INVENTORY MANAGEMENT

What is inventory?
A physical resource that a firm
holds in stock with the intent
of selling it or transforming it
into a more valuable state.

Purpose of inventory
management
• How many units to order?
• when to order?
 The term inventory means number of materials or
resource on hand. It includes raw material, work-in-
process, finished goods & stores & spares.

 Inventory Control is the process by which inventory is

measured and regulated according to predetermined
norms such as economic lot size for order or
production, safety stock, minimum level, maximum
level, order level etc.

 Inventory control pertains primarily to the

administration of established policies, systems &
procedures in order to reduce the inventory cost.
Important Terms
 Minimum Level – It is the minimum stock to be
maintained for smooth production.
 Maximum Level – It is the level of stock, beyond
which a firm should not maintain the stock.
 Reorder Level – The stock level at which an order
should be placed.
 Safety Stock – Stock for usage at normal rate
during the extension of lead time.
 Reserve Stock - Excess usage requirement during
normal lead time.
 Buffer Stock – Normal lead time consumption.
 Inventory Costs

Carrying cost

• cost of holding an item in inventory

Ordering cost

• cost of replenishing inventory

 Inventory Control Systems

• constant amount ordered

Continuous system
(fixed-order-quantity)
when inventory declines
to predetermined level

• order placed for variable

Periodic system
amount after fixed
(fixed-time-period) passage of time
Assumptions of Basic EOQ Model

Demand is known, constant, and independent

Lead time is known and constant

Order quantity received is instantaneous and

complete

No shortage is allowed
 Inventory Order Cycle

Order quantity, Q
Demand
rate
Inventory Level

Reorder point, R

0 Lead Lead Time

time time
Order Order Order
placedreceipt Order placed
receipt
 EOQ Cost Model

Co - cost of placing order D - annual demand

Cc - annual per-unit carrying cost Q - order quantity

Annual ordering cost = Co D

Q
Annual carrying cost = C cQ
2

Total cost = Co D
C cQ

Q +
 EOQ Cost Model

Deriving Qopt Proving equality of

costs at optimal
C oD point
C cQ Co D
TC = + =
Q C cQ Q
2
Q Q2 2 2 D
2C o
- C0 D + C c Q2
=
Cc
TC0 = Q-2 CoD
= 2+
2CoD
Cc 2CoD
Qopt = Cc
Qopt = Cc
 EOQ Cost Model (cont.)

Annual
cost ($) Total Cost
Slope = 0
CcQ
Minimum Carrying Cost =
2
total cost

CoD
Ordering Cost = Q

Optimal order Order Quantity, Q

Qopt