10 OM - Invent

Inventory planning and control
Slack, Chambers and Johnston, Operations Management 5th Edition © Nigel Slack, Stuart Chambers, and Robert Johnston 2007
Inventory planning and control
Inventory planning and Operations

control strategy
The market requires …
a quantity of products
and services at a Operations
particular time management
Design Improvement
The operation supplies ...
the delivery of a quantity of
products and services when
required Planning and
control
Inventory is created to compensate for the differences in
timing between supply and demand
Rate of supply from
input process
Source: Alamy/Van Hilversum
Rate of demand from

Inventory output process
Input Output
process process
Inventory
Functions of Inventory
1. To meet anticipated demand: Anticipation stock – average demand

2. To smooth production requirements: Seasonal inventories
3. To decouple operations: Buffer inventories
4. To protect against stock-outs: Safety stock – uncertainty
5. To take advantage of order cycles: Cycle stock - batch
6. To help hedge against price increases
7. To permit operations: Work-in-process, pipeline inventories
8. To take advantage of quantity discounts

The Material Flow Cycle
Cycle time
95% 5%
Input Wait for Wait to Move Wait in queue Setup Run Output
inspection be moved time for operator time time
Single-stage and two-stage inventory systems
Single-stage Two-stage
inventory system inventory system
Stock Sales Central Distribution Local Sales

operation depot distribution operation
point
Suppliers Suppliers
e.g. Local retail store e.g. Automotive parts

distributor
A multi-stage inventory system
Input Stage WIP Stage WIP Stage Finished

stock 1 2 3 goods
stock
Suppliers
e.g. Television manufacturer
A multi-echelon inventory system
Garment
manufacturers
Cloth Regional
manufacturers warehouses
Yarn Retail
producers stores
A paper merchant must get its inventory planning and
control right
11-10 Inventory Management
Economic Order Quantity Models

• Economic order quantity model
• Economic production model
• Quantity discount model
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
The Inventory Cycle

Figure 11.2
Profile of Inventory Level Over Time

Q Usage
Quantity rate
on hand
Reorder
point
Time
Receive Place Receive Place Receive
order order order order order
Lead time
The EOQ
Annual setup cost =
D
S
Model Annual holding cost =
Q
Q
2
H
Q = Number of pieces per order

Q* = Optimal number of pieces per order (EOQ)
D = Annual demand in units for the Inventory item
S = Setup or ordering cost for each order
H = Holding or carrying cost per unit per year
Optimal order quantity is found when annual setup cost

equals annual holding cost
D Q
S = H
Q 2
Solving for Q*
2DS = Q2H
Q2 = 2DS/H
Q* = 2DS/H
Total Cost
Annual Annual
Total cost = carrying + ordering
cost cost
Q + DS
TC = H
2 Q
Cost Minimization Goal

Figure 11.4C
The Total-Cost Curve is U-Shaped

Q D
TC = H + S
Annual Cost
2 Q
Ordering Costs
Order Quantity (Q)

QO (optimal order quantity)
Deriving the EOQ
Using calculus, we take the derivative of the

total cost function and set the derivative
(slope) equal to zero and solve for Q.
2DS 2(Annual Demand )(Order or Setup Cost )

Q OPT = =
H Annual Holding Cost
Minimum Total Cost
The total cost curve reaches its minimum

where the carrying and ordering costs are
equal.
2DS 2(Annual Demand )(Order or Setup Cost )

Q OPT = =
H Annual Holding Cost
An EOQ Example
Determine optimal number of needles to order
D = 1,000 units
S = $10 per order
H = $.50 per unit per year
2DS
Q* =
H
2(1,000)(10)
Q* = = 40,000 = 200 units
0.50
© 2006 Prentice Hall, Inc. 12 – 18

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
Original total
Cost
costs
s
Original
holding costs
Original order
costs
Revised order
costs
Revised Original
EOQ EOQ Order quantity
Source: Howard Smith Paper Group
Pareto curve for stocked items
100
Percentage of value of items
90
80
70
60
50
40 Class A Class B Class C
items items items
30
20
10
10 20 30 40 50 60 70 80 90 100
Percentage of types of items
Inventory classifications and measures
Class B items – the

next 30% or so of
Class A items – the medium-value items
20% or so of high-value which account for
items which account for around 10% of the total
around 80% of the total stock value
stock value
Class C items – the

remaining 50% or so of
low-value items which
account for around the
last 10% of the total
stock value
ABC Classification
System
 Demand volume and value of items vary
 Classify inventory into 3 categories,
typically on the basis of the dollar value
to the firm
PERCENTAGE PERCENTAGE
CLASS OF UNITS OF DOLLARS
A 5 - 15 70 - 80
B 30 15
C 50 - 60 5 - 10
ABC Classification
PART UNIT COST ANNUAL USAGE
1 $ 60 90
2 350 40
3 30 130
4 80 60
5 30 100
6 20 180
7 10 170
8 320 50
9 510 60
10 20 120
ABC Classification
TOTAL
PART % OF TOTAL
UNIT COST% OF TOTAL
ANNUAL USAGE
PART VALUE VALUE QUANTITY % CUMMULATIVE
9 1
$30,600 35.9$ 60 6.0 90 6.0
2 350 40
8 16,000
3
18.7 30 5.0 130
11.0
2 14,000
4 16.4 80 4.0 60 15.0
1 5,400
5 6.3 30 9.0 100 24.0
4 6
4,800 5.6 20 6.0 180 30.0
7 10 170
3 3,900
8
4.6320 10.0 50
40.0
6 3,600
9 4.2510 18.0 60 58.0
5 3,000
10 3.5 20 13.0 120 71.0
10 2,400 2.8 12.0 83.0
7 1,700 2.0 17.0 100.0
$85,400
ABC Classification
TOTAL
PART % OF TOTAL
UNIT COST% OF TOTAL
ANNUAL USAGE
9 1
$30,600 35.9$ 60 6.0 90 6.0
2 350 40
8 16,000
3
18.7 30 5.0 A130
11.0
2 14,000
4 16.4 80 4.0 60 15.0
1 5,400
5 6.3 30 9.0 100 24.0
6 5.6 20 180
4 4,800
7 10
6.0 B170
30.0
3 3,900
8
4.6320 10.0 50
40.0
6 3,600
9 4.2510 18.0 60 58.0
5 3,000
10 3.5 20 13.0 120 71.0
10 2,400 2.8 12.0 C 83.0
7 1,700 2.0 17.0 100.0
$85,400
ABC Classification
TOTAL
PART % OF TOTAL
UNIT COST% OF TOTAL
ANNUAL USAGE
1
9 $30,600 35.9$ 60 6.0 90 6.0
2 350 40
8 16,000
3
18.7 30 5.0 A130
11.0
2 14,000
4 16.4 80 4.0
% OF TOTAL %60 15.0
OF TOTAL
1 CLASS
5,400
5 ITEMS6.3 30 VALUE9.0 100
QUANTITY24.0
6 5.6 20 180
4 4,800
7
A3,900 9, 8, 2 4.6 10
6.0
71.010.0
B170 15.0
30.0
3 8 320 50
40.0
6 B3,600
9
1, 4, 3 4.2510 16.518.0 60
25.058.0
5 C3,000
10 6, 5, 10,
3.57 20 12.513.0 120 60.071.0
10 2,400 2.8 12.0 C 83.0
7 1,700 2.0 17.0 100.0
$85,400
ABC Classification
100 – C
80 – B
60 –
% of Value
A
40 –
20 –
0–
| | | | | |
0 20 40 60 80 100
% of Quantity
Key Terms Test
Inventory (also known as stock)
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.
Buffer inventory
An inventory that compensates for unexpected fluctuations in
supply and demand; can also be called a safety inventory.
Cycle inventory
Inventory that occurs when one stage in a process cannot supply
all the items it produces simultaneously and so has to build up
inventory of one item while it processes the others.
Key Terms Test
De-coupling inventory
The inventory that is used to allow work centres or
processes to operate relatively independently.
Anticipation inventory
Inventory that is accumulated to cope with expected
future demand or interruptions in supply.
Pipeline inventory
The inventory that exists because material cannot be
transported instantaneously.
Key Terms Test
Work-in-process (WIP)
The number of units within a process waiting to be processed
further (also called work-in-progress).
Economic order quantity (EOQ)

The quantity of items to order that supposedly minimizes the total
cost of inventory management, derived from various formulae.
Economic batch quantity (EBQ)

The amount of items to be produced by a machine or process that
supposedly minimizes the costs associated with production and
inventory holding.
Key Terms Test
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.
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.
Key Terms Test
Continuous review
An approach to managing inventory that makes inventory-related
decisions when inventory reaches a particular level, as opposed
to periodic review.
Periodic review
An approach to making inventory decisions that defines points in
time for examining inventory levels and then makes decisions
accordingly, as opposed to continuous review.
Usage value
A term used in inventory control to indicate the quantity of items
used or sold multiplied by their value or price.
Key Terms Test
Pareto law
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.
Perpetual inventory principle

A principle used in inventory control that inventory records should
be automatically updated every time items are received or taken
out of stock.

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Inventory planning and control

Inventory planning and Operations

Source: Alamy/Van Hilversum

Rate of demand from

1. To meet anticipated demand: Anticipation stock – average demand

6. To help hedge against price increases

7. To permit operations: Work-in-process, pipeline inventories

8. To take advantage of quantity discounts

Stock Sales Central Distribution Local Sales

e.g. Local retail store e.g. Automotive parts

Input Stage WIP Stage WIP Stage Finished

e.g. Television manufacturer

Economic Order Quantity Models

Assumptions of EOQ Model

The Inventory Cycle

Profile of Inventory Level Over Time

Q = Number of pieces per order

Optimal order quantity is found when annual setup cost

Cost Minimization Goal

The Total-Cost Curve is U-Shaped

Order Quantity (Q)

Deriving the EOQ

Using calculus, we take the derivative of the

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

Minimum Total Cost

The total cost curve reaches its minimum

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

© 2006 Prentice Hall, Inc. 12 – 18

Pareto curve for stocked items

Percentage of types of items

Class B items – the

Class C items – the

Economic order quantity (EOQ)

Economic batch quantity (EBQ)

ABC inventory control

Perpetual inventory principle

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