INVENTORY MANAGEMENT of FINISHED GOODS

Inventory Concepts

• Inventory Is a Large & Costly Investment.

• The Better Management Of Inventories Improves Cash Flow & Return On
Investment.
• Inventory Represents Largest Single Investment In Assets
• Inventories Must Compete With Other Capital Investments For Available Funds.

Objectives of Inventory Management

1. Meeting desired level of customer service

2. Reducing total operating cost of Logistic activities through improved inventory
control
3. To increase organisation’s profitability

Need For Inventory Holding

1. To Achieve Economies Of Scale In Purchasing, Transportation & Manufacturing

2. To Achieve Specialisation In Manufacturing : (Focused Factories )
3. To Strike Balance Between Supply & Demand
4. Building Seasonal Inventories ( Seasonal Demand For Finished Goods /
Availability Of Inputs At Particular Time Of The Year )
5. Provide Protection From Uncertainties Arising Out Of Variability In Demand &
Replenishment (Order) Cycle
6. Acts As A Buffer Between Critical Interfaces In The Channel Of Distribution
7. Inventory Is Held Through Out The Supply Chain To Achieve Time &
Place Utility As Channel Participants Are Separated Geographically

Types of Inventories (Classification Based On Why They Exist)

a) Cycle Stock
b) In-Transit Inventories It Is Also Known As “Pipeline Inventory”
c) Safety or Buffer Stock A Good Demand Forecasting Results In Less Safety Stock
d) Speculative Stock
E) Seasonal Stock
F) Dead Stock

Symptoms Of Poor Inventory Management

1. Increasing number of pending orders (non availability of products)

2. High customer turnover rate (change in loyalty)
3. Increase in number of orders cancelled (delays in delivery)
4. Periodic lack of sufficient storage space (wrong demand forecasting)
 5. Imbalance in turnover of inventory items between distribution centers (push
system results)
6. Deteriorating relationship with intermediaries (low level of response)
7. Large quantities of obsolete / dead products (wrong demand forecasting)

How To Improve Inventory Performance

1. ABC Analysis of inventories

2. Possessing appropriate numbers of warehouses
3. Order processing cycle time analysis
4. Delivery time analysis ( transportation time)
5. Elimination of low turnover items & obsolete items
6. Analysis of pack size & discounts structures
7. Examination of procedures for returned goods
8. Installation of formal re-order review system
9. Encouragement for product substitution
10. Measurements of FILL RATE by SKUs
11. Development of formal sales plan & demand forecast
12. Sharing information on inventories
13. Re-engineering inventory management practices

What Is Fill Rate ?

1. It is a measure of customer service performance of Inventory

2. It measures the impact of stock out on profitability over time
3. It is often presented in terms of % of units available when requested by the
customers
4. It can also be used to differentiate the level of service to be offered on specific
products
5. Low inventory level can reduce fill rate affecting Customer service which
result into lost sales
6. Stock-out frequency & fill rate are inversely related through order quantity

INVENTORY MANAGEMENT UNDER CONDITION OF CERTAINTY

ECONOMIC ORDER QUANTITY (EOQ)

The EOQ is a concept which determines economic or optimal order quantity ( OOQ )
per order indented by the Warehouse on the basis of annual order processing cost &
annual inventory carrying cost.

At this level of quantity per order, annual order Processing cost (AOPC) + annual
inventory carrying Cost (AICC) is minimum. In other words : AOPC = AICC
 A) Components Of Order Processing Cost

1. Cost of processing of the inventory transfer

2. Cost of handling the product (if in stock)
3. Cost of setting up production to produce it
4. Transportation cost for receiving at field location
5. Cost of documentation

B) Components Of Inventory Carrying Cost

1. Capital cost on inventory investment

2. Inventory service cost (taxes & insurance)
3. Storage space costs
4. Inventory risk costs :
5. cost of obsolescence

ECONOMIC ORDER QUANTITY (EOQ) SQARE ROOT FORMULA

The EOQ Is A Concept Which Determines Optimal Order Quantity On The Basis Of
Ordering & Carrying Cost.

When Incremental Ordering Cost Is Equal To Incremental Carrying Cost, The Most
EOQ Exists.

EOQ = v 2 PD / CV
P: Ordering Cost
D: Annual Demand (Nos. Of Units)
C: Annual Inventory Carrying Cost (%)

Cost
V: Value Of One Unit Of Inventory

Assumption (For EOQ)

1. Continuous, Constant & Known Rate Of Demand

2. Constant & Known Lead-Time
3. Constant Purchase Price Independent Of Order Quantity / Lead-Time
4. Constant Transportation Cost
5. The Satisfaction Of All Demand (No Stock-Outs)
6. No Inventory In Transit
7. Independent Demand Items
8. No Limits On Capital Availability

INVENTORY UNDER CONDITIONS OF UNCERTAINTY

MRP has been used to signify inventory control systems called

A ) MATERIALS REQUIREMENTS PLANNING (MRP I )

B) MANUFACTURING RESOURCES PLANNING (MRP II)

Introduced first, MRP I developed into MRP II with addition of manufacturing, financial &
human resources aspects.

EOQ assumes constant demand for a product over a period of time & hence failed to
encounter with situations with erratic demand pattern for inputs

Sales plan >> production plan >> input requirement

Requirement of inputs depends on demand for finished goods

It is a simple system of arithmetically calculating requirements of inputs at different point

of time based on plans / schedules for production of finished goods

The system works only when there is a derived demand (dependent demand) and not
direct demand for inputs

MRP I consist of
(1) A computer system
(2) A manufacturing information system, based on inventory requirement, production
planning & scheduling of all inputs for production
(3) a concept & philosophy of management

MRP I is a computer- based production & inventory control system that attempts to
minimize inventories while maintaining adequate materials for the continuous
production process.
HOW MRP I WORK ?

• Requirement for every input per day / week / month based on planned
production program is worked out
• The schedules of input receipts (based on earlier MRP) are determined
• Stock in hand / stock in pipeline are considered
• Planned order schedules are made & orders placed with suppliers
accordingly
• The use of thousand of inputs coming in from various sources & at different
times, has made it essential to use computerized system for working of MRP I
system

PRE-REQUISITE FOR MRP I

• The system is capable of determining requirements of only dependent inputs, as

it can be derived from master production schedules of finished goods
• The accurate lead time data is essential
• The schedule for delivery of finished goods should be made available to derive
exact input requirements, in terms of quantity & time.
• The system should be responsive & flexible to the changes in order quantities &
inventory position of finished goods at various point of time
• It requires efficient information feedback system
• Constant updating of the forecasted demand and actual performance is essential

MANUFACTURING RESOURCES PLANNING ( MRP II )

PRE-REQUISITES FOR MRPII

 1. Business Plans
2. Financial Plans
3. Available Human Resources
4. Available Production Capacities
5. Logistical Aspects Like Storage, Transportation Etc.

It integrates with the aid of suitable software packages all the sources available with the
organisation & comes out with a detailed manufacturing program & resource
requirements

Advantages Of MRP System

1. Improvement in overall business performance

2. Reduction in overall logistical operating costs
3. Less risk of input obsolescence
4. More responsive to change in the market conditions
5. Improved customer service level by providing quick & consistent response in terms
of delivery time
6. Offers opportunity for better business planning availability of efficient information &
success of MRP system goes hand in hand

Disadvantages Of MRP System

1. Product manufacturing / purchasing cost increases as inventories are required to

be made available more frequently.
2. Higher transportation costs due to loss of economies of scale in transportation
3. More chances of production disturbances due to unforeseen input delivery
problems
4. Requirement of safety stocks goes up for maintaining desired customer service
level

DRP SYSTEM

DRP is a dynamic model that looks at a time-phased plan of events that affect
inventory.

1. Distribution requirement planning (DRP I ) applies time-phased logic to replenish

inventories in multi-locational warehousing systems
2. 2 distribution resource planning (DRP II) is an extension of DRP I

DRP II extends DRP I to include the planning of important resources in a distribution

system such as warehousing / manpower / transportation / financial resources

OBJECTIVES OF DRP SYSTEMS

 1. To predict future requirements for finished products
2. To select transportation modes / carriers / shipment sizes to reduce operating
costs
3. To determine schedules of receiving / packing / shipping activities
4. To develop a master production schedule for each stock keeping unit (SKU )

The accurate forecasting system is essential for successful execution of DRP systems

HOW DRP WORK

Steps In Implementation of DRP II

1. Projecting demand for finished products (based on forecasting by making

allowance for likely increases or decreases therein)
2. Checking ‘on hand’ stock position
3. Checking “in transit” stock position (pipeline stock)
4. Determining total stock available (stock in hand + in pipeline)
5. Determining the order cycle time for the product to arrive & working out
demand during that period
6. Subtracting order cycle time demand from the sum of the total stock
available ( 4 – 5)
7. Providing for safety stock that would be deducted from above.
8. This would give the ‘net available stock”
Subtracting net available stock from projected demand worked out (above
no.1)

Dist.Ce
You now get quantity to be produced ,subject to further rounding off on size of a
minimum order quantity
 The “ figure” arrived ( 9 ) from the above is the true & actual need of the distribution
network

Advantages of DRP System

1. Decision maker can foresee the needs of each distribution center & be able to
meet their needs
2. The system responses quickly to the change in demand (+ Or - ) and re-
plans requirements of each product over & over
3. It enables to reschedule shipments of inputs as per the changed requirements
for finished goods
4. The system picks up and reports every change in distribution network by
displaying the position on what is happening
5. It improves fill rate & hence customer service level
6. It provides base for future forecasting & planning

Disadvantages Of DRP System

1. Product distribution / manufacturing costs increases as inventories are

required to be made available more frequently in response to change in
demand pattern
2. Increase in transportation costs due to loss of economies of scale in
transportation
3. Chances of stock out due to unforeseen production / distribution problems
4. Requirement of safety stocks goes up for maintaining desired customer
service level particularly under competitive scenario.

JUST IN TIME

WHAT IS JUST IN TIME (JIT)?

In the realm of supply chain management, “Just in time” refers to an inventory strategy
that it used to improve a business’s return on investment through a reduction of in
process inventory and all related costs.

Philosophy of JIT is simple: Inventory is waste of money . JIT inventory systems expose
hidden causes of inventory keeping and are therefore not a simple solution for a
company to adopt.

Just in time is driven by a series of signals, referred to as KANBAN, which tell

production processes when it is necessary to make the next part.

In the late 1940s, Toyota began studying supermarkets with a view to applying store
and shelf-stocking techniques to the factory floor, figuring, in a supermarket, customers
get what they need, at the needed time, and in the needed amount.
In JIT inventory philosophy Inventory is seen as incurring costs or waste instead of
adding and storing value, contrary to traditional accounting.

This does not mean to say JIT is implemented without awareness that removing
inventory exposes pre-existing manufacturing issues.

1. JIT encourages businesses to eliminate inventory that does not compensate for
manufacturing process issues and to constantly improve those processes to require
less inventory.

2. Allowing any stock habituates management to stock keeping. Management may be

tempted to keep stock to hide production problems like backups at work centers,
machine reliability, process variability, lack of flexibility of employees and equipment &
inadequate capacity.

In short, the JIT inventory system focus is having “the right material, at the right
time, at the right place, and in the exact amount”, without the safety net of
inventory.

KANBAN OPERATIONS

The term KANBAN describes an embellished wooden or metal sign often representing a
trademark or seal.

"KANBAN" uses the rate of demand to control the rate of production, passing demand
from the end customer up through the chain of customer-store processes.

In 1953, Toyota applied this logic in their main plant machine shop.

An important determinant of the success of production scheduling based on "pushing"

the demand is the quality of the demand forecast that can receive such "push."

KANBAN, by contrast, is part of an approach of receiving the "pull" from the demand.
Therefore, the supply or production is determined according to the actual demand of the
customers.

KANBAN is used as a demand signal that immediately propagates through the supply
chain. This can be used to ensure that intermediate stocks held in the supply chain are
better managed, usually smaller.

To be effective KANBAN must follow strict rules of use and that close monitoring of
these rules is a never-ending task to ensure that the KANBAN does what is required.

Toyota's Six Rules

1. Do not send defective products to the subsequent process
2. The subsequent process comes to withdraw only what is needed
3. Produce only the exact quantity withdrawn by the subsequent
process
4. Equalize production
5. KANBAN is a means to fine tuning
6. Stabilize and rationalize the process

E-KANBAN Systems

Many manufacturers have implemented electronic KANBAN systems.

Electronic KANBAN systems, or E-KANBAN systems, help to eliminate common

problems such as manual entry errors and lost cards

E-KANBAN systems can be integrated into Enterprise Resource Planning (ERP)

systems.

Integrating E-KANBAN systems into ERP systems allows for real-time demand
signaling across the supply chain and improved visibility.

Data pulled from E-KANBAN systems can be used to optimize inventory levels by better
tracking supplier lead and replenishment times.

Advantages of JIT To The User

1. Reduction in manufacturing lead time

2. Reduction in machine setup time
3. Defect free production / Lesser cost of production
4. The flow of goods from warehouse to shelves improves
5. Employees with multiple skills are used more efficiently
6. Lower inventory investment as the production scheduling synchronized with
demand
7. Greater conformance to delivery commitments. Faster response to market
needs.
8. Increased emphasis on supplier relationships
9. Increase in productivity

Problems Within a JIT system

Just-in-time operation leaves suppliers and downstream consumers open to supply

shocks and large supply or demand changes.

Since one of the main barriers was rework, lowering inventory forced each shop to
improve its own quality or cause a hold-up downstream.

A key tool to manage this weakness is production leveling to remove these variations.
Just-in-time is a means to improving performance of the system, not an end.

Very low stock levels means shipments of the same part can come in several times per
day which tend to increase risks of non-availability due to flow interruption & /or
increase in unit transportation & related costs.

These interventions have been going on for twenty years and have created a more
reliable supply chain, improved margins for Toyota and suppliers and lowered prices for
customers.

EFFICIENT CONSUMER RESPONSE

Efficient Consumer Response (ECR) is a joint trade and industry body working
towards making the grocery sector as a whole more responsive to consumer demand
and promotes the removal of unnecessary costs from the supply chain.

The ECR movement beginning in the mid-nineties was characterized by the emergence
of new principles of collaborative management along the supply chain.

It was understood that companies can serve consumers better, faster and at less cost
by working together with trading partners. The dramatic advances in information
technology, growing competition, global business structures and consumer demand
focused on better choice, service convenience, quality, freshness and safety, made it
apparent that a fundamental reconsideration of the most effective way of delivering the
right products to consumers at the right price was much needed.

Non-standardized operational practices and the rigid separation of the traditional roles
of manufacturer and retailer threatened to block the supply chain unnecessarily and
failed to exploit the synergies that came from powerful new information technologies
and planning tools.

In other words, ECR allows companies to seek a competitive advantage by

demonstrating their superior ability in working together with trading partners to add
value to the consumer.

There are four focus areas under ECR; Demand management, Supply management,
Enablers and Integrators, which are intended to be addressed as an integrated set.
These form the basis of the ECR Global Scorecard.

To better serve the consumer, ECR has set out to invert the traditional model and break
down non-productive barriers. The impacts have been extensive and continue to
resonate across industry.