Inventory Management

1.Explain what is inventory, their types and disadvantages 2.Explain how volume decisions are made 3.Explain how timing decisions are made 4.Understand ABC analysis

Presenter Name

Inventory Management: Argos

Liz wants to buy a new iPod Nano 8 GB pink colour from Argos.

She: 1. Browses website for product

2. Checks price and stock by inputting catalogue number (900/7712) and full post code (NW15LS)
3. Purchases the product

Argos Website: http://www.argos.co.uk

Inventory Management: M&S

John wants to buy a new suit from M&S. He: 1. Browses website for product 2. Checks for suit size (plus trousers) availability and quantity 3. Adds items to basket 4. Fills-in payment and delivery details

M&S Website: http://www.marksandspencer.com

Inventory Management: NHS blood stock

Stock level on 08 February 2010

Total stock

Note: these figures don't include what's being held in hospital blood banks up and down the country. NHS blood stock website: http://www.blood.co.uk/StockGraph/stocklevelstandard.aspx

What is Inventory?
Inventory, also called stock , is the stored

accumulation of transformed resources in a

process usually applies to material resources

but may also be used for inventories of

information; inventories of customers (or customers of customers) are usually called queues.

Inventory is created to compensate for the differences in timing between supply and demand
Rate of supply from input process

Inventory

Rate of demand from output process

Input process

Output process

Inventory

Reasons for Holding Inventory

Maintain customer service levels for volatile

demand

Hedges against price and exchange rate

fluctuations

Protects against delivery lead-time variability

Buffer against unreliable supply sources Buffer against seasonal demand and supply Maintain supply of scarce supply Provide cover for emergencies

Supply and demand mismatches lead to different types of inventory

Anticipation inventory (seasonal inventory)
Inventory that is accumulated to cope with expected future demand or interruptions in supply (canning/freezing of seasonal foods).

Buffer inventory (safety inventory)

Inventory that compensates for unexpected fluctuations in supply and demand (retailing).

Cycle inventory
Inventory that occurs when one stage in a process cannot supply all the items it produces simultaneously; build up inventory of one item while it processes the others; batch production (bread making).

Pipeline inventory (WIP)

Inventory that exists because material cannot be transported instantaneously (retailing in-transit stock; also sometimes called mobile warehouse).

Cycle Inventory
Unilever purchases chemicals to make liquid detergent. The production line is running at a fixed speed.
Order quantity =Q
Steady and predictable demand (D)

Slope = demand rate (D)

Inventory level

Cycle inventory = Q 2 Q 2

Time

Estimating inventory levels

Lets estimate the cycle inventory for iPod Nano at Argos Data: Apple makes monthly shipments of iPod Nano to Argos in average lot sizes of 1000 units (Q).
Cycle inventory = Q/2 = 1000/2 = 500 units

Position of Inventory
Single-stage and two-stage inventory systems
Single-stage inventory system Multi-stage inventory system

Stock*

Sales operation

Central depot

Distribution

Local distribution point

Sales operation

Suppliers

Suppliers

e.g. Local retail store

e.g. Automotive parts distributor

* Stocks can be raw materials /components or work-in-progress waiting to be processed further

Disadvantage of Holding Inventory

1.Ties up working capital; 2.Risks damage, loss, deterioration, or obsolescence;

3.Raises overhead costs due to administrative,

holding, handling, insurance and transportation costs; 4.Raises quality costs.

Outline of Lecture
1.Explain what is inventory, their types and disadvantages 2.Explain how volume decisions are made

3.Explain how timing decisions are made

4.Understand ABC analysis

How much to order?

Source: www.fotosearch.com

The Order Quantity Decision

Total inventory costs = Ordering costs + Holding costs
Ordering costs = Number of orders x cost per order

Stock-holding costs = warehouse and all associated storage costs; obsolescence risk cost; management and stock control; insurance; security staff and security systems

Simplified inventory profile : charting the variation in inventory level

Order quantity =Q
Steady and predictable demand (D)

Slope = demand rate (D)

Inventory level

Cycle Q inventory = 2

Time interval between deliveries = Q D Replenishment orders with instantaneous deliveries at a rate of D per period Q

Time

Two alternative inventory plans

with different order quantities (Q)
Demand (D) = 1000 items per year Inventory level
400 Plan A Q = 400

Cycle inventory for plan A = 200

Plan B 100 Q = 100 Cycle inventory for plan B = 50

Time
0.1 yr 0.4 yr

Shorter time intervals between deliveries and more replenishment orders

Economic Order Quantity

400
350 300 250 Costs 200 150 Total costs

EOQ = the quantity of items to order that supposedly minimises the total cost of inventory management; the optimum order quantity

Holding costs

100
50 Order costs Economic order quantity (EOQ) 50 100 150 200 250 Order quantity 300 350 400

Traditionally Stock Holding Cost was Under-estimated

If the true costs of stock holding are taken into account, and if the cost of ordering (or changeover) is reduced, the economic order quantity (EOQ) is much smaller
Revised total costs Revised holding costs

Cost s

Original total costs Original holding costs Original order costs Revised order costs Revised EOQ Original EOQ

Order quantity

Outline of Lecture
1.Explain what is inventory, their types and disadvantages 2.Explain how volume decisions are made

3.Explain how timing decisions are made

4.Understand ABC analysis

The Order Timing Decision

When to order? Ordering too early If new stock arrives before the old stock has run out, the surplus raises the overall stock level for the whole period of the next cycle. Ordering too late Shortage occurs.

Ordering too late

Ordering too early

The re-order point and re-order level (1)

Orders may not arrive instantaneously while demand may not be steady as earlier shown. As lags may occur, it helps to understand the re-order point and re-order-level.
Demand (D) = 100 items per week
400

Inventory level

Re-order level 300 200 100 0 0 Re-order point

Order quantity (Q) = 400

Order lead time

Time

The re-order point and re-order level (2)

Re-order point The point in time at which more items are ordered, usually calculated to ensure that inventory does not run out before the next batch of inventory arrives. Re-order level The level of inventory at which more items are ordered, usually calculated to ensure that inventory does not run out before the next batch of inventory arrives.

Safety stock(s) helps to avoid stock-outs when demand and/or order lead times are uncertain
Re-order level (ROL) Inventory level Distribution of lead-time usage d1 d2 S t1 Re-order points Time t2

Lead-time usage - the amount of inventory that will be used between ordering replenishment and the inventory arriving, usually described by a probability distribution to account for uncertainty in demand and lead time.

The two-bin and three-bin systems

Re-ordering system that involves storing the re-order point quantity plus the safety inventory quantity in the 2nd bin and using parts from the 1st bin. When the 1st bin empties, that is the signal to order the next re-order quantity. Sometimes the safety inventory is stored in a 3rd bin.
Two-bin system Three-bin system

Bin 1

Bin 2

Bin 1

Bin 2

Bin 3

Items being used

Re-order level + safety inventory

Items being used

Re-order level inventory

Safety inventory

Outline of Lecture
1.Explain what is inventory, their types and disadvantages 2.Explain how volume decisions are made

3.Explain how timing decisions are made

4.Understand ABC analysis

The Pareto Law (80-20 rule)

Vilfredo Federico Damaso Pareto (July 15, 1848 August 19, 1923), or Fritz Wilfried Pareto, was an Italian sociologist, economist, and philosopher. He introduced the concept of Pareto efficiency and helped develop the field of microeconomics.
A general law found to operate in many situations that indicates that 20% of something causes 80% of something else, often used in inventory management (20% of products produce 80% of sales value) and improvement activities (20% of types of problems produce 80% of disruption).

ABC Inventory Control

An approach to inventory control that classes inventory by its usage value and varies the approach to managing it accordingly.

Class A items the 20% or so of highusage value items which account for around 80% of the total usage value

Class B items the next 30% or so of medium-usage value items which account for around 10% of the total usage value

Class C items the remaining 50% or so of low-usage value items which account for around the last 10% of the total usage value

Inventory Reduction Principles

Pool inventory
Safety stock can be lowered if demand for inventory can be combined. This includes inventory centralisation where demand from different locations is combined, postponement where product differentiation is delayed, and commonality where common components is used.

Reduce lead time

Transit inventory can be lowered with reduced lead times, but this will rely on improving the accuracy of forecasts

Reduce variation
Safety stock can also be lowered if variation of lead time, variation of demandsupply, variation of quality are reduced

Just-in-time inventory
Philosophy and technique that seeks to remove inventory holdings; small lot production

Measuring Inventory
Summing up the total value provides give an absolute measurement. However, in industrial practice a relative measurement, inventory turnover, is often used.

revenue Inventory turnover total value of inventory

Inventory is also measured by the amount of time it would last. For example, four weeks.

Alternatives
Vendor Managed Inventory (VMI):

A supplier company takes over the stock control

problem.

Ensures stock is available. May charge per product sold.

Summary
1.What is inventory, their types and disadvantages 2. How volume decisions are made 3. How timing decisions are made

4. ABC analysis

Further reading
Hollins, B., and Shinkins, S. (2006) Managing Service Operations Design and Implementation, Sage. (See Chapter 10 Global Supply Chain Management; and Chapter 12 Managing Capacity and Variations in Demand) Slack, N., Chambers, S., and Johnston, R. (2007) Operations Management, FT Prentice Hall. (See Chapter 12 Inventory Planning and Control) Mangan, J., Lalwani, C., and Butcher, T. (2008) Global Logistics and Supply Chain Management, John Wiley & Sons. (See Chapter 6 Inventory Management)