M3 Inventory Management

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Distribution and modifications of the content is prohibited.
Inventory Management
1.Definition of Inventory, Inventory types & functions;
2.EOQ Model and Buffer Stock, Assumptions, Instantaneous
Replenishment case,
3.Demand and production rate are different, when backorders
are allowed, Buffer Stock and ROL.
4.Replenishment systems (Q and P system) Inventory Control-
ABC Analysis,
5.Numerical on ABC analysis and
6.Numerical on VED Analysis
St. Francis Institute of Technology Logistics and Supply Chain Management

Department of Mechanical Engineering Dr. Ravindra Garmode 1
The material in this presentation belongs to St. Francis Institute of Technology and is solely for educational purposes. Distribution and modifications of the content is prohibited.
Inventory
Inventory means the stock of the product of a company and

components thereof that makes up the product.
It includes,
1. Raw materials: material, components, fuels used in the
manufacturing of the product.
2. Work in progress: partly finished goods that are waiting
further processing.
3. Finished goods: products ready for sale or distribution.

Inventory Types
1.Production Inventory : raw materials, finished/ semi finished

parts or components procured from outside source.
2. Work in progress: product required different stages of manufacturing
3. Finished goods: products ready to dispatch.
4.Operating and Maintenance Inventory: These include the
items which do not form the part of the final product
but are either consumables used during the manufacturing
process or items needed required for repair and
maintenance function.
5. Miscellaneous Inventory: stationary
Conventional classification of Inventory Types
1.Direct Inventories: raw material.

2.Indirect Inventories: cutting fluid, lubricants and other
consumable items.
3.Finished products Inventories: products ready for dispatch.
4.Purchased Part Inventories: semi-finished, finished parts
purchased from the market for utilization at the time of
assembly of the final product.

Major Objectives for holding Inventory ( MU 2022)
1.Financial Objectives:
2.To create a buffer stock between the Input and output:
3.To ensure against delay in deliveries:
4.To ensure against scarcity of materials in the market:
5.To make use of quantity discount:
6.To utilize to advantage price fluctuation:
7. To allow for a possible increase in o/p if required.

Inventory functions
• To meet anticipated(expected) demand.

• To smooth production requirements.
• To decouple(double) components of the production –
distribution.
• To protect against stock-outs.
• To take advantage of order cycles.
• To help hedge against price increases or to take
advantage of quantity discounts.
• To permit operations.
Volume of Inventory
The procurement and quantity of inventory is

based on following factors;
1. Availability of Finance
2. Quantity Discount Allowed
3. Ordering cost
4. Storage Space Available
5. Risk of Loss Due to Price Fluctuations
6. Economic Ordering Quantity
7. Time to Obtain Delivery of Goods

Advantages of Inventory
1. It helps to reduce carrying cost.

2. It ensure uninterrupted production.
3. Lot of manual work can be eliminated.
4. Ensures minimum wastages.
5. Effective utilization of floor space.
6. Effective material handling possible.
7. Better forecasting possible.
8. It helps to avoid over or under investment in inventory.

Disadvantages of Inventory
Disadvantages of Excess of Inventory :

1.It consumes the funds, which can’t be used for other.
2.It increases cost of storage, insurance, transportation.
3.Delay due to over crowding of material.
Disadvantages of Inadequate Inventory :
4.High risk of Liquidity
5.It might affect flow of production.
6.Organization may fail to meet delivery commitments.
7.Failure to meet demands of consumers needs.

Effective Inventory Management

• A system to keep track of inventory
• A reliable forecast of demand
• Knowledge of lead times
• Reasonable estimates of
• Holding costs
• Ordering costs
• Shortage costs

Inventory Counting Systems
Continuous Stock Taking Periodic Stock Taking
1] It held throughout the year 1] It held once in a year

2] Stock discrepancies are detected 2] Under this system preventive
and prevented without delay. measures is delayed process.
3] Normal work is not disturbed. 3] Normal work is bound to affect
4] Permanent personnels are 4] Temporary personnels are
required required
5] This is long and costly 5] Relatively cheaper and shorter
procedure method
6] Physical verification of 6] All materials are thoroughly
materials are on random basis. checked.

Inventory Counting Systems

• Two-Bin System - Two containers of inventory; reorder
when the first is empty
• Universal Bar Code - Bar code printed on a label that
has information about the item to which it is attached
214800 232087768

The Inventory Cycle

Profile of Inventory Level Over Time
Q Usage
rate
Quantity
on hand
Reorder
point
Time
Receive Place Receive Place Receive
order order order order order
Lead time
The Inventory Cycle

The Inventory Cycle

Cost Minimization Goal

The Total-Cost Curve is U-Shaped
Q D
TC  H  S
2 Q
Annual Cost
Ordering Costs
Order Quantity (Q)

QO (optimal order quantity)

Total Cost
Annual Annual
Total cost = carrying + ordering
cost cost
Q D
TC = H + S
2 Q

When to Reorder with EOQ Ordering
• Reorder Point - When the quantity on hand of an item

drops to this amount, the item is reordered
• Safety Stock - Stock that is held in excess of expected
demand due to variable demand rate and/or lead time.
• Service Level - Probability that demand will not exceed
supply during lead time.

Key Inventory Terms
• Lead time: time interval between ordering and

receiving the order.
• Holding (carrying) costs: cost to carry an item in
inventory for a length of time, usually a year.
• Ordering costs: costs of ordering and receiving
inventory.
• Shortage costs: costs when demand exceeds supply.

Economic Order Quantity(EOQ) Model
1.EOQ is a mathematical formula that calculates the

optimal order quantity based on the cost of ordering
and holding inventory, taking into account lead times,
demand, and reordering costs.
2. It is effective technique for Inventory management

Assumptions of EOQ Model
• Only one product is involved.

• Annual demand requirements known.
• Demand is even throughout the year.
• Lead time does not vary.
• Each order is received in a single delivery.
• There are no quantity discounts.

Economic Order Quantity(EOQ) Model
2DS 2(Annual Demand)(Order or Setup Cost )

Q OPT = =
H Annual Holding Cost
Where,
D= Demand rate (quantity sold per year)
S= Setup cost ie shipping or handling
H= Holding cost (per year, per unit)

Economic Order Quantity

1. A firm has annual demand of inventory 12,000 units. Ordering cost
of 500 Rs per purchase order. Carrying costs of 300 Rs per unit/ per
year.
What is the EOQ?
Given Data:
Demand (D) =12,000 units
Ordering cost (S) = Rs.500 per purchase order.
Carrying costs (H) = Rs.300 per unit/ per year.
EOQ = (2DS/H)1/2
= ((2*12000*500)/300)1/2
= ??
Economic Order Quantity (MU Dec 2022)

2. Find the optimum order quantity given that annual usage is 500
pieces, setup cost is Rs. 10, I=20%, cost per unit is Rs. 100.
Given Data: Demand(D) = 500 pieces
Setup cost(S) = Rs.10.
Purchasing cost = Rs. 100.
Holding cost(H) = Purchasing cost X Avg. Inventory
= 100 X 20/100
= Rs. 20
EOQ = (2DS/H)1/2 = ((2*10*500)/20)1/2
= ……pieces
Buffer Stock:
It is
1. additionally stored volume of goods which is kept to meet any
sudden demand.
2. backup stock.
3. also known as safety stock.
Importance of Buffer Stock:

It reduces the stock-out situation.
Used in the situation of uncertainty in demand fluctuation.

Buffer Stock Parameter:
1. Accurate forecasting
2. Refill frequency
3. Lead time
4. Product perishability
5. Seasonal variation

Buffer Stock
Advantages:
1. Prevention from demand supply fluctuation
2. Stable revenue generation
3. Reduction to loss in order
Disadvantage:
Additional overhead costs in purchasing and storing in the stock.

Safety Stock
Quantity
Maximum probable demand

during lead time
Expected demand
during lead time
ROP
Safety stock
LT Time

Reorder Point
Service level
Risk of
a stockout
Probability of
no stockout
ROP Quantity
Expected
demand Safety
stock
0 z z-scale

Instantaneous Replenishment Case:
The process of Inventory moving from reserve storage to primary

storage.
This term used for both cases like ??
• ready to sell inventory as well as
• raw materials received from supplier

Factors impact on Inventory Replenishment Method
1. Fluctuation in company’s forecast:

2. Warehouse space is not optimized:
3. End to end visibility is poor:

Q-Model and P-model
Feature Q-Model P-Model

Fixed Order Fixed-Time Period
Quantity Model Model
Order (quantity) Qty-constant Qty-variable
When to place the R- when inventory T- when the review
order position drops to period arrives
the reorder level
Recordkeeping Each time a Counted only at
withdrawal or review period
addition is made arrives
Size of Inventory Less than P-model Larger than Q-
model
Periodic Inventory System

ABC Analysis :Procedure for ABC Analysis
The procedure for implementing ABC Analysis is elaborated below;

1.Classify the items to their grade or specifications.
2.Ascertain the cost per unit of each item and expected usage over a
given period of time.
3.Determine the total cost of each item by multiplying the expected units
by its unit price.
4.Rank the items in accordance with the total cost.
5.Calculate the percentages
6.Group the items on the basis of their relative value to form three categories
viz. A, B, C.

ABC Analysis
Class C
100 — Class B
Classifying inventory 90 —
Class A
according to some measure
Percentage of dollar value

80 —
of importance and 70 —
allocating control efforts 60 —
accordingly. 50 —
A - very important 40 —
30 —
B - mod. important 20 —
C - least important 10 —
0—
10 20 30 40 50 60 70 80 90 100
Percentage of SKUs

ABC Problem
Booker’s Book Bindery divides SKUs into three classes, according to
their dollar usage.
Calculate the usage values of the following SKUs and determine which
is most likely to be classified as class A.
Quantity Used per
SKU Number Description Unit Value ($)
Year
1 Boxes 500 3.00
2 Cardboard 18,000 0.02
(square feet)
3 Cover stock 10,000 0.75
4 Glue (gallons) 75 40.00
5 Inside covers 20,000 0.05
6 Reinforcing tape (meters) 3,000 0.15
7 Signatures 150,000 0.45

ABC Problem
Quantity Used per Annual Dollar Usage
SKU Number Description Unit Value ($)
Year ($)
1 Boxes 500  3.00 = 1,500
2 Cardboard 18,000  0.02 = 360

(square feet)
3 Cover stock 10,000  0.75 = 7,500
4 Glue (gallons) 75  40.00 = 3,000
5 Inside covers 20,000  0.05 = 1,000
6 Reinforcing tape (meters) 3,000  0.15 = 450
7 Signatures 150,000  0.45 = 67,500
Total 81,310

Class C
100 – Class B
Class
90 – A
Percentage of Dollar Value
80 –
70 –
60 –
50 –
40 –
30 –
20 –
10 –
0–
10 20 30 40 50 60 70 80 90 100
Percentage of SKUs

VED ANALYSIS
•Based on critical value & shortage cost of an item
– It is a subjective analysis.
• Items are classified into:
Vital:
• Shortage cannot be tolerated.
Essential:
• Shortage can be tolerated for a short period.
Desirable:
 Shortage will not adversely affect, but may be using
more resources. These must be strictly Scrutinized
V E D ITEM COST
CATEGORY 1- NEEDS CLOSE MONITORING &
A AV AE AD CATEGORY 1 10 70% CONTROL
CATEGORY 2- MODERATE CONTROL.
B BV BE BD CATEGORY 2 20 20%
CATEGORY 3- NO NEED FOR CONTROL
C CV CE CD CATEGORY 3 70 10%


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The material in this presentation belongs to St. Francis Institute of Technology and is solely for educational purposes.

Distribution and modifications of the content is prohibited.

St. Francis Institute of Technology Logistics and Supply Chain Management

Inventory means the stock of the product of a company and

St. Francis Institute of Technology Logistics and Supply Chain Management

1.Production Inventory : raw materials, finished/ semi finished

Conventional classification of Inventory Types

1.Direct Inventories: raw material.

St. Francis Institute of Technology Logistics and Supply Chain Management

Major Objectives for holding Inventory ( MU 2022)

St. Francis Institute of Technology Logistics and Supply Chain Management

• To meet anticipated(expected) demand.

The procurement and quantity of inventory is

St. Francis Institute of Technology Logistics and Supply Chain Management

1. It helps to reduce carrying cost.

St. Francis Institute of Technology Logistics and Supply Chain Management

Disadvantages of Excess of Inventory :

St. Francis Institute of Technology Logistics and Supply Chain Management

Effective Inventory Management

St. Francis Institute of Technology Logistics and Supply Chain Management

Inventory Counting Systems

Continuous Stock Taking Periodic Stock Taking

1] It held throughout the year 1] It held once in a year

St. Francis Institute of Technology Logistics and Supply Chain Management

Inventory Counting Systems

St. Francis Institute of Technology Logistics and Supply Chain Management

The Inventory Cycle

The Inventory Cycle

St. Francis Institute of Technology Logistics and Supply Chain Management

The Inventory Cycle

St. Francis Institute of Technology Logistics and Supply Chain Management

Cost Minimization Goal

Order Quantity (Q)

St. Francis Institute of Technology Logistics and Supply Chain Management

St. Francis Institute of Technology Logistics and Supply Chain Management

When to Reorder with EOQ Ordering

• Reorder Point - When the quantity on hand of an item

St. Francis Institute of Technology Logistics and Supply Chain Management

Key Inventory Terms

• Lead time: time interval between ordering and

St. Francis Institute of Technology Logistics and Supply Chain Management

Economic Order Quantity(EOQ) Model

1.EOQ is a mathematical formula that calculates the

St. Francis Institute of Technology Logistics and Supply Chain Management

Assumptions of EOQ Model

• Only one product is involved.

St. Francis Institute of Technology Logistics and Supply Chain Management

Economic Order Quantity(EOQ) Model

2DS 2(Annual Demand)(Order or Setup Cost )

St. Francis Institute of Technology Logistics and Supply Chain Management

Economic Order Quantity

Economic Order Quantity (MU Dec 2022)

Importance of Buffer Stock:

St. Francis Institute of Technology Logistics and Supply Chain Management

Buffer Stock Parameter:

St. Francis Institute of Technology Logistics and Supply Chain Management

St. Francis Institute of Technology Logistics and Supply Chain Management

Maximum probable demand

St. Francis Institute of Technology Logistics and Supply Chain Management

St. Francis Institute of Technology Logistics and Supply Chain Management

Instantaneous Replenishment Case:

The process of Inventory moving from reserve storage to primary

St. Francis Institute of Technology Logistics and Supply Chain Management