Inventory


Stock of items held to meet future
demand
Inventory management answers two
questions
• How much to order
• When to order
The Supply Chain
Market research data
scheduling information
Engineering and design data
Order flow and cash flow
Supplier
Inventory
Supplier
Customer
Ideas and design to
satisfy end customer
Material flow
Credit flow
Customer
Manufacturer
Inventory
Supplier
Inventory
Distributor
Inventory
Customer
Reasons To Hold Inventory






Meet unexpected demand
Smooth seasonal or cyclical demand
Meet variations in customer demand
Take advantage of price and quantity
discounts
Hedge against price increases
Minimize impact of supply chain
disruptions
Two Types Of Demand

Dependent
• Demand for items depends on the number
•

of final units that will be produced (usually
well known)
Material Requirement Planning
Independent
• Demand for items is determined by external
•
customers (usually forecasted)
Economic Order Quantity (EOQ) models
Push/Pull View of Supply Chains
Procurement,
Manufacturing and
Replenishment cycles
PUSH PROCESSES
Customer Order
Cycle
PULL PROCESSES
Customer
Order Arrives
Approaches to Inventory
Management

Just-in-case inventory (overstocking)
• Carry large inventories to ensure high
customer service level (expensive!)

Just-in-time inventory (understocking)
• Carry minimal inventory levels to control
costs in exchange for risk of more stockouts
Inventory Costs



Carrying Cost
• cost of
holding an item in inventory
Ordering Cost
• cost of
replenishing inventory
Shortage Cost
• temporary or permanent loss of sales when
demand cannot be met
Inventory Control Systems

Fixed-order-quantity system
(Continuous)
• constant amount ordered when inventory
declines to predetermined level

Fixed-time-period system (Periodic)
• order placed for variable amount after fixed
passage of time
Strategies for Managing
Inventories in the Supply-Chain

Reduce uncertainty in supply chain
• Postponement
• Drop shipping
• Vendor managed inventories
• Radio frequency identification tags
• Collaborative forecasting and planning
• Every day low pricing strategies
• Electronic Data Interchange (EDI)
Brainstorm strategies to
manage inventories for…..

Laptops at
•
•

Best Buy
350 GB Internal Hard Drives at
•
•

Dell
Dell
Best Buy
Paul Newman’s Ranch Salad dressing at
•
•
•
Ralphs
7-Eleven
McDonalds
Deterministic Economic Order Quantity
Model Assumptions
• Demand is constant throughout the planning
•
•
•
•
•
period at D items per period.
Ordering cost is $Co per order.
Holding cost is $CC per item in inventory per
period.
Purchase cost per unit is constant (no quantity
discount).
Delivery time (lead time) is constant.
Planned shortages are not permitted.
The (Q,r) Policy

Q is the order quantity which specifies the
number of units to order for an item when it is
time to replenish the inventory

r is the reorder point, the inventory position at
which an order should be placed

the inventory position is the amount of
inventory on hand plus the amount of
inventory on order
The Inventory Order Cycle
Demand
rate
Inventory Level
Order qty, Q
Reorder point, R
0
Lead
time
Order
Order
Placed Received
Lead
Time
time
Order
Order
Placed
Received
EOQ Cost Model
CO - cost of placing order
D - annual demand
CC - annual per-unit carrying cost
Q - order quantity
Annual ordering cost = COD/Q Annual carrying cost = CCQ/2
Total cost = COD/Q + CCQ/2
Class Exercise Example:
CC = $0.75 per yard CO = $150
D = 10,000 yards
EOQ Model Cost Curves
Slope = 0
Annual
cost ($)
Total Cost
Minimum
total cost
Carrying Cost = CcQ/2
Ordering Cost = CoD/Q
Optimal order
Qopt
Order Quantity, Q
EOQ Cost Model
CO - cost of placing order
D - annual demand
CC - annual per-unit carrying cost
Q - order quantity
Annual ordering cost = COD/Q Annual carrying cost = CCQ/2
Total cost = COD/Q + CCQ/2
CoD CcQ

Q
2
2CoD
Q2 
Cc
2CoD
Qopt 
Cc
TCmin 
CoD CcQopt

Qopt
2
EOQ Example
CC = $0.75 per yard CO = $150
Qopt 

2CoD
Cc
TCmin 
2(150)(10,000)
(0.75)
 2,000 yards
Number of orders per year =
Order cycle time =
D = 10,000 yards
CoD CcQopt

Qopt
2
(150)(10,000) (0.75)(2,000)

2,000
2
 $750  750  $1,500

D
10,000

5
Qopt
2,000
311
311

 60.2 store days
D / Qopt
5
When to Order
Reorder Point -level of inventory at which
to place a new order
R = dL
where
d = demand rate per period
L = lead time
Reorder Point Example
Demand = 10,000 yds/year
Store open 311 days/year
Daily demand = 10,000 / 311 = 32.154 yds/day
Lead time = L = 10 days
R = dL = (32.154)(10) = 321.54 yds
Safety Stocks

Safety stock
• buffer added to on hand inventory during
lead time

Stockout

Service level
• an inventory shortage
• probability that the inventory available
during lead time will meet demand
Inventory level
Reorder Point With
A Safety Stock
Q
Reorder
point, R
Safety stock
0
LT
Time
LT