IENG4454

Design of
Inventory
Systems
REORDER POINTS

1
Topics
◦ Reorder Points QR Policy Part 2
◦ Some example problems
Review of Key Points
Demand during one unit of time is normally distributed, with
◦ mean
◦ standard deviation and variance
◦ random demand during the lead time is
Demand during the lead time () has a normal distribution with
◦ mean
◦ variance

The expected demand during lead time is E(XL)= so the expected

inventory level when the order arrives is R-
What do the Normal Table
Columns Mean?
k = in this case is a safety factor to minimize units short per
cycle

G(k) = the normal distribution loss function

f(k) = probability density function of the inventory level

Φ (k) is used to find s1 which is the probability of a stockout

during a replenishment cycle
(R, Q) Policy

Determine the Reorder Point (R)

◦ Demand during the Lead Time is stochastic (Random)
Evaluation
Companies may not be able to easily provide the needed cost
parameters for our equations, but we can work backwards to determine
their Implied Costs and/or Expected Performance Measures.

◦ b1 Cost per unit short/unit time

Implied Costs
◦ b2 Cost per unit short
◦ b3 Cost per stockout

◦ S1 Probability of a stockout
Expected
◦ S2 Fill Rate
Performance
◦ Expected Stockouts / year
Measures
◦ Expected Time between Stockouts
Implied Costs
b1 Cost per unit short/unit time:
b2 Cost per unit short:
b3 Cost per stockout:
 Performance Measures
S1 Probability of a stockout:
S2 Fill Rate:
Total number of stockouts expected per year: This is the
number of opportunities for stockouts per year (d/Q)
multiplied by the probability that any cycle will stockout (1 –
S1):

Expected time, in years, between stockouts, is the inverse of

the expected number of stockouts per year (Time Between
Stockouts):
 Discussion: Implied Costs and
Performance Measures
Say a company knows the following:
,,,
and has a reorder point of

What are the Implied Costs?

◦ The costs if we run out of stock
What are the Expected Performance Measures?
◦ Time between stockouts, fill rate, number of stockouts per
year
Implied Costs
Performance Measures
Example
A restaurant used an average of 50 jars of a special sauce
each week. Weekly usage of sauce has a standard
deviation of 3 jars. The manger is willing to accept no
more than a 10 percent risk of stockout during lead time,
which is two weeks. Assume the distribution of usage is
Normal. What is R to ensure a stockout doesn’t occur
more than 10% of the time?
Answer
L= 2 weeks
d per week

s1= 0.90 (since we need 90% confidence of no stockout)

Go to table to find Φ(k)= 0.90 k= 1.285

R= xL+SS
R= (1.285)*3+ 50*2
R = 3.855+100= 103.855
Rounding up, R= 104 Jars
 Example
Consider an item with A=$25, D=4000 units/ year, v=$8/ unit, L=4 weeks,
r= $0.16/$/year
and we are told time between stockouts= 6months

EOQ=

Finding Safety Factor k (knowing B3)

P(k)== then from the tables k=0.850
** depending on table, you may need to look up 1-0.198 to find it!
 Example Solution Con’t
Safety Stock= SS= k*σL = 0.850*100= 85 units

Reorder point= R= lead time demand+SS

= D*L+SS= 4000*1/12+85=
419 units
Summary
We further developed our understanding of “Implied costs” and started
thinking about performance measures.
This adds even more value to the spreadsheet from the Lab for doing
these calculations for us so we don’t have to
IENG4454
Design of
Inventory
Systems
REORDER POINT
EXTENSIONS (MULTIPLE ITEMS)

17
Reorder Points Extensions
Handling Multiple Items
Exchange (Tradeoff) Curves
Multiple items
Silver 7.15: A company sells products using a (T, S) type of control
system. A manager reviews the stock monthly. The supplier delivers at
their location following a lead time of 10 days (use years). Inventory
carrying charge is $/$/year. Assume 360 operating days per year. The
manager has observed that the demand for the XRL line is as follows:

Item Demand (per year)

XRL-1 1200 $10 35
XRL-2 350 $35 50
XRL-3 700 $17 40
 Multiple items
Item Demand (per year)
XRL-1 1200 $10 35
XRL-2 350 $35 50
XRL-3 700 $17 40

years, years, $/$/year, 360 days / year.

Suppose that a total safety stock of $1200 is to be allocated among the
three items.
To Ponder: What are the possible objectives a company may set for
allocating SS to each item?
◦ Complete this sentence: Allocate $1200 worth of SS such that…
It depends on what your goal is… do you want to (See next slide)
What are you trying to do
with your safety stock plan?
Same Probability of Stockout () for each item
Minimize Expected Total Stockouts per Year
(ETSOPY)
Minimize Expected Total Value Short per Year
(ETVSPY)
Multiple items – Same
Item () Demand (per year)
XRL-1 1200 $10 35
XRL-2 350 $35 50
XRL-3 700 $17 40

years, years, $/$/year, 360 days / year.

Suppose that a total safety stock of $1200 is to
be allocated among the three items.

Therefore, the same for each item will ensure

the same
Multiple items – Same
Item () Demand (per year)
XRL-1 1200 $10 35
XRL-2 350 $35 50
XRL-3 700 $17 40

years, years, $/$/year, 360 days / year.

Suppose that a total safety stock of $1200 is to be
allocated among the three items.

Need to determine
 Multiple items – Same
Item () Demand (per year)
XRL-1 1200 $10 35
XRL-2 350 $35 50
XRL-3 700 $17 40

years, years, $/$/year, 360 days / year.

Suppose that a total safety stock of $1200 is to be
allocated among the three items.

, therefore
, therefore
, therefore
Multiple items – Same
Item ()
years, Demand
years, (per year)
$/$/year, 360 days / year.
XRL-1 1200 $10 35 11.67
XRL-2 350 $35 50 16.67
XRL-3 700 $17 40 13.33

Suppose that a total safety stock of $1200 is to be

allocated among the three items.

Solve for .
Multiple items – Same
Item Demand (per year)
XRL-1 1200 $10 35 11.67
XRL-2 350 $35 50 16.67
XRL-3 700 $17 40 13.33

years, years, $/$/year, 360 days / year.

Suppose that a total safety stock of $1200 is to be allocated among the
three items.
 Multiple items – Same
Item Demand (per year)
XRL-1 1200 $10 35
XRL-2 350 $35 50
XRL-3 700 $17 40

years, years, $/$/year, 360 days / year.

Suppose that a total safety stock of $1200 is to be allocated
among the three items.
 Multiple items – Same
Item Demand (per year)
XRL-1 1200 $10 35
XRL-2 350 $35 50
XRL-3 700 $17 40

years, years, $/$/year, 360 days / year.

Suppose that a total safety stock of $1200 is to be allocated among the
three items.
Multiple Items
Equity:
◦ Same Probability of Stockout () for each Same gives
◦ Same Expected Stockouts per year same result for
◦ Same Expected for each each item

Overall:
◦ Minimize Expected Total Stockouts per Year (ETSOPY)
◦ Minimize Expected Total Value Short per Year (ETVSPY)
Minimize Expected Total
Stockouts per Year (ETSOPY)
Number of stockouts per year:

Compute for
Minimize Expected Total
Value Short per Year
(ETVSPY)

Compute for
But does treating all items equally lead to optimal?
◦ Not necessarily. You may want to have different policies for different items
for profit reasons.
 Minimize Expected Total
Stockouts per Year (ETSOPY)
Minimize:
Subject to:
Where is the maximum $ value in safety stock allowed and,

For system replace with

Solution Approach:
Use Excel’s Goal Seek to determine which sets
 Minimize Expected Total
Value Short per Year
(ETVSPY)
Minimize:
Subject to:
Where is the maximum $ value in safety stock allowed and satisfies:

For system replace with

Solution Approach:
Use Excel’s Goal Seek to determine which sets
 Multiple items
Item Demand (per year)
XRL-1 1200 $10 35
XRL-2 350 $35 50
XRL-3 700 $17 40

years, years, $/$/year, 360 days / year.

Suppose that a total safety stock of is to be allocated among the three
items.

But what if a company

doesn’t know ?
 Multiple items
Item Demand (per year)
XRL-1 1200 $10 35
XRL-2 350 $35 50
XRL-3 700 $17 40

years, years, $/$/year, 360 days / year.

Suppose that a total safety stock of is to be allocated among the
three items.
There is a tradeoff, a larger the , means fewer stockouts and
fewer shortages
Discussion: What ______ curves are used to show this tradeoff?
Exchange Curves
Minimize Expected Total Stockouts per Year (ETSOPY)
Minimize Expected Total Value Short per Year (ETVSPY)
 Minimize Expected Total
Stockouts per Year (ETSOPY)
Plot (Safety Stock Value) and a function of ETSOPY ( where,

To do so, compute for a variety of

For system replace with

Minimize Expected Total
Stockouts per Year (ETSOPY)
Plot (Safety Stock Value) and a function of ETSOPY ( where,

To do so, compute for a variety of

Excel Example:

Product d v L (yrs) xL EOQ

A1 1500 20 0.02 30 15 122
B2 500 60 0.05 25 10 41
C3 2000 75 0.02 40 20 73
 Minimize Expected Total
Value Short per Year
(ETVSPY)
Plot (Safety Stock Value) and a function of ETVSPY () where satisfies:

To do so, compute for a variety of

For system replace with

 Minimize Expected Total
Value Short per Year
(ETVSPY)
Plot (Safety Stock Value) and a function of ETVSPY () where satisfies:

Note:

To do so, compute for a variety of

Excel Example:
Product d v L (yrs) xL EOQ
A1 1500 20 0.02 30 15 122
B2 500 60 0.05 25 10 41
C3 2000 75 0.02 40 20 73
Summary
Not every item can be treated equally
Sometimes you have items that you prioritize for
different reasons (volumes of sales, price point, keeping
customers happy, avoiding shut downs)
Balancing your policies between different SKU items,
especially when there are a lot, can be a challenge. Focus
energy on the “A” or most important items first, then
build from there.
Exchange curves, and utilizing the goal seek function can
help find a balance that works between multiple items,
but this may need to be revisited periodically