Chapter 1

INVENTORY
CONTROL
Pertemuan ke 2

IC-405 Perencanaan dan Pengendalian Produksi 2

Kelompok Bidang Keahlian (KBK): Optimasi Sistem Industri (OSI)

2. EOQ WITH SHORTAGES
(BACKORDERING)
•A backorder is demand that will be filled
later than desired.

•In the backordering situation, a firm does

not lose the sale when its inventory is
depleted.

•Instead, loyal, patient, or captive

customers wait to have their demand
filled when the firm receives its next order.
• Figure 3-5 depicts the
backordering inventory
model.
• An order for Q units is
placed when the stock on
hand reaches the
reorder point (B).
Holding
Area
B
• The size of the stockout
is J units, and the
maximum inventory level
is Q – J units.
• The backordering cost
per unit per year is K, and
it is directly proportional to
the length of the time delay.
Maximum
Inventory
Back order Level
Area
Q Q-J
LT
• During the time period t3 one order is placed, so the
order cost is C.

• There is a positive inventory balance during the time

period t1, and the average holding cost during t1 is
given as follows: H (Q − J )t1 H (Q − J ) 2
=
2 2R where t1 = (Q-J)/R

• The stockout time period is t2, and the average

backordering cost during t2 is as follows:
KJt 2 KJ 2
=
2 2R where t2 = J/R
• Therefore, the total cost of one time period of length t3 is:
H (Q − J ) 2 KJ 2
PQ + C + +
2R 2R

• Since there are R/Q order periods of the length t3 in a

year, the total annual cost is obtained by multiplying
the above equation by R/Q, which results in:
• Total annual cost = purchase cost + order cost +
holding cost + backorder cost
CR H (Q − J ) 2 KJ 2
TC (Q,J) = PR + + +
Q 2Q 2Q

Where:
R=annual requirements in units,
P=purchase cost of an item,
C=ordering cost per order,
Q=lot size or order quantity,
H=holding cost per unit per year,
J=maximum backordering quantity in units,
K=backordering cost per unit per year.
• To obtain optimal values for Q and J,
partial derivatives of the total annual cost
function with respect to Q and J are equated
to zero.
• The following optimum formulas result:
2CR H + K HQ *
Q* = J* =
H K H +K
• The minimum total cost per year is obtained
by substituting Q* for Q in the total annual
cost equation.
• A simplified formula for the minimum
total cost per year results:
TC(Q*,J*) = PR + HKQ * = PR + KJ *
H +K
 Example 2:
•From the information given in example The
XXX Manufacturing Company, what
happens to the economic order quantity if
backordering is possible and the stock
out cost per unit per year is $1.00?

Jika Holding Cost (H) < Backordering Cost (K) EOQ

Jika Holding Cost (H) > Backordering Cost (K) EOQ backorder
3. QUANTITY DISCOUNT
• It is a common practice for suppliers to offer lower
unit prices on orders for larger quantities as an
economic incentive to buyers to purchase in larger lot
sizes.

• The buyer benefits both by having reduced per

unit ordering costs and by paying the lower unit
price, but at the cost of having to hold more inventory.

Apa keuntungan buat seller?

• The seller benefits from sales of larger quantities by

reducing per unit order processing and setup
costs by (at least temporarily) increasing volume.

• The problem faced by the buyer is to identify the lot

size that minimizes total costs.
• There are two general types of quantity
discount schedules offered by suppliers: the
all-units discount1 and the incremental
discount2.

• With the all-units discount, purchasing

larger quantities results in a lower unit
price for the entire lot (results in the same
unit price for every item in a given lot).

• Incremental discount, however, apply the

lower unit price only to units purchased
above a specified quantities (result in
multiple unit prices for an item within the
same lot).
 Quantity (unit) Price ($/unit)
1 1–6 6 4
4 Example:
2 7 - 10 2
Q = 12 units
3 >10 2 1

All units

Purchase cost = 12 units x $1/unit = $12

Incremental

Purchase cost =
6 units x $4/unit = $24
4 units x $2/unit = $ 8 Selisih = 34-12
2 units x $1/unit = $ 2 = $22
Total = $34
 Example:
Quantity (unit) Price ($/unit) Q = 12 units

1 1–6 4 6 unit lebih mahal

6 x ($4-$2) = $12

2 7 - 10 2 10 unit lebih mahal

10 x ($2-$1) = $10

3 >10 1 Total = $22

All units
Purchase cost = 12 units x $1/unit = $12

Incremental

Purchase cost = Selisih = 34-12

6 units x $4/unit = $24 = $22
4 units x $2/unit = $ 8
2 units x $1/unit = $ 2
Total = $34
3.1 ALL-UNITS QUANTITY DISCOUNT
• The procedure for all-units quantity discounts:
1. Starting with the lowest unit cost,
calculate the EOQ at each unit cost until a
valid EOQ is obtained.

2. Calculated the total annual cost for the

valid EOQ and all price break quantities
larger than the valid EOQ. (A price-break
quantity is the lowest quantity for which the
price discount is available).

3. Select the quantity with the lowest

total cost in step 2 above.
 Example 3:
• The Maranatha Company purchases 8000 units of
a product each year.

• The supplier offers the units for sale at $10.00

per unit for orders up to 500 units and at $9.00
per unit for orders of 500 units or more.

• What is the economic order quantity if the

order cost is $30.00 per order and the holding
cost is 30% of per unit cost per year?
 Example 4:
• Consider an item with the quantity discounts with R =
1,000 units per year, f = 0.2 per year, and C = $100 per
order.

• The another information is shown in the table:

Size Between 100 500 2,000 5,000

and 499 1,999 4,999 over
Price/ $4.00 $3.50 $3.00 $2.50
unit

• Find the EOQ for this problem!

• Q* (P=$2.50) = 632 (invalid, valid = 5,000 units),
• Q* (P=$3.00) = 577 (invalid, valid = 2,000 units),
• Q* (P=$3.50) = 535 (valid).

• P=$2.50 → TC(5,000) = $3,770.00

• P=$3.00 → TC(2,000) = $3,650.00
• P=$3.50 → TC(535) = $3,874.16

• The minimum of the three costs calculated is

$3,650.00 associated with Q=2,000 units.
• Therefore Q*=2,000 units; P=$3.00/unit
3.1 INCREMENTAL
QUANTITY DISCOUNT
• The purchase cost for a lot size of Q units is:
Mi = Di + PiQ
i

Where: Di =  (U
e =1
e − 1)( Pe −1 − Pe ).

• Since all units are not purchased at the same unit

purchase cost, Di is the extra purchasing cost for not
purchasing each of Q units at Pi.

• Therefore, Di is, in effect, an additional ordering cost,

since it is incurred each time an order is placed.
M i Di
• The purchasing cost per unit is: Q = Q + Pi
• Total cost per year of a lot size of Q units is:
• TC(Q) = purchase cost + order cost + holding
cost  D  CR FQ  D 
+
 i Q
P i
R + + +
 i Q
P i

  Q 2  
(C + Di ) R Pi FQ FDi
Pi R + + +
Q 2 2

• Since the total cost curve for each unit purchase

cost in convex, the minimum cost lot size is
obtained by setting the first derivative of total
annual cost with respect to the lot size equal to
zero, which results in:
2 R(C + Di )
Q *i =
Pi F
•The following procedure will
determine the optimum lot size with
incremental quantity discount:

1. Calculate the EOQ for each unit

purchase cost.
2. Determine which EOQs are valid.
3. Calculate the total cost for each valid
EOQ.
4. Select the valid EOQ with the lowest
total cost.
 Example 5:
• The annual demand for an item is 4800 units, the
ordering cost is $40 per order, and the annual
holding cost fraction is 0.25.
• What is the optimum lot size if the firm faces
the incremental discount schedule below:

Size Unit Price

<400 $10.00
400-1199 9.00
1200-4799 8.50
>4799 8.00
 i
i Pi Ui Di =  (U e − 1)( Pe −1 − Pe ).
e =1

0 $10.00 1 0
1 9.00 400 399($10.00-9.00)=399.00
2 8.50 1200 399+1199($9.00-8.50)=988.50
3 8.00 4800 998.50+4799($8.50-8.00)=3398.00

2 R(C + Di ) 2(4800)(40 + 0)
Q *i = Q *0 = = 392 →Valid
Pi F 10(0.25)

2(4800)(40 + 399)
Q *1 = = 1369 →Not Valid
9(0.25)

2(4800)(40 + 998.5)
Q *2 = = 2166 →Valid
8.50(0.25)

2(4800)(40 + 3398)
Q *3 = = 4062 →Not Valid
8.00(0.25)
• Calculating the total cost for each valid EOQ,
• TC(Q*) = Pi R + (C + Di ) R + Pi FQ *i + FDi
Q *i 2 2

• TC(392) = 10(4800) +
(40 + 0)4800 10(0.25)392 (0.25)0
+ + = $48,979.80,
392 2 2
• TC(2166) = 8.50(4800) +
(40 + 998.50)4800 8.50(0.25)2166 (0.25)998.50
+ + = $45,527.57.
2166 2 2

• The optimum lot size is the valid EOQ with the

least annual cost.
• The best policy is to order 2166 units at a unit
price of $8.50.
4. BATCH-TYPE PRODUCTION
SYSTEMS
• If a firm produces a product that has a constant
demand and the product is entered into inventory
instantaneously, the production order quantity
should be determined by the EOQ model.

• In this case, purchase cost will be replaced by

production cost (consist direct labor, direct
materials, and factory burden like indirect labor,
indirect material, depreciation, taxes, insurance,
power, maintenance, supervision, and so forth)
and order cost replaced by setup cost.
• The assumption that the entire order is received into
inventory at one time (instantaneously) is often not
true.
• Frequently, items are produced and added to inventory
gradually rather than all at once.

• Thus, the EOQ model must be revised to accommodate

this change.
• The Economic Production Quantity (EPQ) does so.
• Whereas the EOQ assumes discrete instantaneous
additions to stock (infinite replenishment rate), the
EPQ assumes continuous gradual additions to stock
(finite replenishment rate).

• In finite replenishment rate situations, the major decision

involves the determination of the size of the
production run (order).
• The production run that minimizes the total inventory cost
is the economic production quantity (EPQ).
 EOQ EPQ

Order Production

Purchase Cost; Production Cost;

Order Cost Setup Cost

Discrete instantaneous Continuous gradual

additions to stock additions to stock

Infinite Finite
replenishment rate replenishment rate
 production No production; New production
Only Consumption run

• Figure 3-12 depicts a typical cycle where production starts at time zero and
ends at time tp.

• During the time period from tp to t1, no production occurs and the inventory
stock is depleted.

• At the time t1, a new production run is started.

• If there had been no demand from zero to tp, inventories would have risen
at a rate p.

• Since there is demand at rate r, inventories will increase at p-r, which p is

greater than r.
 tp = Q/p

Imax = (p-r) tp

Imax Imax = (p-r) (Q/p)

Iaverage = ½ Imax

• Maximum inventory level is (p-r)tp, and tp =Q/p,

now maximum inventory level is Q(p-r)/p.

• Average inventory is simply one-half the

maximum inventory.
•If stockouts are not permitted, the total
annual inventory cost is as follows:
CR HQ( p − r )
TC(Q) = PR + +
Q 2p

• To obtain the minimum cost production order

quantity (EPQ), take the first derivative of the
total annual cost with respect to the
production order quantity Q and set it equal
to zero:
•Solving the equation for Q, the Economic
Production Quantity (EPQ) formula is
obtained:
 Example 6:
• PT. X: The demand for an item is 20,000 units per
year, and there are 250 working days per year.
• The production rate is 100 units per day, and the
lead time is 4 days.
• The unit production cost is $50.00, the holding
cost is $10.00 per unit per year, and the setup
cost is $20.00 per run.
• What are the economic production quantity,
the number of runs per year, the reorder
point, and the minimum total annual cost?
5. MAKE OR BUY DECISIONS
• Frequently a production or materials manager must
take a decision whether to purchase or to
manufacture an item.

• There are numerous factors to consider before a

decision can be made, and many of them are difficult
to quantify.

• Some influencing factors might be idle plant

capacity, in-house capabilities (personnel,
equipment, future capabilities), reliability of supply,
reciprocity, employment stabilization, alternative
resource uses, and economic advantage.

• If items are purchased externally, the order quantity

can be obtained from EOQ analysis.
• If items are to be produced internally, the order
quantity can be obtained from EPQ analysis.
 Example 7:
•An item may be purchased for $25 per unit
or manufactured at a rate of 10,000 units
per year for $23.
•If purchased, the order cost will be $5,
compared to a $50 setup cost for
manufacture.
•The annual demand for the item is 2500
units, and the holding cost fraction is 10%.

•Should the item be purchased externally

or produced internally?
• Purchase (BUY):

TC(Q*) = PR + HQ*
= 25(2500) + 2.50(100) = $62,750.00

• Manufacture (MAKE):

TC(Q*) = PR +

= $58,157.00

The item should be manufactured, since this is the least cost

alternative, which results in a saving of $4593 ($62,750 -
$58,157) per year.