INVENTORY

MANAGEMENT

Lecturer: Nguyen Van Dung Ph.D.

Slides are based on slides accompanied the book “OPERATIONS AND
SUPPLY CHAIN MANAGEMENT”, with improvement from the lecturer

Chapter Twenty
McGraw-Hill/Irwin Copyright © 2014 by The McGraw-Hill Companies, Inc. All rights reserved.
Learning Objectives
 LO20–1: Explain how inventory is used and
understand what it costs.
 LO20–2: Analyze how different inventory control
systems work.
 LO20–3: Analyze inventory using the Pareto
principle.

20-2
Inventory
 Inventory can be visualized as stacks of money sitting on
forklifts (xe nâng hàng), on shelves, and in trucks and planes
while in transit.

 For many businesses, inventory is the largest asset on the

balance sheet at any given time.
 Inventory can be difficult to convert back into cash.
 It is a good idea to try to get your inventory down as far as
possible.
 The average cost of inventory in the United States is 30 to 35 percent
of its value. 20-3
Supply Chain Inventory Models

20-4
Inventory Models

Single-period model (mô hình một giai đoạn)

• Used when we are making a one-time purchase of an item. Example: purchasing T-

shirts to sell at a one-time sporting event

Fixed-order quantity model (mô hình số lượng đặt hàng cố định)

• Used when we want to maintain an item “in-stock,” and when we restock, a certain
number of units must be ordered

Fixed–time period model (mô hình thời đoạn cố định)

• Item is ordered at certain intervals of time. Example: every Friday morning

20-5
Definitions
 Inventory: the stock of any item or resource used in an
organization
 Includes raw materials, finished products, component parts,
supplies, and work-in-process (sản phẩm dở dang)
 Manufacturing inventory: refers to items that contribute to or
become part of a firm’s product

20-6
Definitions
 Inventory system: the set of policies and controls that
monitor levels of inventory
 Basic purpose of inventory analysis: Determines what levels
should be maintained, when stock should be replenished,
and how large orders should be

20-7
Purposes of Inventory
 To maintain independence of operations
 For example, because there are costs for making each
new production setup, this inventory allows management
to reduce the number of setups
 To meet variation in product demand
 Usually demand is not completely known, and a safety
or buffer stock must be maintained to absorb variation.

20-8
Purposes of Inventory
 To allow flexibility in production scheduling
 A stock of inventory relieves the pressure on the
production system to get the goods out.
 This causes longer lead times ➔ permit production
planning for smoother flow and lower-cost operation

20-9
Purposes of Inventory
 To provide a safeguard for variation in raw material
delivery time
Delays for a variety of reasons:
 Variation in shipping time,

 Shortage of material at the vendor’s plant causing backlogs

(sự gián đoạn)
 Unexpected strike

 Lost order, or a shipment of incorrect or defective material

20-10
Purposes of Inventory
 To take advantage of economic purchase order size
 Costs to place an order: labor, phone calls, typing, postage
…Therefore, the larger each order is, the fewer the orders
that need be written.
 Shipping costs favor larger orders—the larger the shipment,
the lower the per-unit cost.

20-11
Purposes of Inventory
 Many other domain-specific reasons
 Depending on the situation, inventory may need to be carried.
 For example, in-transit inventory is material being moved from
the suppliers to customers and depends on the order quantity
and the transit lead time.

20-12
Questions
 What is the term used to refer to inventory while in
distribution – i.e. being moved within the supply
chain?

 Key: In-transit inventory

13
Questions
 Almost certainly you have seen vending machines
being serviced on your campus and elsewhere. On
a predetermined schedule the vending company
checks each machine and fills it up with various
products. Which category of inventory model is this
an example of?

 Key: Fixed-time period model

14
Activity 20.1
 Discuss costs associated with inventory.

15
Inventory Costs
Holding (or carrying) costs Setup (or production change) costs
• Costs for storage, handling, insurance, • Costs for arranging specific
and so on equipment setups, and so on
• High holding costs tend to favor low
inventory levels and frequent
replenishment

Costs

Ordering costs Shortage costs

• Costs of placing an order • Costs of running out

20-16
Demand Types
Independent demand – the
demands for various items are
unrelated to each other
• For example, a workstation may produce
many parts that are unrelated but meet
some external demand requirement

Dependent demand – the need

for any one item is a direct result
of the need for some other item
• Usually a higher-level item of which it is
part

20-17
Demand Types
 Example: if an automobile company plans on producing 500
cars per day, then obviously it will need 2,000 wheels and
tires (plus spares).
 The number of wheels and tires needed is dependent on the
production levels and is not derived separately.
 The demand for cars, on the other hand, is independent—it
comes from many sources external to the automobile firm and
is not a part of other products; it is unrelated to the demand
for other products.

18
 Questions
 To support the manufacture of desktop
computers for their customers, Dell needs
to order all the parts that go into the
computer, such as hard drives,
motherboards and memory modules.
Obviously the demand for these items is
driven by the production schedule for the
computers. What is the term to describe
demand for these parts?

 Key: Dependent demand

19
Inventory Systems – Comparison

Single-period inventory model

• One-time purchasing decision (e.g.,
vendor selling T-shirts at a football
game)
• Seeks to balance the costs of inventory
overstock and under stock

Multi-period inventory models

• Fixed-order quantity models
• Event triggered (e.g., running out of
stock)
• Fixed-time period models
• Time triggered (e.g., monthly sales
call by sales representative)

20-20
Inventory Control-System
Design Matrix

20-21
Single Period Inventory Model

Consider the problem of deciding

how many newspapers to put in a
hotel lobby

Too few papers and some
customers will not be able to
purchase a paper, and
profits associated with these
potential sales are lost.
Too many papers and the
price paid for papers that
were not sold during the
day will be wasted,
lowering profit.

20-22
23
Solving the Newspaper Problem
 Consider how much risk we are willing to take of running
out of inventory.
 Assume a mean of 90 papers and a standard deviation
of 10 papers.
 Assume we want an 80 percent chance of not running out.
 Assume that the probability distribution associated of sales
is normal, stocking 90 papers yields a 50 percent chance
of stocking out (thiếu hàng).

20-24
Solving the Newspaper Problem
 From Appendix E, we see that we need
approximately 0.85 standard deviation of
extra papers to be 80 percent sure of not
stocking out.
 Using Excel, “=NORMSINV(0.8)” = 0.84162

20-25
 Solving the Newspaper Problem
 Given our result from Excel, which is more accurate
than what we can get from the tables, the number of
extra papers would be 0.84162 × 10 = 8.416, or 9
papers (There is no way to stock 0.4 paper!).

20-26
Single Period Model Applications

Overbooking of airline flights

Ordering of clothing and

other fashion items

One-time order for events –

e.g., t-shirts for a concert

20-27
What is airline overbooking?
 Overbooking is an airline’s way

of ensuring they have no empty

seats at take off.
 An airline sells more tickets than

they have seats on the plane.

They do this to ensure a full
plane when it comes to take-off.
 Airlines want to make sure that

every flight is as full as possible

to maximize their profits.
28
Single-Period Inventory Models

Cu

20-29
Example 20.1 How many rooms should the hotel
overbook?

Excel: Overbooking

20-30
Example 20.1
 From Appendix E, we see that our
desired level falls about 0.55 standard
deviations below the mean (z = -0.55)
 UsingExcel, “=NORMSINV(0.2857)” =
0.56599

20-31
Example 20.1 – Overbooking Table
If we overbook by 1 and
we have zero no-shows,
we incur the penalty of
$200 – one person must
be compensated for
having no room.

If we overbook by 1 and
we have three no-shows,
we have lost sales of $80.

Total cost of a policy of

overbooking by 9 rooms is
the weighted average of
the events (number of no-
shows) and the outcome of
those events. 20-32
Multi-Period Models
Fixed-order quantity models
- Also called the economic
order quantity, EOQ, and Q-
model
- Event triggered

Fixed–time period models

- Also called the periodic (định kỳ)
system, periodic review system,
fixed-order interval system, and P-
model
- Time triggered

20-33
Fixed–order quantity model (Q-
model)
 An inventory control model where the amount
requisitioned is fixed and the actual ordering is
triggered by inventory dropping to a specified
level of inventory

34
Fixed–time period model (P-model)
 An inventory control model that specifies inventory is
ordered at the end of a predetermined time
period.
 The interval of time between orders is fixed and the
order quantity varies.

35
Multi-Period Models – Comparison
Fixed-Order Quantity
 Inventory remaining must be
continually monitored
 Has a smaller average
inventory
 Favors more expensive items
 Is more appropriate for
important items
 Requires more time to
maintain – but is usually more
automated
 Is more expensive to
implement
Fixed-Time Period
 Counting takes place only at
the end of the review period
 Has a larger average
inventory
 Favors less expensive items
 Is sufficient for less-important
items
 Requires less time to maintain
 Is less expensive to implement
20-36
Multi-Period Models – Comparison

20-37
 Multi-Period Models – Process

Backorder:
đặt trước (đặt
giữ chỗ)

On-order:
đang đặt

20-38
Inventory position
 The amount on hand plus on-order minus
backordered quantities.
 In the case where inventory has been allocated for
special purposes, the inventory position is reduced
by these allocated amounts.

39
Fixed-Order Quantity Models –
Assumptions
 Demand for the product is constant and uniform
(giống nhau) throughout the period.
 Lead time (thời gian chờ) (time from ordering to
receipt) is constant.
 Price per unit of product is constant.
 Inventory holding cost (chi phí lưu kho) is based on
average inventory.
 Ordering or setup costs are constant.
 All demands for the product will be satisfied.

20-40
Fixed-Order Quantity Model
Always order Q units Inventory is consumed at a
when inventory reaches constant rate, with a new
reorder point (R). order placed when the
reorder point (R) is
reached once again.

Inventory arrives after lead

time (L). Inventory is raised
to maximum level (Q).

20-41
Economic Order Quantity (EOQ)
The optimal order
quantity (Qopt) occurs
where total costs are at
their minimum

20-42
Example 20.2


Excel: Economic
Order Quantity
20-43
Establishing Safety Stock Levels
Safety stock – refers to the amount of inventory
carried in addition to expected demand.
• Safety stock can be determined based on many different criteria.

A common approach is to simply keep a certain

number of weeks of supply.

A better approach is to use probability.

• Assume demand is normally distributed.

• Assume we know mean and standard deviation.
• To determine probability, we plot a normal distribution for
expected demand and note where the amount we have lies on
the curve.

20-44
Fixed-Order Quantity Model with
Safety Stock
Demand is variable, but
follows a known
distribution/

After the reorder is placed, demand

during the lead time may be higher
than expected, consuming some (or
all) of the safety stock/

20-45
46
 Find the order quantity and reorder point to

Example 20.4 satisfy a 95 percent probability of not stocking

out during the lead time.


For 95%
probability,
z = 1.64.

Policy – place a new

order for 936 units
whenever stock falls to
388 units on hand. This
results in a 95%
probability of not
stocking out during the Excel: Reorder
Assume sales occur over the entire lead time. Point
365 days of the year
20-47
Fixed-Time Period Model with Safety
Stock


20-48
Fixed-Time Period Model

Time periods are

equal, but Reorder quantity varies,
ending inventory depending upon ending
varies. inventory level. Beginning
inventory is always the same.
20-49
 Management has set a policy of satisfying 98
Example 20.5 percent of demand from items in stock. How
many units should be ordered?

The z value for P = 0.98 is 2.05

Excel: Fixed Time

Period Model

20-50
Inventory Control and Supply Chain
Management
 Average inventory –
expected amount of
inventory over time
 Inventory turns –
number of times
inventory is replaced
over a year – a
measure of how
efficiently inventory is
used

20-51
Inventory Control and Supply Chain
Management
 D: Yearly demand for the item
 C: Cost per unit for the item
 Q: Order quantity
 SS: Safety stock

20-52
53
54
Inventory Models with Price Breaks
 Price varies with the order size.
 To find the lowest-cost, calculate the order quantity
for each price and see if the quantity is feasible.
1. Sort prices from lowest to highest and calculate the order
quantity for each price until a feasible order quantity is
found.
2. If the first feasible order quantity is the lowest price, this is
best; otherwise, calculate the total cost for the first
feasible quantity and calculate total cost at each price
lower than the first feasible order quantity.

20-55
Example 20.8 What quantity should be ordered?

 Annual demand (D ) =
10,000
 Ordering cost (S ) =
$20 per order
 Interest/carrying cost
(i ) = 20%
 Cost per unit (C )
 1–499 → $5.00
 500–999 → $4.50
 1000 or more → $3.90

20-56
 Inventory Models with Price Breaks

Curves for Three Separate Order Quantity Models in a Three-Price-Break Situation

(red line depicts feasible range of purchases)

20-57
Example 20.8

20-58
 ABC Classification
 Divides inventory into dollar volume categories that map into
strategies appropriate for the category
 The ABC approach divides this list into three groupings by
value:
 A items constitute roughly the top 15 percent of the items

 B items the next 35 percent

 C items the last 50 percent

 The purpose of classifying items into groups is to establish the

appropriate degree of control over each item.
ABC Classification

20-60
ABC Classification
 ABC Classification
 On a periodic basis, for example, class A items may be more
clearly controlled with weekly ordering, B items may be ordered
biweekly, and C items may be ordered monthly or bimonthly.
 In an automobile service station
 Gasoline would be an A item with daily or weekly replenishment

 Tires, batteries, oil, may be B items and ordered every two to

four weeks
 C items would consist of valve stems, windshield wiper blades,
radiator caps, hoses, fan belts, car wax (thân van, cần gạt nước
kính chắn gió, nắp tản nhiệt, ống mềm, dây curoa quạt, sáp xe
hơi). C items may be ordered every two or three months or even
be allowed to run out before reordering because the penalty for
stockout is not serious.
Inventory Management

Cycle counting – a
Inventory accuracy – physical inventory-taking
refers to how well the technique in which
inventory records agree inventory is counted on a
with physical count frequent basis rather than
once or twice a year

20-63
RFID

 https://baoanjsc.com.vn/du-an/rfid-la-gi-ung-
dung-cua-rfid-trong-san-
xuat_2_69_31600_vn.aspx

64
 Virtually all inventory systems these days are
computerized. The computer can be programmed to
produce a cycle count notice in the following cases:
 When the record shows a low or zero balance on hand. (It is
easier to count fewer items.)
 When the record shows a positive balance but a backorder
(đơn hàng tồn đọng) was written (indicating a discrepancy).
 After some specified level of activity.
 To signal a review based on the importance of the item (as in
the ABC system) such as in the following table:

65
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