Operations management by stevenson 9th student slides chapter 12

Chapter 12
Inventory Management

McGraw-Hill/Irwin

Copyright © 2009 by The McGraw-Hill Companies, Inc. All Rights Reserved.


Chapter 12: Learning Objectives
• You should be able to:
– Define the term inventory, list the major reasons for holding
inventories, and list the main requirements for effective inventory
management
– Discuss the nature and importance of service inventories
– Discuss periodic and perpetual review systems
– Discuss the objectives of inventory management
– Describe the A-B-C approach
– Describe the basic EOQ model and its assumptions and solve
typical problems

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Chapter 12: Learning Objectives (contd.)
• You should be able to:
– Describe the economic production quantity model and solve
typical problems
– Describe the quantity discount model and solve typical problems
– Describe reorder point models and solve typical problems
– Describe situations in which the single-period model would be
appropriate

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Inventory
• Inventory
– A stock or store of goods

• Independent demand items
– Items that are ready to be sold or used

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Inventory Costs
• Holding (carrying) costs
– Cost to carry an item in inventory for a length of time,
usually a year

• Ordering costs
– Costs of ordering and receiving inventory

• Shortage costs
– Costs resulting when demand exceeds the supply of
inventory; often unrealized profit per unit

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Basic EOQ Model

• The basic EOQ model is used to find a fixed order
quantity that will minimize total annual inventory costs
• Assumptions
– Only one product is involved
– Annual demand requirements are known
– Demand is even throughout the year
– Lead time does not vary
– Each order is received in a single delivery
– There are no quantity discounts

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Deriving EOQ
• Using calculus, we take the derivative of the
total cost function and set the derivative (slope)
equal to zero and solve for Q.
• The total cost curve reaches its minimum where
the carrying and ordering costs are equal.

2 DS
2(annual demand)(order cost)
Q 

H
annual per unit holding cost
*

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Economic Production Quantity (EPQ)
• Assumptions
– Only one product is involved
– Annual demand requirements are known
– Usage rate is constant
– Usage occurs continually, but production occurs periodically
– The production rate is constant
– Lead time does not vary
– There are no quantity discounts

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EPQ

2 DS
Q 
H
*
p

p
p u

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When to Reorder
• Reorder point

– When the quantity on hand of an item drops to this amount, the
item is reordered.
– Determinants of the reorder point
1. The rate of demand
2. The lead time
3. The extent of demand and/or lead time variability
4. The degree of stockout risk acceptable to management

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Reorder Point: Under Certainty
ROP d LT
where
d Demand rate (units per period, per day, per week)
LT Lead time (in same time units as d )

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Reorder Point: Under Uncertainty
• Demand or lead time uncertainty creates the possibility
that demand will be greater than available supply
• To reduce the likelihood of a stockout, it becomes
necessary to carry safety stock
– Safety stock
• Stock that is held in excess of expected demand due to
variable demand and/or lead time

Expected demand

ROP 
 Safety Stock
during lead time

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How Much Safety Stock?
• The amount of safety stock that is appropriate
for a given situation depends upon:
1. The average demand rate and average lead time
2. Demand and lead time variability
3. The desired service level

Expected demand
ROP 
 z dLT
during lead time
where
z Number of standard deviations
 dLT The standard deviation of lead time demand
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Reorder Point: Demand Uncertainty
ROP d  z d LT
where
z Number of standard deviations
d Average demand per period (per day, per week)

 d The stddev. of demand per period (same time units as d )
LT Lead time (same time units as d )

Note :  dLT  d LT
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Operations Strategy
• Improving inventory processes can offer significant cost
reduction and customer satisfaction benefits
– Areas that may lead to improvement:
• Record keeping
– Records and data must be accurate and up-to-date

• Variation reduction
– Lead variation
– Forecast errors

• Lean operations
• Supply chain management

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