Inventory

 The amount of material, a company has

in stock at a specific time is known as
inventory or in terms of money it can
be defined as the total capital
investment over all the materials
stocked in the company at any specific
time.
Inventory may be in the form of,
Why Inventories?

 Inventories are needed because demand and

supply can not be matched for physical and
economical reasons. There are several other
reasons for carrying inventories in any
organization.
 To safe guard against the uncertainties in
price fluctuations, supply conditions, demand
conditions, lead times, transport
contingencies etc.
 To reduce machine idle times by
providing enough in-process inventories
at appropriate locations.
 To take advantages of quantity
discounts, economy of scale in
transportation etc.
 To reduce the material handling cost of
semi-finished products by moving them
in large quantities between operations.
 To reduce clerical cost associated with
order preparation, order procurement
etc.
 Relevant Inventory Costs
Unit cost: : it is usually the purchase price of the item under
consideration. If unit cost is related with the
purchase quantity, it is called as discount price.
Procurement This includes the cost of order preparation, tender
costs: placement, cost of postages, telephone costs,
receiving costs, set up cost etc.
Carrying costs: This represents the cost of maintaining inventories
in the plant. It includes the cost of insurance,
security, warehouse rent, taxes, interest on capital
engaged, spoilage, breakage etc.
Stock out costs This represents the cost of loss of demand due to
shortage in supplies. This includes cost of loss of
profit, loss of customer, loss of goodwill, penalty
etc.
 Three Mathematical Models for
Determining Order Quantity
 Economic Order Quantity (EOQ or Q System)
 An optimizing method used for determining order
quantity and reorder points
 Economic Production Quantity (EPQ)
 A model that allows for incremental product delivery
 Quantity Discount Model
 Modifies the EOQ process to consider cases where
quantity discounts are available
 Economic Order Quantity
 EOQ Assumptions:
 Demand is known & constant -
no safety stock is required
 No quantity discounts are
available
 Ordering (or setup) costs are
constant
 All demand is satisfied (no
shortages)
 The order quantity arrives in a
single shipment
EOQ: Total Cost Equation
 D  Q 
TCEOQ   S    H 
Q   2 
Where
TC  total annual cost
D  annual demand
Q  quantity to be ordered
H  annual holding cost
S  ordering or setup cost
EOQ Total Costs
Total annual costs = annual ordering costs + annual holding costs
The EOQ Formula
Minimize the TC by ordering the EOQ:

2DS
EOQ 
H
When to Order:
The Reorder Point
 Without safety stock:
R  dL
where R  reorder point in units
d  daily/weekly demand in units
L  lead time in days/weeks

 With safety stock:

R  dL  SS
where SS  safety stock in units
EOQ Example
 Weekly demand = 240 units
 No. of weeks per year = 52
 Ordering cost = $50
 Unit cost = $15
 Annual carrying charge = 20%
 Lead time = 2 weeks
EOQ Example Solution
D  52  240  12,480 units / year
H  0.2 15  $3 per unit per year
2DS 2 12,480  50
Q   644.98  645 units
H 3
 D   Q   12,480   645 
TC   S    H     50     3
 Q   2   645   2 
 967.44  967.5  $1,934.94

R  dL  240  2  480 units

ABC Inventory Classification
 ABC classification is a method for determining
level of control and frequency of review of inventory
items
 A Pareto analysis can be done to segment items into
value categories depending on annual dollar volume
 A Items – typically 20% of the items accounting for
80% of the inventory value-use Q system
 B Items – typically an additional 30% of the items
accounting for 15% of the inventory value-use Q or P
 C Items – Typically the remaining 50% of the items
accounting for only 5% of the inventory value-use P
ABC Example: the table below shows a solution to an ABC analysis. The
information that is required to do the analysis is: Item #, Unit $ Value, and
Annual Unit Usage. The analysis requires a calculation of Annual Usage $ and
sorting that column from highest to lowest $ value, calculating the cumulative
annual $ volume, and grouping into typical ABC classifications.

Item Annual Usage ($) Percentage of Total $ Cumulative Percentage of Total $ Item Classification
106 16,500 34.4 34.4 A
110 12,500 26.1 60.5 A
115 4500 9.4 69.9 B
105 3200 6.7 76.6 B
111 2250 4.7 81.3 B
104 2000 4.2 85.5 B
114 1200 2.5 88 C
107 1000 2.1 90.1 C
101 960 2 92.1 C
113 875 1.8 93.9 C
103 750 1.6 95.5 C
108 600 1.3 96.8 C
112 600 1.3 98.1 C
102 500 1 99.1 C
109 500 1 100.1 C
V.E.D Analysis
 V- Vital items
 E- Essential Items
 D- Desirable Items