ISE 312 Chapter 5(Plossl)
Spring Semester
Materials Control: Independent Demand
Materials Control:
The first question was How Much.
EOQ was basically a balance between what two costs?
To control inventories the other basic question is “When To Order”?
Major questions:
What is needed?
(Part number/ BOM / Engineering Specifications issues)
How much is needed? (EOQ or management rule)
When are they needed?
Correctly answering the question about when an item is needed is far more important than
determining how much to order.
Balance: Inventory-Investment Costs vs Desired Customer Service Level or Costs from Resulting
Shortages)
EOQ has flat curve.
Poor customer service comes more quickly and forcefully.
Best scenario: Just In Time >>> low inventory levels & high service levels.
Decision rules for inventory control system.
Some Formal Reorder Methods: (to control inventories)
1. Two-bin system (Controlled stockman)
Physical system – No inventory records
Place an order either up to a fixed amount or a fixed quantity
Dependent on someone making a notification.
Change levels when demand changes.
2. Visual Review (Low-value item control method) (Rule >> Have Plenty)
Fixed period of evaluation
Order up to a set amount
3. Order Point
(Demand during lead time plus safety stock) [See Figure 5-1]
Fixed order quantity
Variable cycle time
Min – Max inventory systems are a subset. (Min = OP & Max = OP + EOQ)
Very good for “Independent” Demand
Planned average inventory = one half the order quantity plus the reserve stock
MAD = Mean Absolute Deviation (mean of the absolute differences between forecast & actual demand)
Standard Deviation ~= 1.25 x MAD
4. Periodic review (review inventories records periodically; on-hand plus to replace) [Figure 5-15]
Fixed cycle – variable quantity orders
Use: Record keeping impractical & ordering costs are relatively small
5. Material-Requirements Planning (MRP)
Amounts ordered to meet a preplanned schedule
Quantity order rules vary
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ISE 312 Chapter 5 (Plossl)
Spring Semester
Materials Control: Independent Demand
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ISE 312 Chapter 5 (Plossl)
Spring Semester
Materials Control: Independent Demand
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ISE 312 Chapter 5 (Plossl)
Spring Semester
Materials Control: Independent Demand
Calculating reserve stock is difficult because:
Safety Stock or reserve stock is dependent upon:
1. Ability to forecast demand accurately
Uncertainty in process
2. Length of the lead-time
Time to order, time to make, time to travel, time to get in system.
3. Ability to predict (forecast) or control lead-time accurately
Uncertainty in this process also.
4. Size of the order quantity
(fluctuating demand will exceed the average half the time)
If the EOQ is large, the reserve stock is going to be large (Planned average inventory)
O.P. = anticipated demand during lead time + reserve stock [See Figure 5-4]
5. Service level desired
What are the penalties to being late? Dollars/ lost business
Order points require reserve stocks because of uncertainties that cannot be eliminated.
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ISE 312 Chapter 5 (Plossl)
Spring Semester
Materials Control: Independent Demand
Tracking signal = RSFE / MAD (method to track forecast against actual for corrections)
[Figure 5-6]
RSFE = Running Sum of the Forecast Error (What is the value over time?)
(The MAD and the Standard Deviation do not reflect the performance with the plus and minus signs)
Acceptable ranges for the maximum values of the tracking signal are between 4 and 8.
(4 used for High value item “A”; 8 low value item)
Adjusting for time differences in the Forecasting and the Lead Times [Figure 5-9]
What happens when the forecast is not equal to the lead time interval?
Many items in inventory have different Lead Times.
Difficult to change the forecast to meet all the different lead times!
Eg. 4 weeks (multiply 4 by demand) >>> Using our example 500 per week X 4 = 2,000 units
Reserve stock must increase as lead time increases but that the increase is not directly proportional to
the increase in lead time.
Formula:
Adjusted MAD = MAD (LT / FI )
LT = Lead Time Interval
FI = Forecast Interval
 = constant depending on the demand patterns of the particular business
(In practice a Beta of 0.7 gives reasonably good results; can simulate & test data).
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ISE 312 Chapter 5 (Plossl)
Spring Semester
Materials Control: Independent Demand
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ISE 312 Chapter Five
Spring Semester
Materials Control: Independent Demand
Apply statistical techniques for setting reserve stocks only where their assumptions are
valid and only after testing.
All statistical techniques assume the future will be like the past.
There will be changes along the way, underlying assumptions may change, need signals to flag.
Tracking methods will indicate & then make your corrections.
More important to understand the limitations & implications than the derivations.
Rules of thumb for setting reserve stock levels fail because they ignore the reasons it is needed.
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ISE 312 Chapter 5 (Plossl)
Spring Semester
Materials Control: Independent Demand
Periodic Review Technique:
Target = Anticipated demand during the lead time + Anticipated demand during the review
Period + Reserve Stock
Characteristics of Periodic Review:
1. The total lead time is actually equal to the delivery level time plus the review period.
2. Lengthening the review period is equivalent to lengthening the lead time and will require
carrying greater amounts of reserve stock.
3. The ordering quantity is equal to actual demand during the review period just passed.
4. The average inventory level is equal to ½ the demand during the review period plus reserve
stock.
Time phasing order point data greatly increases the power of this technique.
Problems with conventional order point:
1. Lacks ability to develop revised order “need” dates.
2. Provides no information on future orders to be released after the current one.
3. Cannot easily handle known future demand at specific times
4. Cannot easily handle seasonal or cyclical demand
5. Acts to trigger ordering with no advance warning.
Example: Forecast = 20 units per week Order quantity = 100 Lead time = 2 weeks
Reserve= 55
On hand = 80 units
On Order = 100 units due in week 2
O.P. = (2x20) + 55 = 95 units
Figure 5 – 16 data time phased to show
1. How many are required? (forecast)
2. How many are now in stock. (On hand)
3. How many are already ordered? When? (On order)
4. When must more be obtained? (planned orders due)
5. When must they be ordered? (planned orders start)
Figure 5- 17 Made to order Time phasing (forecast replaced with actual orders)
Orlicky’s independent / dependent demand rule provides a good guide to select ordering techniques.
1965 JA Orlicky >>> useful distinction between two types of items (in mfg.)
Independent demand must be forecasted. Use conventional or time phased. (Finished products unrelated)
Dependent demand can be calculated. (associated items>>> raw materials, sub-assemblies)
Order point, two bin, periodic review, MRP
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ISE 312 Chapter 5 (Plossl)
Spring Semester
Materials Control: Independent Demand
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