Lab3 ManagingInventory

Managing Inventory
Lab 3
Rocky Mountain Power
• Inventory of spare parts (power generation & utility line maintenance) ~
$8M
• Different SKUs
• SKU 1341: Glass insulators

• Stable demand rate: 1,000 items/year
• Ordering cost: $30/order
• Inventory holding cost: 0.30 (opportunity cost of capital)
• Avoid stock out
• Quantity discounts for SKU 1341:
Order Quantity Unit Price
1-239 $20.00
240-599 $19.50
≥600 $18.75
2
• Q1: Draw the graph of Total Annual Cost (𝑇𝐶(𝑄)) amount for varying order
quantity (𝑄) for all-unit quantity discounts.
a) Observe the changes in Total Cost for varying 𝑆 and ℎ
• Q2: Determine the optimal ordering quantity for all-unit quantity discounts.
a) Use iterative approach
b) Validate your results by solving the corresponding MIP model.
• Q3: Determine the optimal ordering quantity for marginal-unit quantity

discounts.
a) Use iterative approach
b) Validate your results by solving the corresponding MIP model.
Order Quantity Unit Price
1-239 $20.00
240-599 $19.50
≥600 $18.75 3
Q1. Annual Costs for Quantity Discount Model
• Q1: Draw the graph of Total Annual Cost (𝑇𝐶(𝑄)) amount for
varying order quantity (𝑄) for all-unit quantity discounts.
a) Observe the changes in Total Cost for varying 𝑆 and ℎ

𝒊 𝒒𝒊 −𝒒𝒊+𝟏 𝒄𝒊
Q2a. All-unit quantity discounts 0 1-239 $20.00
• 𝐷=1,000 units per year 1 240-599 $19.50
• 𝑆= $30 (cost of placing order) 2 ≥600 $18.75
• ℎ=0.3 (opportunity cost of capital)

• Q2: Determine the optimal ordering quantity for all-unit
quantity discounts.
Approach #1: Solve iteratively to find an optimal solution

a) For each interval 𝑖, 0 ≤ 𝑖 ≤ 𝑟, evaluate 𝑄𝑖 = EOQ
There are three possible cases:
i. 𝑞𝑖 ≤ 𝑄𝑖 < 𝑞𝑖+1 : calculate the cost using 𝑐𝑖 and𝑄𝑖
ii. 𝑄𝑖 < 𝑞𝑖 : raise the lost size to 𝑞𝑖 and calculate the cost using 𝑐𝑖 and 𝑞𝑖
iii. 𝑞𝑖+1 < 𝑄𝑖 : calculate the cost using 𝑐𝑖 and (𝑞𝑖+1 −1)
b) Pick the interval with the minimum total cost
7
• 𝐷=1,000 units per year 1 240-599 $19.50
• 𝑆= $30 (cost of placing order) 2 ≥600 $18.75
8
• 𝐷=1,000 units per year
1 240-599 $19.50
• 𝑆= $30 (cost of placing order)
2 ≥600 $18.75
Approach #1: Calculate EOQ and apply conditional formatting

→ Excel – Home tab - Conditional Formatting – New Rule
9
1 240-599 $19.50
2 ≥600 $18.75
Approach #1: Calculate EOQ and apply conditional formatting

→ Excel – Home tab - Conditional Formatting – New Rule
10
• 𝐷=1,000 units per year 1 240-599 $19.50
2 ≥600 $18.75
Approach #1: Calculate 𝑄𝑖 , Ordering Cost, Purchasing Cost, Inv. Holding Cost and 𝑇𝐶(𝑄𝑖 ):
These are the min Qi values that can be

purchased from these ci values.
11
• 𝐷=1,000 units per year 1 240-599 $19.50
2 ≥600 $18.75
Approach #1: Calculate 𝑄𝑖 , Ordering Cost, Purchasing Cost, Inv. Holding Cost and 𝑇𝐶(𝑄𝑖 ):
Order 240 units

With annual total cost $20,327
12
Q2b. All-unit quantity discounts 0 1-239 $20.00
1 240-599 $19.50
2 ≥600 $18.75
Approach #2: Develop a mixed-integer optimization model to find an optimal
solution
• Decision Variables:
• 𝑄: the ordering quantity
• 𝑋𝑖 : 1, if 𝑄 lies in the 𝑖th interval; 0, otherwise. (𝑖 = 0,1,2)
Ordering cost Purchasing cost Inventory holding cost
1000 1
Minimize TC Q = 30 ∗ + 1000 ∗ σ2𝑖=0 𝑐𝑖 𝑋𝑖 + ∗ 𝑄 ∗ 0.3 ∗ σ2𝑖=0 𝑐𝑖 𝑋𝑖
𝑄 2
subject to σ2𝑖=0 𝑋𝑖 = 1
𝑞𝑖 𝑋𝑖 ≤ 𝑄, 𝑖 = 0,1,2
𝑄 < 𝑞𝑖+1 𝑋𝑖 + 𝑀 ∗ (1 − 𝑋𝑖 ), 𝑖 = 0,1,2
𝑋𝑖 ∈ {0,1}, 𝑖 = 0,1,2
13
1 240-599 $19.50
2 ≥600 $18.75
Approach #2: Develop a mixed-integer optimization model to find an optimal solution
14
1 240-599 $19.50
2 ≥600 $18.75
15
Q3a. Marginal-unit quantity discounts 0 1-239 $20.00
1 240-599 $19.50

2 ≥600 $18.75
• Q3: Determine the optimal ordering quantity for marginal-unit quantity discounts.
a) For each interval 𝑖, 0 ≤ 𝑖 ≤ 𝑟, evaluate 𝑄𝑖 = EOQ using the following cost formulas
Cost = 𝑉𝑖 +𝑐𝑖 (𝑄𝑖 − 𝑞𝑖 + 1) , where 𝑉𝑖 = 𝑐0 (𝑞1 − 𝑞0 ) + 𝑐1 (𝑞2 − 𝑞1 ) + ⋯ + 𝑐𝑖−1 (𝑞𝑖 − 𝑞𝑖−1 )
𝐷
ordering cost = 𝑆
𝑄𝑖
inv. holding cost = (𝑉𝑖 + 𝑐𝑖 (𝑄𝑖 − 𝑞𝑖 + 1))ℎ/2
purchasing cost = (𝑉𝑖 +𝑐𝑖 (𝑄𝑖 − 𝑞𝑖 + 1))𝐷/𝑄𝑖
𝐷
TC (Total Cost) = 𝑄𝑖
𝑆 + (𝑉𝑖 + 𝑐𝑖 (𝑄𝑖 − 𝑞𝑖 + 1))ℎ/2 + (𝑉𝑖 +𝑐𝑖 (𝑄𝑖 − 𝑞𝑖 + 1))𝐷/𝑄𝑖
2𝐷(𝑆+𝑉𝑖 −(𝑞𝑖 −1)𝐶𝑖 )

𝑄𝑖 =
ℎ𝐶𝑖
There are three possible cases:

i. 𝑞𝑖 ≤ 𝑄𝑖 < 𝑞𝑖+1 : calculate the cost using 𝑐𝑖 and 𝑄𝑖
ii. 𝑄𝑖 < 𝑞𝑖 : raise the lost size to 𝑞𝑖 and calculate the cost using 𝑐𝑖 and 𝑞𝑖
iii. 𝑞𝑖+1 ≤ 𝑄𝑖 : calculate the cost using 𝑐𝑖 and (𝑞𝑖+1 −1)
b) Pick the interval with the minimum total cost 16
Q3a. Marginal-unit discounts 0 1-239 $20.00
1 240-599 $19.50
2 ≥600 $18.75
Approach #1: Iterative Approach: Calculate 𝑄𝑖 , Ordering Cost, Purchasing Cost, Inv. Holding
Cost and 𝑇𝐶(𝑄𝑖 ):
17
Q3a. Marginal-unit discounts 0 1-239 $20.00
• 𝐷=1,000 units per year 1 240-599 $19.50
2 ≥600 $18.75
Approach #1: Iterative approach: 𝑄∗ = 𝑄𝑖 with minimum 𝑇𝐶(𝑄𝑖 ):
Order 100 units

With annual total cost $20,600
18
Q3b. Marginal-unit quantity discounts 0 1-239 $20.00
1 240-599 $19.50
2 ≥600 $18.75
Approach #2: Develop a mixed-integer optimization model to find an optimal
solution
• Decision Variables:
• 𝑄: the ordering quantity
• 𝑋𝑖 : 1, if 𝑄 lies in the 𝑖th interval; 0, otherwise.
Ordering cost Purchasing cost Inventory holding cost
1000 1000 1
Minimize TC Q = 30 ∗
𝑄
+
𝑄
∗ σ2𝑖=0 𝑉𝑖 +𝑐𝑖 𝑄 − 𝑞𝑖 + 1 𝑋𝑖 + ∗ 0.3 ∗ σ2𝑖=0(𝑉𝑖 + 𝑐𝑖 (𝑄 − 𝑞𝑖 + 1))𝑋𝑖
2
subject to σ2𝑖=0 𝑋𝑖 = 1 (𝑄 should lie in exactly one interval)

𝑞𝑖 𝑋𝑖 ≤ 𝑄, 𝑖 = 0,1,2 (If 𝑄 lies in ith interval, then 𝑞𝑖 ≤ 𝑄, otherwise 0≤ 𝑄)
𝑄 < 𝑞𝑖+1 𝑋𝑖 + 𝑀 ∗ (1 − 𝑋𝑖 ), 𝑖 = 0,1,2 (If 𝑄 lies in ith interval, then 𝑄 < 𝑞𝑖+1, otherwise 𝑄 < 𝑀 )
𝑋𝑖 ∈ {0,1}, 𝑖 = 0,1,2
19
1 240-599 $19.50
• ℎ=0.3 (opportunity cost of capital) 2 ≥600 $18.75
20
1 240-599 $19.50
• ℎ=0.3 (opportunity cost of capital) 2 ≥600 $18.75
21
Conclusion Order Quantity Unit Price
• 𝐷=1,000 units per year 1-239 $20.00
• 𝑆= $30 (cost of placing order) 240-599 $19.50
• ℎ=0.3 (opportunity cost of capital) ≥600 $18.75
• RESULTS:
𝑄 𝑇𝐶(𝑄)
All-unit quantity 240 units $20,327
discounts
Marginal-unit 100 units $20,600
quantity discounts
22

Lab3 ManagingInventory

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Lab3 ManagingInventory

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Managing Inventory

• SKU 1341: Glass insulators

• Q3: Determine the optimal ordering quantity for marginal-unit quantity

a) Observe the changes in Total Cost for varying 𝑆 and ℎ

• ℎ=0.3 (opportunity cost of capital)

Approach #1: Solve iteratively to find an optimal solution

Approach #1: Solve iteratively to find an optimal solution

Approach #1: Calculate EOQ and apply conditional formatting

Approach #1: Calculate EOQ and apply conditional formatting

These are the min Qi values that can be

Order 240 units

• ℎ=0.3 (opportunity cost of capital)

2𝐷(𝑆+𝑉𝑖 −(𝑞𝑖 −1)𝐶𝑖 )

There are three possible cases:

Approach #1: Iterative approach: 𝑄∗ = 𝑄𝑖 with minimum 𝑇𝐶(𝑄𝑖 ):

Order 100 units

subject to σ2𝑖=0 𝑋𝑖 = 1 (𝑄 should lie in exactly one interval)

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