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inventory mgt. - Inventory Management Inventory Inventory...

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Unformatted text preview: Inventory Management Inventory Inventory Inventory Raw materials Inventory that will form part of the completed Inventory product, but which has yet to enter the production process production Work in process Partially completed products which require Partially additional processing before they become finished goods finished Finished goods Completed products not yet sold (manufacturer) Completed or merchandise on hand (retailer or wholesaler) or Functions of Inventory “Decouple” or separate various parts of the Decouple” production process production s To hedge against inflation and upward price To changes-Speculative changess Production smoothing s Customer service safety stock s Benefits and Costs of Holding High Levels of Inventory High Benefits More likely to satisfy customer demand Lower ordering costs Costs Capital tied up Storage costs Insurance costs WHERE’S MY STUFF? Inventory Costs Ordering or Setup Cost Purchase or Production Cost Holding Costs Stock-out Cost Total Inventory Cost Inventory Costs Ordering costs / Setup costs - associated with costs of placing order and receiving goods goods s Holding costs - associated with holding or “carrying” inventory over time “carrying” s Stock-out costs - associated with shortage of inventory of s ABC Analysis s Divides on-hand inventory into 3 classes x A class, B class, C class s Basis is usually annual $ volume x $ volume = Annual demand x Unit cost s Policies based on ABC analysis x Develop class A suppliers more x Give tighter physical control of A items x Forecast A items more carefully Classifying Items as ABC % Annual $ Usage 100 80 60 40 20 0 0 50 100 Class A B C % $ Vol. 80 15 5 % Items 15 30 55 A B C % of Inventory Items Inventory Models How Much? When! Help answer the inventory planning questions! EOQ Model Annual Cost e urv e st C Co urv l ota st C T o gC ldin Ho Order (Setup) Cost Curve Optimal Order Quantity (Q*) Order Quantity Inventory Management Under Certainty Under Economic order quantity model: the optimal quantity of inventory ordered that the minimizes the cost of purchasing and holding the inventory the EOQ Assumptions s Demand is deterministic x We know how much will be demanded and when the We demand will occur demand s Demand is constant over time x Given a known level of demand, that demand will be Given evenly spread throughout the time period evenly s Delivery is immediate x There is no time lag between production and There availability - lead time is zero availability EOQ Assumptions (continued) s Production is instantaneous x x x No capacity constraint all items are produced simultaneously or; the entire order is received at the same time s Irrespective of the size of the order, the Irrespective order costs are assumed as fixed order Economic Order Quantity Notation: U = demand (in physical units) per period F = acquisition costs ($) per order placed acquisition C = carrying cost ($) per period per unit of inventory, including opportunity cost Q = quantity (in physical units) per order P = price ($) per unit of inventory Economic Order Quantity (cont.) Economic Acquisition costs per year : F*U/Q Average inventory level : Q/2 Carrying costs per year : annual carrying cost per unit of inventory annual * average inventory average C* Q/2 Economic Order Quantity (cont.) Economic Annual total costs (TC) : TC = F*U/Q + C*Q/2 Acquisition costs will increase as the order Acquisition quantity is reduced, but carrying costs will increase as the order quantity increases increase Economic order quantity: Q = √ ( 2 * F*U / C) Example The Acer Co. buys 10,000 units of a certain The raw material each year. The cost of placing one order is $45 and it costs $4 per year to carry one unit of inventory. carry What is Acer’s EOQ? Solution EOQ = [(2*F*U)/C]1/2 = {[2*($45)*(10,000)] /4}1/2 = 475 units EOQ Model s Annual ordering cost Annual s = F(U/Q)= $45(10,000/475) F(U/Q)= = $947 per year $947 s Annual holding cost Annual s = C(Q/2) = $4(475/2) = $950 per year $950 s Total annual cost = $947 + $950 = $1,897 per year $1,897 Limitation of EOQ Limitation Assumption of constant consumption/ usage of Assumption inventories is of doubtful validity. There may be lead time in Replenishment of the There stock. stock. Demand may vary. Price per unit may vary with the size of the order. The EOQ Model with Quantity Discounts Quantity Discounts for quantity purchases reduce the Discounts price of inventory and spread acquisition costs over a larger base. costs To Incorporate Discounts To 1 2 3 Determine optimal quantity in the absence of quantity Determine discounts. discounts. Calculate price paid for that quantity with the discount. For each of the quantity discounts, calculate the price For payable for the quantity closest to the optimal quantity determined in 1. determined Calculate the total cost for each combination of price and Calculate quantity. quantity. Select the combination that achieves the lowest total cost. 4 5 Example s Economic Enterprises require 90,000 units of items annually. Cost per unit is Rs. 3. The cost per purchase order is Rs. 300. And the inventory carrying cost is Rs. 6 per unit per year. What should the firm do if the suppliers offer discounts as follows: Order quantity 4500-5999 6000 and above Discount 2% 3% Solution EOQ = 3000 units Cost per purchase order = Rs. 300 Order Size (units) Average Inventory (units) Annual Requirements(units) Number of Orders Price per unit Cost of purchase Carrying Cost @ 6/unit Total Ordering cost Total Cost 3000 1500 90000 30 3 2,70,000 9000 9000 2,88,000 4500 2250 90000 20 2.94 2,64,600 13500 6000 2,84,100 6000 3000 90000 15 2.91 2,61,900 18000 4500 2,84,400 EOQ Model - When To Order Inventory Level Optimal Order Quantit y (Q*) Reorder Point O (ROP) Q Average Inventory (Q*/2) .75 1 Lead Time 2 3 Time Order Point Order Decisions: quantity to be ordered reorder point level of inventory at which a new order will be level placed placed With certainty, inventory ordered when inventory levels equal the demand during lead time Lead time in days for procurement * Average daily usage Inventory Management with Uncertainty Inventory Level Reorder Point Safety Stock Level Lead Time Time Order Point Under Uncertainty Order In reality, the level of demand and the rate at In which the raw materials inventory will be used in production are not known with certainty production With uncertainty, an adjustment is necessary Normal consumption + Safety Stock Safety Stock Stock-out costs Loss of profit Loss of customers Disrupt the production Disrupt schedule schedule Inversely proportional Inversely to safety stock to Carrying costs Costs associated with Costs maintaining inventory maintaining Directly proportional Directly to safety stock to Determining Safety Stocks The level of safety stock can be calculated by: The Where usage rate is variable and the maximum usage rate Where can be specified can (Maximum usage rate – Average usage rate) * Lead time When both lead time and usage rate vary Maximum possible usage – Normal usage = (Maximum daily usage * Maximum Lead Time) – (Average daily usage * Average lead time) Example The following information is available relating to the stock-out of The a firm firm Stock out (units) Number of months 800 2 600 3 400 5 200 10 0 30 50 The selling price of each unit is Rs 200. The carrying costs are Rs 19 The per unit. The stock out costs are Rs 50 per unit. per i) If the firm wishes to never miss a sale, what should be its safety If stock? What is the total cost associated with this level of safety stock? ii) What is the optimal safety stock level? ii) What s Solution Stock-out Costs Safety stock Stock out units Rs50 Stock-out costs Prob of Stock-out Expect Stock- Total Expected out Cost Stock-out costs 800 600 400 200 0 0 200 400 200 600 400 200 800 600 400 200 0 10000 20000 10000 30000 20000 10000 40000 30000 20000 10000 0 0.04 0.04 0.06 0.04 0.06 0.1 0.04 0.06 0.1 0.2 0 400 800 600 1200 1200 1000 1600 1800 2000 2000 0 400 1400 3400 7400 Carrying Costs Rs19 Safety stock Total Expected Carying cost Total Safety Stock-out costs Stock Cost 0 200 400 600 800 7400 3400 1400 400 0 0 3800 7600 11400 15200 7400 7200 9000 11800 15200 Inventory Management and the ‘Just-In-Time’ system The ‘just-in-time’ system is a way of organizing The the manufacturing of goods and is based on the concept that raw materials, equipment and labor are each supplied only in amounts required, and at the times required, to perform the manufacturing task. task. Just in Time s s s s Strong and dependable relationship with suppliers Geographical proximity Reliable transportation system Easy physical access for incoming supplies Inventory Management and the ‘Just-In-Time’ system (cont.) This synchronization of delivery with demand This reduces inventory levels, lead times and delivery quantities. quantities. The aim of the system is to achieve an The improvement in overall efficiency, as well as a reduction in inventory costs. reduction ...
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