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Quantitative Models for Materials Planning

Chapter 13

Planning Materials Requirements

Planning importance
Begins with the design of a product

Planning Materials Requirements

To plan manufacturing requirements, every stock item must be analyzed periodically to:

Forecast demand for the next period Determine acquisition lead time Plan usage during the lead time Establish quantity on hand Determine reserve or safety stock requirements Place units on order

Planning Materials Requirements

Accurate future requirements for each stock item or product play a central role in materials control. Materials planning deals with two fundamental factors:

The quantity The time to purchase

Planning Materials Requirements

Determination of how much and when to buy involves two conflicting kinds of cost:

The cost of carrying inventory The cost of inadequate carrying

Cost of Carrying inventory

Investment cost Property rent/storage cost Insurance Handling cost Deterioration and shrinkage of stocks Obsolescence

Cost of Inadequate carrying

Extra purchasing, handling and transportation cost Higher price due to small order quantity Frequent stockouts resulting in disruptions production schedule Additional clerical costs Inflation-oriented increases in prices Lost sales and loss of GOODWILL

Economic Order Quantity

EOQ Amount of inventory to be ordered at one time for purposes of minimizing annual inventory cost.

Economic Order Quantity

The quantity to be ordered at a given time must be determined by balancing two factors:

The cost of carrying (possessing) materials The cost of ordering (acquiring) materials

Formula

EOQ= 2* annual required units*cost per order


Cost per unit of material*carrying cost percentage

OR
EOQ= 2*RU*CO CU*CC

Formula

The formula is based on the following relationships:

RU/EOQ= No.of orders placed annually


RU*CO/EOQ= Annual ordering cost EOQ/2= Avg. no of units in inventory at any point in time CU*CC*EOQ/2= Annual carrying cost

Example

Estimated requirement for the next year: 2400units Cost of the item per unit: $1.50 Ordering cost: $20 Inventory carrying cost: 10%

Solution

EOQ= 2*2400*$20 $1.50*10% EOQ= 800 units

Economic Order Quantity

It is also possible to express EOQ in dollars rather than in units. EOQ= 2*AB I A= annual requirement in dollars B= ordering cost(per order) Inventory carrying costs.

Example

Estimated requirement for the next year: 2400units Cost of the item per unit: $1.50 Ordering cost: $20 Inventory carrying cost: 10%

Solution

A= 2,400*$1.50= $3,600 B= $20 I= 10% per year


EOQ= 2*3,600*$20 0.10 EOQ= $1,200 total cost.

Economic Order Quantity

Cost of carrying inventory can be calculated and expressed numerically Cost of not carrying inventory is difficult to be calculated; yet they must be considered upon ordering quantities.

Graph

Low point

Total annual cost to order and carry

Annual carrying cost Annual ordering cost

Economic order quantity

Quantity Price Discounts

Purchasing in large quantities


Earns discounts and reduces per unit freight cost But it increases investment in inventories

Therefore larger quantities should be purchased only if the earned discount is more than the cost of additional investment

Inventory Turnover

Ratio between COGS and average inventory investment Number of times per period that inventory is physically replaced
The higher it is the better

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