Chapter 9 Inventory management
库存管理
AIMS OF THE CHAPTER

UNDERSTAND why organizations hold stocks

ANALYSE the costs of holding stock

CALCULATE economic order quantities


CALCULATE associated lead times, costs and cycle
lengths
DO ABC analyses of inventories
9.1REASONS FOR HOLDING STOCK
9.1.1 what is stock and inventory?
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Stock are supplies of goods and materials that
are held by an organization.
They are formed whenever the organization's
inputs or outputs are not used at the time they
become available.
An Inventory is a list of things held in stock.
9.1REASONS FOR HOLDING STOCK
9.1.2 functions of the inventory
The main purpose of STOCKS is to act as a
buffer between supply and demand.
They allow operations to continue smoothly and
avoid disruptions.
To be more specific, stocks:
9.1REASONS FOR HOLDING STOCK

act as a buffer

allow for unexpected times

allow for deliveries that are delayed or too small

take advantage of price discounts on large orders

allow the purchase of items when the price is low and expected to
rise

allow the purchase of items that are going out of production or are
difficult to find

allow for seasonal operations

make full loads and reduce transport costs

for emergencies.
9.1REASONS FOR HOLDING STOCK
9.1.3 Types of stock
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Raw materials – the materials, parts and
components that have been delivered to an
organization, but are not yet being used.
Work in process – materials that have started,
but not yet finished their journey through the
production process.
Finished goods – goods that have finished the
process and are waiting to be shipped out to
customers
9.1REASONS FOR HOLDING
STOCK
Types of stock
9.1REASONS FOR HOLDING STOCK
two additional types:
● Spare parts for machinery, equipment, and so on
● Consumables such as oil, fuel, paper, and so on.
9.1REASONS FOR HOLDING STOCK
9.1.4 Costs of carrying stock
Point1:Some definitions of cost:
1.
2.
Unit cost: the price for an item charged by the
supplier, or the cost to the organization of acquiring
one unit of the item.
Reorder cost: the cost of placing a repeat order for
an item.
9.1REASONS FOR HOLDING STOCK
3. Holding cost: the cost of holding one unit of
an item in stock for a unit period of time
4.Shortage cost: occurs when an item is needed
but it cannot be supplied from stock
9.1REASONS FOR HOLDING STOCK
Point 2: In practice, the most common costing is
based on the amount paid and can use:
● FIFO – first in, first out, which assumes that stock
is sold in the order it was bought, so the remaining
stock is valued at the current replacement cost
● LIFO – last in, first out, which assumes that the
latest stock is used first, so the remainder is valued at
earlier acquisition costs
● Average cost – which uses a moving average cost
over some period.
Worked example
Worked example

How to calculate the cost in different ways?
FIFO
LIFO
AVERAGE COST
Worked example
9.2 ECONOMIC ORDER QUANTITY
9.2.1 Finding the order size
Imagine a single item, a constant demand of D per
unit time. Assume that unit cost (U), reorder cost (R) ，
holding cost (H) while the shortage cost is so high
that all demands must be met and no shortages are
allowed.
We want to find the best order quantity, Q, and
always place orders of this size.
9.2.1 Finding the order size
9.2 ECONOMIC ORDER QUANTITY
9.2 ECONOMIC ORDER QUANTITY
At some point an order of size Q arrives. This is used at
a constant rate, D, until no stock is left. We can find the
total cost for the cycle by adding the four components
of cost – unit, reorder, holding and shortage. No
shortages are allowed, so we can ignore this cost. Then
we can show that the cost per unit time is:
C = total reorder costs + total holding costs
= RD/Q + HQ/2
9.2 ECONOMIC ORDER QUANTITY
From the consequence we can get that:
● the total holding cost rises linearly with order size
● the total reorder cost falls as the order quantity increases
● large infrequent orders give high total holding costs and low total
reorder costs
● small frequent orders give low total holding costs and high total
reorder costs
● adding the two costs gives a total cost curve that is an asymmetric
‘U’ shape with a distinct minimum
● this minimum cost shows the optimal order size – which is the
economic order quantity, EOQ.
9.2 ECONOMIC ORDER QUANTITY
The standard analysis of EOQ:
The cost changes with different order quantity
Worked example
John Pritchard buys stationery for Penwynn Motors.
The demand for printed forms is constant at 20
boxes a month. Each box of forms costs ￡50, the
cost of processing an order and arranging delivery is
￡60, and holding cost is ￡18 a box a year. What
are the economic order quantity, cycle length and
costs?
Worked example
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Solution
Listing the values we know in consistent units:
D = 20 × 12 = 240 units a year
U = ￡50 a unit
R = ￡60 an order
H = ￡18 a unit a year.
Worked example
Worked example

You can see that the total reorder costs equal the total
holding costs. This is always true if we order the
economic order quantity, so we can simplify the
calculation to twice the total holding cost or:C = HQ =
18 × 40 = ￡720
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We also have to consider the fixed cost of buying
boxes, which is the number of boxes
bought a year, D, times the cost of each box, U.
Adding this to the variable cost above, gives the total
cost of stockholding: total cost = UD + C = 50 × 240
+ 720 = ￡12,720 a year
Worked example

We buy 40 boxes at a time, and use 20 boxes a
month, so the stock cycle length is 2months. In
general, we can find the stock cycle length from T =
Q/D:
T = Q/D = 40/240 = 1/6 years or 2 months

The best policy – with total costs of ￡12,720 a year –
is to order 40 boxes of paper every 2 months.
9.2 ECONOMIC ORDER QUANTITY
9.2.3 Sensitivity analysis

One problem with the economic order quantity is
that it can give awkward order quantities. It
might, for example, suggest buying impossible
figures, such as 88.39 tires. We could round this
to 88 tires, but might prefer to order 90 or even
100. But does this rounding have much effect on
overall costs?
The cost curve is shallow around
the economic order quantity
9.2 ECONOMIC ORDER QUANTITY
Weaknesses of EOQ
● takes a simplified view of inventory systems
● assumes demand is known and constant
● assumes all costs are known and fixed
● assumes a constant lead time and no uncertainty in
supplies
● gives awkward order sizes at varying times
● assumes each item is independent of others
● does not encourage improvement, in the way that JIT does.
9.3 PERIODIC REVIEW SYSTEMS
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The EOQ analysis uses a fixed order quantity for purchases,
so an order of fixed size is placed. Such systems need
continuous monitoring of stock levels and are best suited to low,
irregular demand for relatively expensive items.
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But there is an alternative periodic review approach, which
orders varying amounts at regular intervals. Supermarket may
refill its shelves every evening to replace whatever it sold during
the day. The operating cost of this system is generally lower and
it is better suited to high, regular demand of low value items.
9.3 PERIODIC REVIEW SYSTEMS
9.3 PERIODIC REVIEW SYSTEMS
9.3 PERIODIC REVIEW SYSTEMS
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Supermarkets traditionally use periodic
review, and with EDI you can imagine a store
where the tills pass messages every night to
replenish products that were used during the
day. But the system becomes more
responsive and reduces stock levels, if it
sends messages, say, two or three times a
day. Suppliers consolidate these orders and
send deliveries as often as necessary.
Order placed at A has to cover demand until B
9.4 EFFORT OF STOCK CONTROL
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An ABC analysis puts items into categories that
show the amount of effort worth spending on
inventory control.
This is a standard Pareto analysis or ‘rule of
80/20’, which suggests that20% of inventory
items need 80% of the attention, while the
remaining 80% of items need only 20% of the
attention. ABC analyses define:
9.4 EFFORT OF STOCK CONTROL
● A items as expensive and needing special care
● B items as ordinary ones needing standard care
● C items as cheap and needing little care.
9.4 EFFORT OF STOCK CONTROL
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Typically an organization might use
automated system to deal with all B items.
an
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The system might make some suggestions for
A items, but decisions are made by managers
after reviewing all the circumstances.
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C items might be excluded from the automatic
system and controlled by special methods.
9.4 EFFORT OF STOCK CONTROL
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An ABC analysis starts by calculating the total
annual use of each item by value. We find this by
multiplying the number of units used in a year by the
unit cost.
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Usually, a few expensive items account for a lot of
use, while many cheap ones account for little use. If
we list the items in order of decreasing annual use
by value, A items are at the top of the list, B items are
in the middle and C items are at the bottom. We
might typically find:
9.4 EFFORT OF STOCK CONTROL
Consequence of ABC method
Disscusion
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What factors in real inventory control are not included
in the economic order quantity model?
If the costs of holding stock are so difficult to find, how
reliable are the results from this kind of analysis?