Operations
Management
Inventory Management
Zaheer u din 01141
Ameer Hamza
M.Fawad 13201
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Inventory
 One of the most expensive assets
of many companies
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Types of Inventory
 Raw material
 Purchased but not processed
 Work-in-process
 Undergone some change but not completed
 A function of cycle time for a product
 Maintenance/repair/operating (MRO)
 Necessary to keep machinery and processes
productive
 Finished goods
 Completed product awaiting shipment
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The Material Flow Cycle
Cycle time
95%
Input
Wait for
inspection
Wait to
be moved
5%
Move Wait in queue Setup Run
time for operator time time
Output
Figure 12.1
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Inventory Management
 How inventory items can be
classified
 How accurate inventory records
can be maintained
 ABC Analysis
 Record Accuracy
 Cycle Counting
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ABC Analysis
 Divides inventory into three classes
based on annual dollar volume
 Class A - high annual dollar volume
 Class B - medium annual dollar
volume
 Class C - low annual dollar volume
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Percent of annual dollar usage
ABC Analysis
80
70
60
50
40
30
20
10
0
A Items
–
–
–
–
–
–
–
B Items
–
|
|
|
|
–
10 20 30 40
C Items
|
|
|
|
50
60
70
80
Percent of inventory items
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|
|
90 100
Figure 12.2
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ABC Analysis
 Other criteria than annual dollar
volume may be used
 Anticipated engineering changes
 Delivery problems
 Quality problems
 High unit cost
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ABC Analysis
 Policies employed may include
 More emphasis on supplier
development for A items
 Tighter physical inventory control for
A items
 More care in forecasting A items
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Record Accuracy
 Accurate records are a critical
ingredient in production and inventory
systems
 Allows organization to focus on what
is needed
 Necessary to make precise decisions
about ordering, scheduling, and
shipping
 Incoming and outgoing record
keeping must be accurate
 Stockrooms should be secure
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Cycle Counting
 Items are counted and records updated
on a periodic basis
 Often used with ABC analysis
to determine cycle
 Has several advantages
 Eliminates shutdowns and interruptions
 Eliminates annual inventory adjustment
 Trained personnel audit inventory accuracy
 Allows causes of errors to be identified and
corrected
 Maintains accurate inventory records
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Cycle Counting Example
5,000 items in inventory, 500 A items, 1,750 B items, 2,750 C
items
Policy is to count A items every month (20 working days), B
items every quarter (60 days), and C items every six months
(120 days)
Item
Class
Quantity
A
500
Each month
B
1,750
Each quarter
C
2,750
Every 6 months
Cycle Counting Policy
Number of Items
Counted per Day
500/20 = 25/day
1,750/60 = 29/day
2,750/120 = 23/day
77/day
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Control of Service
Inventories
 Can be a critical component
of profitability
 Losses may come from
shrinkage or pilferage
 Applicable techniques include
1. Good personnel selection, training, and
discipline
2. Tight control on incoming shipments
3. Effective control on all goods leaving
facility
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Independent Versus
Dependent Demand
 Independent demand - the
demand for item is independent
of the demand for any other
item in inventory
 Dependent demand - the
demand for item is dependent
upon the demand for some
other item in the inventory
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Holding, Ordering, and
Setup Costs
 Holding costs - the costs of holding
or “carrying” inventory over time
 Ordering costs - the costs of
placing an order and receiving
goods
 Setup costs - cost to prepare a
machine or process for
manufacturing an order
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Holding Costs
Category
Housing costs (building rent or
depreciation, operating costs, taxes,
insurance)
Material handling costs (equipment lease or
depreciation, power, operating cost)
Labor cost
Cost (and range)
as a Percent of
Inventory Value
6% (3 - 10%)
3% (1 - 3.5%)
3% (3 - 5%)
Investment costs (borrowing costs, taxes,
and insurance on inventory)
Pilferage, space, and obsolescence
11% (6 - 24%)
Overall carrying cost
26%
3% (2 - 5%)
Table 12.1
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Holding Costs
Category
Housing costs (building rent or
depreciation, operating costs, taxes,
insurance)
Material handling costs (equipment lease or
depreciation, power, operating cost)
Labor cost
Cost (and range)
as a Percent of
Inventory Value
6% (3 - 10%)
3% (1 - 3.5%)
3% (3 - 5%)
Investment costs (borrowing costs, taxes,
and insurance on inventory)
Pilferage, space, and obsolescence
11% (6 - 24%)
Overall carrying cost
26%
3% (2 - 5%)
Table 12.1
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Inventory Models for
Independent Demand
Need to determine when and how
much to order
 Basic economic order quantity
 Production order quantity
 Quantity discount model
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Basic economic order quantity
• An inventory-related equation that
determines the optimum order quantity
that a company should hold in
its inventory given a set cost of
production, demand rate and other
variables. This is done to minimize
variable inventory costs.
S = Setup costs
D = Demand rate
P = Production cost
I = Interest rate (considered an opportunity cost,
so the risk-free rate can be used)
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production order quantity
• Production Order Quantity (POQ) is a
model that answers how much to produce
and when to order. In this model, the
materials produced are used immediately
and hence lowering the holding cost that
in Economic Order Quantity (EOQ).
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Quantity discount model
• Quantity discounts are price reductions designed
to induce large orders. If quantity discounts are
offered, the buyer must weigh the potential
benefits of reduced purchase price and fewer
orders against the increase in carrying costs
caused by higher average inventories. Hence, the
buyer's goal in this case is to select the order
quantity that will minimize total costs, where total
cost is the sum of carrying cost, ordering cost,
and purchase cost.
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