designing an inventory
policy?
Answer 1 Average inventory and service level

Answer 2 Inventory accuracy and inventory control
Answer 3 Inventory turns and return on total assets
Answer 4 Order fill and performance cycle
Questions

policy?
Answer 1 Average inventory and service level

Answer 2 Inventory accuracy and inventory control
Answer 3 Inventory turns and return on total assets
Answer 4 Order fill and performance cycle
Questions

policy?
The two key indicators of inventory performance to consider when
designing an inventory policy are average inventory and service level.
Management must consider specific inventory relationships to determine
inventory policy with respect to when and how much to order.
Inventory control is the managerial procedure for implementing an

inventory policy, which affects inventory accuracy. Inventory turns and
return on total assets are measures of asset productivity. Order fill and
performance cycle are specific measures of service level.
Questions
Which prime function of inventory is best described as

accommodating unexpected delays in order receipt
and order processing in delivery?
Answer 1 Buffering uncertainty

Answer 2 Decoupling
Answer 3 Geographical specialization
Answer 4 Supply and demand balancing
Questions

Answer 1 Buffering uncertainty

Answer 2 Decoupling
Answer 3 Geographical specialization
Answer 4 Supply and demand balancing
Questions

Buffering uncertainty is the inventory function which accommodates unexpected
delays in order receipt and order processing in delivery. It also accommodates
uncertainty related to demand in excess of forecast. It is typically referred to as
safety stock.
Decoupling allows economy of scale within a single facility. It permits each process
to operate at maximum efficiency rather than having the speed of the entire process
constrained by the slowest. Geographical specialization allows geographical
positioning across multiple manufacturing and distributive units of an enterprise.
Inventory maintained at different locations and stages of the value-creation process
allows specialization. Supply and demand balancing accommodates elapsed time
between inventory availability (manufacturing, growing or extraction) and
consumption.
Questions
Based on the inventory data provided for Product XX2

for a normal performance cycle, what is the average
inventory for Product XX2?
Maximum Stock Level $100,000
Minimum Stock Level $40,000
Order Quantity $60,000
Safety Stock $15,000
In-transit Stock $5,000
Answer 1 $30,000
Answer 2 $50,000
Answer 3 $60,000
Answer 4 $75,000
Questions

Maximum Stock Level $100,000
Minimum Stock Level $40,000
Order Quantity $60,000
Safety Stock $15,000
In-transit Stock $5,000
Answer 1 $30,000
Answer 2 $50,000
Answer 3 $60,000
Answer 4 $75,000
Questions

The formula to calculate a typical average inventory is one-half order quantity +

safety stock + in-transit stock.
The average inventory is $50,000.

The calculation is:
$50,000 = ($60,000 / 2) + $15,000 + $5,000
Questions
A company utilizes the continuous review inventory model for

Product XX1. Based on the annual demand and cost data
provided, what is the economic order quantity (EOQ) for Product
XX1?
Annual Demand (units) 3,600
Unit Cost $30
Inventory Carrying Cost 20%
Ordering Cost $50
Answer 1 147
Answer 2 173
Answer 3 245
Answer 4 360
Questions

XX1?
Annual Demand (units) 3,600
Unit Cost $30
Inventory Carrying Cost 20%
Ordering Cost $50
Answer 1 147
Answer 2 173
Answer 3 245
Answer 4 360
Questions

XX1?
2 · 𝐶𝑜 · 𝐷
𝐸𝑂𝑄 =
%𝐼𝑁𝑉 · 𝐶𝑢
• EOQ: Economic Order Quantity (units)
• Co: Cost per Order ($)
• D: Annual Demand (units)
• %inv: Percentage of Annual Inventory Carrying Cost
• Cu: Cost per unit ($)
2 · $50 · 3.600
𝐸𝑂𝑄 = = 𝟐𝟒𝟓
20% · $30
Questions
A company uses the perpetual inventory system for Product

XX3. The average daily demand is 200 units, the safety
stock level is 40 units and the performance cycle length is
12 days.
What is the optimal reorder point for Product XX3?
Answer 1 2.400
Answer 2 2.440
Answer 3 2.880
Answer 4 3.320
Questions

12 days.
Answer 1 2.400
Answer 2 2.440
Answer 3 2.880
Answer 4 3.320
Questions

12 days.
𝑅𝑂𝑃𝑐𝑜𝑛𝑡𝑖𝑛𝑢𝑜𝑢𝑠 = 𝐷𝑑𝑎𝑖𝑙𝑦 · 𝐿𝑇 + 𝑆𝑆
• ROPcontinuous: Reorder Point for the continuous (perpetual) review model (units)
• Ddaily: Daily Demand (units/day)
• LT: Lead Time (days)
• SS: Safety Stock (units)
𝑅𝑂𝑃𝑐𝑜𝑛𝑡𝑖𝑛𝑢𝑜𝑢𝑠 = 200𝑢𝑛𝑖𝑡 · 200𝑑𝑎𝑦𝑠 + 40𝑢𝑛𝑖𝑡𝑠 = 𝟐. 𝟒𝟒𝟎 𝒖𝒏𝒊𝒕𝒔
Questions
A company uses the periodic inventory system for Product

stock level is 100 units, the performance cycle length is 12
days and the review period is 7 days.
Answer 1 7.850
Answer 2 9.300
Answer 3 9.500
Answer 4 9.600
Questions

Answer 1 7.850
Answer 2 9.300
Answer 3 9.500
Answer 4 9.600
Questions

𝑅𝑃
𝑅𝑂𝑃𝑝𝑒𝑟𝑖𝑜𝑑𝑖𝑐 = 𝐷𝑑𝑎𝑖𝑙𝑦 · 𝐿𝑇 +
+ 𝑆𝑆
2
• ROPperiodic: Reorder Point for the periodic review model (units)
• RP: Review Period (days)
7𝑑𝑎𝑦
𝑅𝑂𝑃𝑝𝑒𝑟𝑖𝑜𝑑𝑖𝑐 = 500𝑢𝑛𝑖𝑡 · 12𝑑𝑎𝑦 + + 100𝑢𝑛𝑖𝑡 = 𝟕. 𝟖𝟓𝟎𝒖𝒏𝒊𝒕
2
Questions
What is a key characteristic of distribution

requirements planning (DRP)?
Answer 1 DRP coordinates and controls inventory until

manufacturing or assembly is completed
Answer 2 DRP coordinates the scheduling and integration of
raw materials into finished goods inventory
Answer 3 DRP is applicable to an independent demand
environment where uncertain customer requirements drive inventory
requirements
Answer 4 DRP is driven by a production schedule that time-
phases raw material arrivals to support the production schedule
Questions

Answer 1 DRP coordinates and controls inventory until

manufacturing or assembly is completed
Answer 2 DRP coordinates the scheduling and integration of
raw materials into finished goods inventory
Answer 3 DRP is applicable to an independent demand
environment where uncertain customer requirements drive inventory
requirements
Answer 4 DRP is driven by a production schedule that time-
phases raw material arrivals to support the production schedule
Questions

A key characteristic of DRP is that it is applicable to an independent

demand environment where uncertain customer requirements drive
inventory requirements.
Materials requirements planning (MRP) coordinates and controls
inventory until manufacturing or assembly is completed, coordinates
the scheduling and integration of raw materials into finished goods
inventory, and is driven by a production schedule that time-phases raw
material arrivals to support the production schedule.
Questions
Which type of collaborative inventory replenishment

program gives suppliers the right to anticipate future
requirements and eliminates the need for the retailer to
track unit sales and inventory levels for fast-moving
products?
Answer 1 On-demand replenishment

Answer 2 Profile replenishment
Answer 3 Quick response
Answer 4 Vendor-managed inventory
Questions

products?
Answer 1 On-demand replenishment

Answer 2 Profile replenishment
Answer 3 Quick response
Answer 4 Vendor-managed inventory
Questions

products?
Profile replenishment gives suppliers the right to anticipate future requirements
based on a category profile and eliminates the need for the retailer to track unit
sales and inventory levels for fast-moving products.
Quick response is implemented by sharing retail sales for specific products
between supply chain participants to facilitate right product assortment availability
when and where it is required. Vendor-managed inventory is implemented by the
supplier assuming responsibility for replenishing retail inventory in the required
quantities, colors, sizes and styles based on daily transmissions of retail sales and
warehouse shipments data. On-demand replenishment is utilized for high cost
items with variable demand and/or delivery, but is not generally considered a
collaborative technique.
Questions
An inventory manager is classifying the

company's products utilizing the ABC Classific
classification system based on sales Product Annual % Total Accumulated
ation
volume. The manager has collected the ID Sales $ Sales Sales
sales volume for the company's nine Category
products and calculated each product's
percentage of total sales volume and its 1 35,000 35.0% 35.0%
accumulated sales percentage. 2 30,000 30.0% 65.0%
Based on the data provided, which 3 15,000 15.0% 80.0%

products should the manager classify as
"B" items? 4 9,000 9.0% 89.0%
5 6,000 6.0% 95.0%
Answer 1 Products 4 and 5 6 2,000 2.0% 97.0%

Answer 3 Products 3, 4 and 5
8 1,000 1.0% 99.5%
9 500 0.5% 100%
100,000
Questions
An inventory manager is classifying the

company's products utilizing the ABC Classific
classification system based on sales Product Annual % Total Accumulated
ation
volume. The manager has collected the ID Sales $ Sales Sales
sales volume for the company's nine Category
products and calculated each product's
percentage of total sales volume and its 1 35,000 35.0% 35.0%
accumulated sales percentage. 2 30,000 30.0% 65.0%
Based on the data provided, which 3 15,000 15.0% 80.0%

products should the manager classify as
"B" items? 4 9,000 9.0% 89.0%
5 6,000 6.0% 95.0%

8 1,000 1.0% 99.5%
9 500 0.5% 100%
100,000
Questions
An inventory manager is classifying the company's products utilizing the ABC

classification system based on sales volume. The manager has collected the
sales volume for the company's nine products and calculated each product's
percentage of total sales volume and its accumulated sales percentage.
Based on the data provided, which products should the manager classify as
"B" items?
The manager should classify Products 4 and 5 as "B" items utilizing the
ABC classification system.
Products 1, 2 and 3 would be classified as "A" items, which are the
products that deliver, 80% of the sales volume
Products 4 and 5 would be classified as "B" items, which are the products
that deliver the next 15% (up to 95% accumulated) of the sales volume.
Products 6 through 9 would be classified as "C" items, which are the
remaining products.
Questions
A company currently has one warehouse with an

aggregate safety stock level of 100 units. Based on the
square root rule, what is the estimated safety stock
level in units if the number of warehouses is increased
from one to four?
Answer 1 120
Answer 2 141
Answer 3 173
Answer 4 200
Questions
A company currently has one warehouse with an

aggregate safety stock level of 100 units. Based on the
square root rule, what is the estimated safety stock
level in units if the number of warehouses is increased
from one to four?
Answer 1 120
Answer 2 141
Answer 3 173
Answer 4 200
Questions
A company currently has one warehouse with an aggregate safety

stock level of 100 units. Based on the square root rule, what is the
estimated safety stock level in units if the number of warehouses is
increased from one to four?
#𝑊𝐻𝑛𝑒𝑤
𝑆𝑆𝑛𝑒𝑤 = 𝑆𝑆𝑜𝑙𝑑
#𝑊𝐻𝑜𝑙𝑑
• SSnew: Safety Stock for new number of Warehouses (units)
• SSold: Safety Stock for old number of Warehouses (units)
• #WHnew: New number of Warehouses (units)
• #WHold: Old number of Warehouses (units)
4
𝑆𝑆𝑛𝑒𝑤 = 100 · = 𝟐𝟎𝟎𝒖𝒏𝒊𝒕𝒔
1
Managing Inventory Investment Effectively
Introduction
• Lecture 2: Managing Inventory Investment Effectively
– Reference: Trent, Robert J. Managing Inventory Investment Effectively.

Supply Chain Management Review. Mar.-Apr. 2002, vol.6, nº2,
– Focus: Focus on explaining why efficient inventory management should

be a business priority in order to properly manage costs, improve
profitability and enhance shareholder value.(8 pages):
1. Translating Data Into Financial Returns

2. The Three Vs model (Volume, Value, Velocity)
3. Investment Management Tactics
4. A Best Practice
Translating Data Into Financial Returns, pages 1-2
How inventory management activities can affect key performance indicators

See Exhibit 1
– Difference in Firm A and B: detailed in next Slide
• Firm B has half of inventory
• Firm B has a slightly higher profit
margin than A
– Higher profit margin of Firm B is related to
lower average carrying cost resulting from
shorter periods of storage, less inventory
handling and reducing cycle counting
requirements.
– Doubling inventory turns combined with the
benefit of lower inventory-related expenses
contribute to a higher inventory margin and
increases Return on investment from 9,36
to 11,55 (25%)
Translating Data Into Financial Returns, pages 1-2
Translating Data Into Financial Returns

– Example assuming sales = 200M$
Assets (M$) Firm A Firm B

Cash 10 10
Securities 15 15
Receivables 8 8
Inventories 20 10
Plant / Equipment 75 75
Total Assets 128 118
Inventory Turnover (Sales/Inventory) 200/20 = 10 turns/year 200/10 = 20 turns/year
Asset Turnover (Sales/Total Assets) 200/128 = 1,56 turns/y 200/118 = 1,69 turns/y
Return On Investment
6% x 1,56 = 9,36% 7% x 1,69 = 11,55%
(Profit Margin x Asset Turnover)
The Three Vs Model, pages 2-3
The Three Vs Model: How should we measure inventory and which inventory
dimensions should we track?
•Definition: Amount of physical inventory that a company owns E2E

•Question: How much inventory do we own?
•Measures: Total units
Volume •Activities: Improved forecasting, supplier-provided consignment, vendor managed inventory, etc.
•Definition: How quickly raw materials and WIP stock become finished goods that are accepted/paid for
•Question: How fast do we move inventory toward the customer? Higher velocity requires a lower commitment of working
capital and improves cash flow
•Measures: Inventory turns, material throughput rates, order to cash cycle time
Velocity •Activities: Lean supply practices, make-to-order production
•Definition: Unit cost and total dollar value of inventory

•Question: What is the dollar cost and total value of the different types of stock that we own?
•Measures: Total dollars, period-by-period unit value changes, ratio of sales to working capital
Value •Activities: Product simplification and standardization – leveraged purchase agreements
The Three Vs Model, pages 2-3
Volume Velocity
Value
Volume pertains to Value pertains to the Value pertains to
the amount of unit cost and total how quickly raw
physical inventory a dollar value of material and WIP
company owns at inventory become finished
any given time Key question: What goods that are
across the Supply is the unit cost and accepted and paid
Chain total value of the for by the customer
different types of Key question: How
Key question: How inventory own. fast do we move
much and what Key measures: Total inventory toward the
types of inventory dollars period by customer?
do we own? period and value Key measures:
Key measures: Total changes ratio of Inventory turns,
units, total $$ sales to working material throughput
Activities affecting capital rates, order to cash
volume: Improved Activities affecting cycle time
forecasting value : Product Activities affecting
techniques supplier implication and velocity : Lean supply
provided standardization and chain practices, make
consignment leveraged purchase to order production
inventory agreements
Working Capital Increased Increase Customer Improved Asset
Reduction Profitability Satisfaction Return
Investment Management Tactics, pages 3-6
Investment Management Tactics: in order to ensure better management of

working capital, improved customer service levels, profitability and ROI.
• Tactic 1. Improve Inventory Record Integrity: ensure Physical Material

On Hand (POH) matches Registered Material On Hand (ROH). Baseline to
discuss about the 3 Vs as we need to have confident inventory mgmt.
systems and processes. If any gap we should correct it immediately.
• Tactic 2. Improve Product Forecasting: better forecasting implies less

inventory volumes and carrying charges, less safety stocks, less
misallocations of products, less cost, higher profit, higher customer service /
availability. The less we spend/invest on inventory, the more money
we’ve to invest in other areas of the business.
Investment Management Tactics, pages 3-6

• Tactic 3. Create a Planning System Structure: holistic approach should be

taken while understanding the supply chain, developing systems to support
the continuous flow of inventory E2E. These means both organizational and
IT systems to ensure E2E accountability of inventory, embedding
purchasing, inventory and supply & demand management.
• Tactic 4. Pursue a Lean Supply Chain: focus on shortening time between a

customer order and shipment to the customer by eliminating ‘waste’. Based
on lean purchasing –reduced and aligned supply base, customer oriented-,
lean logistics –reduced and aligned carrier base, flexible and specialized-
and lean operations –process redesign, continuous flow, total quality-.
Questions

• Tactic 5. Standardize and Simplify Design: simple design implies less item
or part numbers, less suppliers, reduced inventory transactions, reduced
costs and also reduced inventory management costs. Standardization also
allows sharing parts and re-use them in some cases.
• Tactic 6. Leverage Companywide Procurement: aggregate buying power

of the company leads to huge savings driven by reduced material costs,
mainly. Lower material costs imply lower inventory value (and more profit!).
Questions
A fund manager for an

investment management firm Category Company A Company B Company C Company D
collected key financial data on Cash 10,000 10,000 15,000 5,000
four companies (Company A, B,
C and D). Securities 15,000 5,000 5,000 10,000
Receivables 50,000 45,000 50,000 60,000
If the fund manager's priority is
to invest in the company with Inventories 35,000 40,000 40,000 30,000
the highest asset turnover, in Plant and Equipment 100,000 125,000 90,000 85,000
which company should it invest
based on the financial data Total Assets 210,000 225,000 200,000 190,000
provided?
Answer 1 Company A Sales 300,000 300,000 300,000 300,000
Answer 2 Company B Profit Margin 6% 5% 4% 7%

Answer 3 Company C
Answer 4 Company D
Questions
A fund manager for an

investment management firm Category Company A Company B Company C Company D
collected key financial data on Cash 10,000 10,000 15,000 5,000
four companies (Company A, B,
C and D). Securities 15,000 5,000 5,000 10,000
Receivables 50,000 45,000 50,000 60,000
If the fund manager's priority is
to invest in the company with Inventories 35,000 40,000 40,000 30,000
the highest asset turnover, in Plant and Equipment 100,000 125,000 90,000 85,000
which company should it invest
based on the financial data Total Assets 210,000 225,000 200,000 190,000
provided?
Answer 1 Company A Sales 300,000 300,000 300,000 300,000
Answer 2 Company B Profit Margin 6% 5% 4% 7%

Answer 3 Company C
Answer 4 Company D
Questions
A fund manager for an investment management firm collected key

financial data on four companies (Company A, B, C and D).
If the fund manager's priority is to invest in the company with the

highest asset turnover, in which company should it invest based
on the financial data provided?
• Company D has the highest asset turnover at 1.6 ($300,000 / $190,000).

• Company C has an asset turnover of 1.5 ($300,000 / $200,000).
• Company A has an asset turnover of 1.4 ($300,000 / $210,000).
• Company B has an asset turnover of 1.3 ($300,000 / $225,000).
.
Questions
In the three V's (volume, value, velocity) model of

inventory management, which key performance metric
would be included as a measure for the volume
objective?
Answer 1 Inventory turns

Answer 2 Order-to-cash cycle time
Answer 3 Number of units of safety stock
Answer 4 Total value of inventory
Questions

objective?
Answer 1 Inventory turns

Answer 2 Order-to-cash cycle time
Answer 3 Number of units of safety stock
Answer 4 Total value of inventory
Questions

objective?
Volume in the three Vs model relates to the amount of inventory that an

organization owns at any given time. Number of units of safety
stock would be a key measure for the volume objective.
Inventory turns and order-to-cash cycle time are key measures for
the velocity objective. Total value of inventory is a key measure for
the value objective.
The Real Cost of Holding Inventory
Introduction
Lecture 3: The Real Cost of Holding Inventory

– Reference: Timme, S. and Williams-Timme, C. The Real Cost of Holding
Inventory. Supply Chain Management Review [en PDF]. July-August 2003,
vol.7, nº4
– Focus: Explain the end-to-end cost of holding inventory, in order to ensure
that inventory management practices and decisions take into consideration
the impact of inventory over cost (8 pages):
1. Total Cost of Holding Inventory

2. Inventory Noncapital Carrying Costs
3. Inventory Capital Charge
4. The Weighted Average Cost of Capital (WACC)
5. Why to Use WACC?
6. Practical Applications
7. The Goal: Better Decision Making
Total Cost of Holding Inventory, page 31
Total Cost of Holding

Inventory:
• Total cost is usually

expressed as percentage
of the overall inventory
investment for
benchmarking purposes
• Inv. Noncapital Carrying

Costs usually around
10%.
• Noncapital cost
estimations and cost of
capital estimations
represent the biggest
challenge.
Inventory Noncapital Carrying Costs, page 31-32
Inventory Noncapital Carrying Costs

(INC Costs)
• U.S. companies close to 10% of

inventory. Highly depends on
obsolescence:
– Retail: 6%
– Electronics: 15%
• Systems do not usually capture

these costs in a way that provides
useful information for decision-
making purposes, plus it’s not
usually detail at a product line,
geographical level, customer group
or channel.
• While evaluating inventory reduction

initiatives, INC costs should be
included as savings can be
representative.
Inventory Capital Charge, pages 32-33
Inventory Capital Charge
– Calculated as  Inventory x Cost of Capital

• Often excess non-capital costs
• Usually understimated because wrong cost of capital is applied. Reasons:
(1) mismatch between the risk of inventory and the cost of capital
(2) the mixing of after-tax capital charges with before-tax non-capital carrying
charges.
• Cost of Capital The opportunity cost of investing in an asset relative to the

expected return on assets of similar risks.
– Ascertaining the risk of inventory is key to deciding what cost of capital should be
used to calculate the inventory capital charge (not always will be comparable to the
S&P500 – IBEX35).
– Major risk of holding inventory is that its value may vary due to price reductions,
lower demand, and obsolescence
• Micron Technology | 2002 | Write-Off $174 million Inventory (DRAM  SDRAM)
• Cisco | 2001 | Write-Off $2.2bn Overall
Weighted Average Cost of Capital, pages 33-35
(2) The mixing of after-tax capital charges with before-tax non-capital

carrying charges.
Weighted Average Cost of Capital (WACC)

Cost of Equity + After-Tax Cost of Debt
• Cost of Equity: The cost of providing shareholders competitive returns on their invested
dollars
• Cost of Debt: the overall interest rate on the debt taken on to finance the project or
company, reduced by the tax benefit of interest expense.
• Example with one’s personal portfolio:

– 30% of the portfolio invested in corporate bond yielding 6% interest rate
– The rest 70% of the portfolio invested in stocks with long-term expected return 11%
– Weighted average expected return: 0,3 x (6%) + 0,7 x (11%) = 9,5%
• For a company
WACC = %Equity x CostOfEquity + %Debt x CostOfDebt x (100 – MarginalTaxRate)
– %Equity: The percentage of capital financed by equity
– %Debt: The percentage of capital financed by debt
Questions
A company uses a
weighted average cost
of capital (WACC) to % Equity 75.0%
calculate its inventory
capital charge. Based % Debt 25.0%
on the data provided,
what is the company's
WACC? Cost of Equity (after tax) 12.0%
Cost of Debt 7.0%

Answer 1 9,0 %
Answer 2 9,8 % Marginal Tax Rate 43.0%
Answer 3 10,0 %
Answer 4 10,8 %
Questions
A company uses a
weighted average cost
of capital (WACC) to % Equity 75.0%
calculate its inventory
capital charge. Based % Debt 25.0%
on the data provided,
what is the company's
WACC? Cost of Equity (after tax) 12.0%
Cost of Debt 7.0%

Answer 1 9,0 %
Answer 2 9,8 % Marginal Tax Rate 43.0%
Answer 3 10,0 %
Answer 4 10,8 %
Questions
A company uses a weighted average cost of capital

(WACC) to calculate its inventory capital charge. Based
on the data provided, what is the company's WACC?
𝑊𝐴𝐶𝐶 = %𝐸𝑞 · 𝐶𝑜𝑠𝑡𝐸𝑞 + %𝐷𝑒𝑏𝑖𝑡 · 𝐶𝑜𝑠𝑡𝐷𝑒𝑏𝑖𝑡 · 1 − 𝑀𝑎𝑟𝑔𝑇𝑎𝑥𝑅𝑎𝑡𝑒
𝑊𝐴𝐶𝐶 = 0,75 · 12% + 0,25 · 7% · 1 − 0,43 = 𝟏𝟎%
Understanding Inventory Fundamentals
Introduction
• Lecture 4: Understanding Inventory Fundamentals
– Reference: Morgan Swink (et al.). Managing Operations across the

Supply Chain [online]. 1st Edition. McGraw-Hill/Irwin, 2011. Chapter 7:
Understanding Inventory Fundamentals.
– Focus: Explain the real basics about Inventory Management: from

management and financials to management and control. Very important
lecture if you’re not familiar with this area, to set a baseline (24 pages):
1. Types and Roles of Inventory

2. The Financial Impact of Inventory
3. Measurements of Inventory Performance
4. Managing Inventory
5. Managing Inventory across the Supply Chain
Types of Inventory, page 212
Types of Inventory: Different classifications are used in real-business:
– Raw Materials and Component parts: items that are bought from suppliers to
use in the production of a product.
– Work In Progress (WIP) Inventory: inventory that is in the production process

being used or moved within the production lines or cells.
– Finished Goods Inventory (FGI): Items that are ready to be sold to customers.
Might require some finalization in the product completion centers (PCC), but this
rework is minor.
– Maintenance, Repair and Operating Supplies (MRO) Inventory: items that

are used for support/service activities and organizations (spare parts).
– In Transit Inventory: items being transported from one location to another. Can’t
be used to satisfy customer requirements and can include inbound/outbound
flows (depending on supply chain design).
The Financial Impact of Inventory, pages 213-215
The Financial Impact of Inventory

– Inventory appears in balance sheet as an asset and represents an important
part. On channel distribution, this inventory goes up to 30-40%. Lowering the
stock of inventory implies increasing cash-flow and working capital.
– Costs Related to Inventory:

1. Carrying/Holding Costs: expenses that are incurred due to hold inventory.
Includes opportunity, owning & maintenance, taxes, insurance,
obsolescence and loss, handling/tracking/management costs (assumed
around 20% vs Inventory amount in dollars).
2. Order and Setup Costs: expenses incurred in placing and receiving orders
from suppliers (order) plus administrative expenses and expenses of
rearranging a work center to produce and item (setup).
3. Stockout Costs: cost incurred when inventory is not available to meet
demand. Very difficult to estimate and measure.
Measures of Inventory Performance, pages 215-219
Measures of Inventory Performance
1. Asset Productivity: Inventory Turnover and Days of Supply
– A. Inventory Turnover in [turns/year]:

• (Cost of Goods Sold) / (Average Inventory –cost-) most common
• (Net Sales) / (Average Inventory –sales price-) retailers
• (Unit Sales) / (Average Inventory –in units) if Cost vs Selling Price vary
Gasoline
• The faster the inventory rotates, the better:

– Rapid flow of fresh items implies also increased sales volume.
– Less risk of obsolescence or need to mark down or discount prices.
– Decreased expenses related to holding inventory.
– Lower asset investment and increased asset productivity.
1. Asset Productivity: Inventory Turnover and Days of Supply
– B. Days of Supply and Days of Inventory:
• Operational: (Inventory) / (Expected Daily Demand) [real days]
– Operational measurement (DOS) is used to determine current stock

levels versus demand, for planning purposes.
• Financially: (Inventory x 365) / (Cost of Sales) [finance days]
– Financial measurement (DOI) is used to determine the effectiveness of

inventory management activities within a year / quarter / etc..
2. Service Level
– Depending the inventory levels that we decide to have we will be able to
support higher or lower service level requirements.
– The other way round: depending on our service level requirement, we will
have to define our Inventory Policy
• Consequence of MRO items stockouts
– Service Level is a measure that indicates how well the objective of meeting
customer demand is met.
• There are multiple metrics associated to this measurement and it
strongly depends on the business model, phase and industry.
– Stockouts usually rate around 8% of items available in retail
stores.
– Stockouts in the case of promotions raise up to 16% (average).
Managing Inventory, pages 219-225
4. Managing Inventory
– A. Inventory Classification: ABC Analysis
• Rank all the items according to their

importance (determined by sales/profit
results, strategic importance, inventory
weight).
• Usual approach is based on using

Pareto’s Law (20%-80%), that basically
states that:
– 10-20% of the products account
for 70-80% of the sales [A].
– 30% of the products account for
15-20% of the sales [B].
– 50% of the products account for 5-
10% of the sales [C].
Managing Inventory, pages 219-225
– B. Inventory Information Systems and Accuracy: accurate systems

and records are needed (basic) to properly manage inventory.
– Key concepts associated to inventory product management:
• GTIN (Global Trade Item Number): item identification system for

finished goods sold to customers. There are several variations:
– UPC (Universal Product Code),
– EAN (European Automatic Numbering)
– Uniform Code Council (UCC) for manufacturers.
• Inventory Record Accuracy: based on proper ERP systems in

place and scanning features to perform picking, POS sales activity,
etc. depending on the business.
Managing Inventory across the SC, pages 225-227
Managing Inventory across the Supply Chain
– A. Bullwhip Effect: a small disturbance generated by a (end) customer

produces successively larger disturbances at each upstream stage in the supply
chain. Can be addressed with E2E communication and alignment.
Managing Inventory across the SC, pages 225-227
Managing Inventory across the Supply Chain
– B. Integrated Supply Chain Inventory Management: focus is to

integrate decision-making and execution. Approaches are:
• Vendor Managed Inventory (VMI): Vendor is responsible for

managing the inventory located at customer’s facility. Usually
vendor owns stock until sales are done but gets more details on
end-customer / sales activities.
• Collaborative Planning, Forecasting and Replenishment

(CPFR): Supply Chain partner firms share information and insights
in order to generate better forecasts and plans.
Questions
What effect can a high inventory turnover rate have on

an organization?
Answer 1 It can decrease investments in assets and increase

asset productivity
Answer 2 It can decrease sales volume due to more frequent
stockouts
Answer 3 It can increase the expenses associated with holding
inventory
Answer 4 It can increase the need to mark down prices
Questions

an organization?
Answer 1 It can decrease investments in assets and increase

asset productivity
Answer 2 It can decrease sales volume due to more frequent
stockouts
Answer 3 It can increase the expenses associated with holding
inventory
Answer 4 It can increase the need to mark down prices
Questions

an organization?
A high inventory turnover rate can allow an organization to decrease

investments in assets, which would increase asset productivity.
A high inventory turnover rate can increase, not decrease, sales volume due
to having rapid flow of new or fresh items.
A high inventory turnover rate can decrease, not increase, the costs
associated with holding inventory due to lower inventory levels.
A high inventory turnover rate can decrease, not increase, the need to mark
down prices due to less risk from stale inventory.
Questions
For the month, the beginning inventory was 1,200 units and
the ending inventory was 2,000 units for a product. Product
sales are projected to average 40 units per day.
At the end of the month, what is the inventory days of
supply?
Answer 1 20
Answer 2 30
Answer 3 40
Answer 4 50
Questions
supply?
Answer 1 20
Answer 2 30
Answer 3 40
Answer 4 50
Questions
supply?
𝐶𝑢𝑟𝑟𝑒𝑛𝑡 𝐼𝑛𝑣𝑒𝑛𝑡𝑜𝑟𝑦
𝐷𝑂𝑆 =
𝐸𝑥𝑝𝑒𝑐𝑡𝑒𝑑 𝐷𝑎𝑖𝑙𝑦 𝐷𝑒𝑚𝑎𝑛𝑑
• DOS: Days of Supply (days)
2.000 𝑢𝑛𝑖𝑡𝑠
𝐷𝑂𝑆 = = 𝟓𝟎 𝒅𝒂𝒚𝒔
40 𝑢𝑛𝑖𝑡/𝑑𝑎𝑦
Questions
A company has annual cost of goods sold of $100,000

and average inventory of $20,000 at cost. How many
days does it take for the inventory to turnover?
Answer 1 5
Answer 2 20
Answer 3 60
Answer 4 73
Questions

Answer 1 5
Answer 2 20
Answer 3 60
Answer 4 73
Questions

365 𝑉𝑎𝑙𝐴𝑣𝑔𝐼𝑛𝑣
𝐷𝑎𝑦𝑠 𝐼𝑇 = = 365 ·
𝐼𝑇 𝐶𝑂𝐺𝑆
Days I.T: Days of Inventory (days)

COGS: Cost of Goods Sold ($)
Val.Avg.Inv.: Value of Yearly Average Inventory ($)
$20.000
𝐷𝑎𝑦𝑠 𝐼𝑇 = 365𝑑𝑎𝑦𝑠 · = 𝟕𝟑 𝒅𝒂𝒚𝒔
$100.000
Independent Demand Inventory Planning
Introduction
• Lecture 5: Independent Demand Inventory Planning
– Reference: Morgan Swink (et al.). Managing Operations across the Supply
Chain [online]. 1st Edition. McGraw-Hill/Irwin, 2011. Chapter 14:
Independent Demand Inventory Planning.
– Focus: Detailed assessment on how to plan and manage inventory in the

cases where demand is independent. Very detailed lecture with a strong
content on formulas and detailed inventory management methodologies,
detailing different models and approaches (28 pages):
1. The Continuous Review Model

2. The Periodic Review Model
3. Single Period Inventory Model
4. Impact of Location on Inventory
5. Managerial Approaches to Reducing Inventory Costs
The Continuous Review Model, pages 420-430
Two basic questions to address:

• How much should be ordered?
• When the order should be placed?
– Key concepts:
• Economic Order Quantity (EOQ) = Order quantity that minimizes the sum of
annual inventory carrying costs and annual ordering cost.
• Total Acquisition Cost (TAC) = all relevant inventory costs incurred each year.
• Reordering Point (ROP) = Minimum level of inventory that triggers the need to
order more.
• Production Order Quantity (POQ) = The most economic quantity to order when
units become available at the rate at which they are produced.
Economic Order Quantity (EOQ) = Order quantity that minimizes the

sum of annual inventory carrying costs and annual ordering cost.
2 · 𝐶𝑜 · 𝐷
𝐸𝑂𝑄 =
%𝐼𝑁𝑉 · 𝐶𝑢
• EOQ: Economic Order Quantity (units)
Total Acquisition Cost (TAC) = all relevant inventory costs incurred

each year.
𝑇𝐴𝐶 = 𝐴𝑛𝑛𝑢𝑎𝑙 𝑜𝑟𝑑𝑒𝑟𝑖𝑛𝑔 𝑐𝑜𝑠𝑡 + 𝑎𝑛𝑛𝑢𝑎𝑙 𝑐𝑎𝑟𝑟𝑦𝑖𝑛𝑔 𝑐𝑜𝑠𝑡 + 𝐴𝑛𝑛𝑢𝑎𝑙 𝑃𝑟𝑜𝑑𝑢𝑐𝑡 𝐶𝑜𝑠𝑡
𝑄
= 𝐶𝑜 · 𝐷ൗ𝑄 + 𝐶𝑢 · %𝐼𝑁𝑉 · ൗ2 + 𝐶𝑢 · 𝐷
• TAC: Total Acquisition Cost ($)

• Q: Order Quantity (units)
Reordering Point (ROP) = Minimum level of inventory that triggers the need to order
more.
𝑅𝑂𝑃𝑐𝑜𝑛𝑡𝑖𝑛𝑢𝑜𝑢𝑠 = 𝐷𝑑𝑎𝑖𝑙𝑦 · 𝐿𝑇 + 𝑆𝑆
• ROPcontinuous: Reorder Point for the continuous (perpetual) review model (units)
𝑅𝑃
𝑅𝑂𝑃𝑝𝑒𝑟𝑖𝑜𝑑𝑖𝑐 = 𝐷𝑑𝑎𝑖𝑙𝑦 · 𝐿𝑇 + + 𝑆𝑆
2
• ROPperiodic: Reorder Point for the periodic review model (units)
• RP: Review Period (days)
Production Order Quantity (POQ) = The most economic quantity to

order when units become available at the rate at which they are
produced.
2 · 𝐶𝑜 · 𝐷
𝑄𝑝 =
𝑑
%𝐼𝑁𝑉 · 𝐶𝑢 · 1 −
𝑝
• Q: Production Order Quantity (units)

• Co: Set-up Cost (Same concept as Ordering Point in EOQ
• d: daily rate of customer demand
• p: daily rate of production
Cycle inventory: inventory needed to cover average demand by re-ordering

period (i.e. one month). See the Graphic:
Safety inventory : stock needed to deal with supply chain uncertainty (delays,
seasonality, sales increase, etc.). by periods (i.e. monthly). Graphically:
Safety inventory: if we simulate a less optimum scenario the result should be

like this:
Entering variability and Uncertainty:

Cycle stock Safety stock
Demand frequency
Cycle stock Safety Stock
Demand frequency
0 0
Average Average
Decisions policy Decisions Policy
Uncertainty Factors: Customer deliveries

• Transportation delays
Manufacturing • Docking availability
• Equipment brokerage • Inventory
• Quality problems
• Capacity problems
Suppliers
• Capacity problems Sales Forecast
• Quality problems • Lack ok historic data
• Location • Growth increase
• Response Capacity • Level increase
• Transportation • Seasonality
Determining the Inventory Level (Safety Stock vs Service Level)

• In order to calculate the inventory level, we should be able to quantify the supply
and demand uncertainty grade that each business presents. The factors to be
considered to measure uncertainty are:
– Average Demand (m) by period, (i.e. one month).
– Standard Deviation of Demand (σD) by period. Standard deviation of the demand
Furthermore to be more complex in order to calculate more possible uncertainties a new

component is taken into account:
– Standard Deviation of Lead Time (σL) by period , also known as Lead Time Standard
deviation, assuming that Lead Time also presents deviations from a purchase to another.
Target Service Level must be established and agreed by all participants in the
Supply and Demand Planning activities of the business given that Service
Level has a cost associated.
• SL = 100% . This would

avoid stock out options,
but on the other hand
implies infinite stock
available, infinite costs.
• Efficient frontier will

determine Service Level
and Inventory to be
supplied. Its value
oscillates depending on
the business and product
types.
In order to calculate Target Service Level we should work with a component

known as normalization Factor (Z), that will become an inventory multiplier.
• Factor (Z) is the number of

standard deviations
required for the desired
service level agreement
• Z=1  SL 84,13%.
• Z=INF  SL 100%.
Excel -> NORMSINV(SL) o DISTR.NORM.INV (SL)
SL K SL K SL K SL K
50% 0.000 64% 0.358 78% 0.772 92% 1.405
51% 0.025 65% 0.385 79% 0.806 93% 1.476
52% 0.050 66% 0.412 80% 0.842 94% 1.555
53% 0.075 67% 0.440 81% 0.878 95% 1.645
54% 0.100 68% 0.468 82% 0.915 96% 1.751
55% 0.126 69% 0.496 83% 0.954 97% 1.881
56% 0.151 70% 0.524 84% 0.994 98% 2.054
57% 0.176 71% 0.553 85% 1.036 99% 2.326
58% 0.202 72% 0.583 86% 1.080 99.6% 2.652
59% 0.228 73% 0.613 87% 1.126 99.90% 3.090232
60% 0.253 74% 0.643 88% 1.175 99.99% 3.719016
61% 0.279 75% 0.674 89% 1.227 99.999% 4.264891
62% 0.305 76% 0.706 90% 1.282 100% infinite
63% 0.332 77% 0.739 91% 1.341
Calculating Safety Stock

• Simple (Demand Uncertainty)
• z: number of standard deviations

• Avg Cycle stock: required for the desired service
𝑑ҧ · 𝑡ҧ level
𝐶𝑆 =
2 • 𝝈𝒅 : Standard deviation of demand
• Safety stock: (units/day)
• t: Average lead time (days)
𝑆𝑆 = 𝑧 · 𝜎𝑑 · 𝑡ҧ
• d: Average demand (units)
• Avg Stock:
𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝑆𝑡𝑜𝑐𝑘 = 𝐶𝑆 + 𝑆𝑆
Calculating Safety Stock

• Complex
(Demand & distribution Uncertainty) • z: number of standard deviations
required for the desired service
• Avg Cycle stock: level
𝑑ҧ · 𝑡ҧ Supplier • 𝝈𝒅 : Standard deviation of demand
𝐶𝑆 = Performance
2 Uncertainty
(units/day)
• Safety stock: • t: Average lead time (days)
• 𝝈𝒕 : Standard deviation of lead time
𝑆𝑆 = 𝑧 · 𝜎𝑑 2 · 𝑡ҧ + 𝜎𝑡 2 · 𝑑ҧ 2
(days)
Demand Uncertainty • d: Average demand (units)
• Avg Stock:
𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝑆𝑡𝑜𝑐𝑘 = 𝐶𝑆 + 𝑆𝑆
Safety Stock vs Service Level
Stock Control & Service Planning (I)
• There are two last details to be taken into account: 1st It is important to
understand that is almost impossible to reach the frontier efficiency when you
manage the relationship between stock and service level.
• Imagine a business located in the
graph at the inefficient point 1. It’s
true that a business could make it
better than the efficient frontier, but
should be closer than the frontier
efficiency to guarantee that is using
efficiently its inventory resources.
• The company can make these

movements:
• (A) Try to improve service
with the same inventory
level.
• (B) Accept the service level
and optimize its inventory
level.
Stock Control & Service Planning (II)
• As a 2nd suggests It’s recommended to establish and ABC of the products in

order to optimize relationship inventory vs. Service Level. Some guidelines for
the classification are:
– Products A: those generating 80% of sales (according Pareto’s law should

be 20% of the products). Also should be added those critical products for
the business, no matter the value that generates. These products should
have the higher Service Level of the Portfolio.(i.e. 95-99%).
– Products B: those generating the following 15% of sales. This category

normally includes 30-50% of the products. This category should have a
medium service level (i.e. 90-95%).
– Products C: those generating the last 5% of sales. This category include

around 50-30% of the products and should have a Service Level lower than
the other categories but within and acceptable range for the business.(i.e.
80-90%).
Stock Control & Service Planning (III)
• In order to calculate the ABC it is recommend use the following procedure:
1. Calculate Sales/Shipments for each product
2. Calculate % represented vs. the whole products portfolio
3. Classify products from higher to lower percentage
4. Classify products in the system/ categories selected
• Once you have the ABC classification done, stock necessary per each
product (SKU) should be calculated. It is highly recommended to perform
the calculation in a “scenario” format in order to be easily updated (given
that a lot of variables, like Service Level could be changed to evaluate
impact).
Stock Control & Service Planning (IV)
• Safety Stock needs to be set up per each product based on Service Level goals. As
we’ve seen, Service Level calculation is influenced by a lot of factors such as lead
time, Sales Forecast Error, ABC Product Categories, etc.
• That’s the reason why it is recommended that calculation and factors to by

revisited regularly and Plan and Adjust the stock frequently. Some key advices
are:
• Demand is not lineal nor regular.
• Monitor inventory policies regularly.
• Monitor Service Level and Inventory level.
• Manage New Products Introduction (NPI) and
End of life(EOL) process of products and families.
Questions
A retailer currently purchases Category Current Policy

4,000 units of a product annually
from a supplier at a price of $30. Annual Demand (units) 4,000
Based on the data provided for the
current purchasing policy, the total Unit Cost $30
acquisition cost (TAC) for the 4,000 Order Cost (per order) $100
units is $122,195 annually.
The supplier has offered to sell the Inventory Carrying Cost 20%
product for a price of $29 if the EOQ (units) 365
retailer orders 1,000 units for each
purchase instead of 365 units. Number of Orders 11
What would the TAC be if the
retailer took advantage of this Total Acquisition Cost Current Policy
discount?
Order Cost $1,100
Answer 1 $117,495 Inventory Carrying Cost $1,095
Answer 2 $118,195
Product Cost $120,000
Answer 3 $119,300
Answer 4 $120,000 Total Acquisition Cost $122,195
Questions
A retailer currently purchases 4,000 units of a product annually from a

supplier at a price of $30. Based on the data provided for the current
purchasing policy, the total acquisition cost (TAC) for the 4,000 units is
$122,195 annually.
The supplier has offered to sell the product for a price of $29 if the retailer
orders 1,000 units for each purchase instead of 365 units.
What would the TAC be if the retailer took advantage of this discount?
𝑇𝐴𝐶 = 𝐴𝑛𝑛𝑢𝑎𝑙 𝑜𝑟𝑑𝑒𝑟𝑖𝑛𝑔 𝑐𝑜𝑠𝑡 + 𝑎𝑛𝑛𝑢𝑎𝑙 𝑐𝑎𝑟𝑟𝑦𝑖𝑛𝑔 𝑐𝑜𝑠𝑡 + 𝐴𝑛𝑛𝑢𝑎𝑙 𝑃𝑟𝑜𝑑𝑢𝑐𝑡 𝐶𝑜𝑠𝑡
𝑄
= 𝐶𝑜 · 𝐷ൗ𝑄 + 𝐶𝑢 · %𝐼𝑁𝑉 · ൗ2 + 𝐶𝑢 · 𝐷
TAC: Total Acquisition Cost ($)
Co: Cost per Order ($)
D: Annual Demand (units)
Q: Order Quantity (units)
Cu: Cost per unit ($)
%inv: Percentage of Annual Inventory Carrying Cost
𝑇𝐴𝐶 = $100 · 4.000ൗ1.000 + $29 · 20% · 1.000ൗ2 + $29 · 4.000 = $𝟏𝟏𝟗. 𝟑𝟎𝟎
Questions
A retailer is determining the safety stock level to carry in inventory for

a product. For the product, the retailer sells an average of 50 units
each day, the standard deviation of demand is 1.75 units per day, the
average lead time is 20 days and the standard deviation of lead time
is 5.5 days.
The retailer has a target service level of 95 percent for this product.
The standard deviation of safety stock at this service level is 1.65.
How many units of safety stock should the retailer carry in inventory
in whole units?
Answer 1 326
Answer 2 454
Answer 3 550
Answer 4 584
Questions
A retailer is determining the safety stock level to carry in inventory for

a product. For the product, the retailer sells an average of 50 units
each day, the standard deviation of demand is 1.75 units per day, the
average lead time is 20 days and the standard deviation of lead time
is 5.5 days.
The retailer has a target service level of 95 percent for this product.
The standard deviation of safety stock at this service level is 1.65.
How many units of safety stock should the retailer carry in inventory
in whole units?
Answer 1 326
Answer 2 454
Answer 3 550
Answer 4 584
Questions
A retailer is determining the safety stock level to carry in inventory for a product. For the
product, the retailer sells an average of 50 units each day, the standard deviation of
demand is 1.75 units per day, the average lead time is 20 days and the standard
deviation of lead time is 5.5 days.
The retailer has a target service level of 95 percent for this product. The standard
deviation of safety stock at this service level is 1.65.
How many units of safety stock should the retailer carry in inventory in whole units?
𝑆𝑆 = 𝑧 · 𝜎𝑑 2 · 𝑡ҧ + 𝜎𝑡 2 · 𝑑ҧ 2
SS: Safety Stock (units)
z: number of standard deviations required for the desired service level = 1,65
𝝈𝒅 : Standard deviation of demand (units/day) = 1,75
t: Average lead time (days) = 20
𝝈𝒕 : Standard deviation of lead time (days) = 5,5
d: Average demand (units)
𝑆𝑆 = 1,65 · 1,752 · 20 + 5,52 · 502 = 𝟒𝟓𝟒 𝒖𝒏𝒊𝒕𝒔
Questions
What is a key characteristic of single period inventory

models
Answer 1 The quantity ordered varies for every order placed

Answer 2 The value of the inventory does not decrease after
the period is over
Answer 3 There are never any stockout or overstock costs
Answer 4 The inventory is ordered and used only one time
and may have little value after the period is over
Questions

models
Answer 1 The quantity ordered varies for every order placed

Answer 2 The value of the inventory does not decrease after
the period is over
Answer 3 There are never any stockout or overstock costs
Answer 4 The inventory is ordered and used only one time
and may have little value after the period is over
Questions

models
In a single period inventory model, inventory is purchased and used

only one time. A key characteristic of single period inventory models is
that there is not an opportunity to issue a replenishment order.
The quantity ordered does not vary for every order placed since
there is only one order. The inventory may have little value after the
period is over, so the value can decrease significantly. There can be
stockout or overstock costs since, in almost all cases, demand will
not exactly equal supply.
The Infrastructure Squeeze on Global Supply Chains
Introduction
• Lecture 6: The Infrastructure Squeeze on Global Supply

Chains
– Reference: Norek, Christopher D. and Isbell, M. The Infrastructure Squeeze
on Global Supply Chains. Supply Chain Management Review [online]. Oct.
2005, vol.9, nº7 [Consulta 28 abril 2014]. Available in below link:
http://www.chainconnectors.com/SCMR_Infrastructure_Squeeze.pdf.
– Focus: Insights on new supply chain strategies that need to be considered
in regards to inventory and transportation management, driven by the
transportation environment changes that have been taking place these last
years (7 pages):
1. Supply Chain Logistics Changes

2. Current State of US Transportation Infrastructure
3. Importers Change of Strategies
4. Questioning the Traditional View
Case Study: Implementing Replenishment Profile
THANK YOU
http://cscmpcertification.org
This document is authorized for use by CSCMP Spain RT in the course: SCPro Certification at EAE Business School. Any unauthorized use or reproduction of this document is strictly prohibited.

Inventory - Thien Vu

Uploaded by

Document Information

Original Title

Copyright

Available Formats

Share this document

Share or Embed Document

Sharing Options

Did you find this document useful?

Is this content inappropriate?

Copyright:

Available Formats

Inventory - Thien Vu

Uploaded by

Copyright:

Available Formats

Iker Lopategi

Become a Supply Chain Superstar

Learning Block 6 – Inventory Management

2. Lectures and Inventory Management Fundamentals

2. Managing Inventory Investment Effectively (article) – (H)

3. The Real Cost of Holding Inventory (article) (M)

4. Understanding Inventory Fundamentals (H)

5. Independent Demand Inventory Planning (H)

6. The Infrastructure Squeeze on Global Supply Chains (article) - (L)

LB6 – Inventory Management

LB-6: Inventory Management

LB6 – Inventory Management

The Goal & Focus of this Learning Block is the following:

• How the number of inventory locations affects the level of inventory

• Trade-offs between inventory and transportation costs are a critical element in

LB6 – Inventory Management

The Learning Objectives (LOs) of this block are the following:

4. Explain the critical role of technology in planning and managing inventory

5. Define the requirements and challenges of inventory management on a global basis

LB6 – Inventory Management

• Lecture 1: Readings from Supply Chain Logistics Management

1. Business Concepts (Postponement, Purchasing, Inventory Deployment, etc.)

LB6 – Inventory Management

Average Inventory: How to calculate it in Dollars or Units?

• Order Qty = $ 40,000

• A more sophisticated version of “Track & Trace” Systems

– Manage exceptions. Define thresholds for alerts

Inventory Carrying Cost : the expense associated with maintaining inventory

Capital Taxes Insurance Storage Obsolescence

Cost for Product Deterioration of a

Holding (not product during

LB6 – Inventory Management

– WHEN to order (reordering point in a Perpetual Inventory System):

LB6 – Inventory Management

EOQ: How to calculate it given demand and cost data?

Total ordering cost would amount to

• MRP vs DRP: Key characteristics and differences

Collaborative Inventory Replenishment: All build on supply chain relationships to rapidly

– From an inventory management standpoint, we should also consider the Key

LB6 – Inventory Management

Inventory along Distribution Network

LB6 – Inventory Management

Square Root rule in Practice:

What is a major issue with global supply chain event

Answer 1 Organizations must have resources dedicated to monitor

Answer 2 Status notifications sent by carriers must be reviewed for

Answer 3 System or timing inconsistencies can occur at the interfaces

Answer 4 Transportation modes cannot be changed to reroute delayed

QUESTION 1 LB6 – Inventory Management

What is a major issue with global supply chain event

Answer 1 Organizations must have resources dedicated to monitor

Answer 2 Status notifications sent by carriers must be reviewed for

Answer 3 System or timing inconsistencies can occur at the interfaces

Answer 4 Transportation modes cannot be changed to reroute delayed

QUESTION 1 LB6 – Inventory Management

What is a major issue with global supply chain event

A major issue with global supply chain event management for

Instead of monitoring event management for each shipment and

QUESTION 1 LB6 – Inventory Management

What are the two key indicators of inventory

Answer 1 Average inventory and service level

QUESTION 2 LB6 – Inventory Management

What are the two key indicators of inventory