Production and Operations Management

Chapter: 05. Inventory Control

Materials Management
The components of the integrated materials management can be classified into the following
modules:
 Materials planning
 Inventory control
 Purchase management
 Stores management

Inventory
Inventory is the physical stock of goods, which is kept in reserve for a certain period of time for
smooth and efficiency running of future affairs of an organization. Inventory refers to all the items,
goods, merchandise, and materials held by a business for selling in the market to earn a profit.
Example- Tools, raw materials, goods in process, finished goods etc.

Functions of Inventory
 Smoothing out irregularities in supply
 Minimizing the production cost
 Allowing organizations to cope with perishable materials

Inventory Control
The technique of maintaining stock keeping items at desired levels, whether they be raw materials,
work-in-process, or finished goods is called inventory control. The fact or process of ensuring that
appropriate amounts of stock are maintained by a business, so as to be able to meet customer
demand without delay while keeping the costs associated with holding stock to a minimum.

Objectives of Inventory Control

The primary objectives of inventory control are to minimize the cost of the materials inventory.
Other objectives are given below:
1. Raw Materials: Provides the materials needed to make the product.
2. Work-in-process: Enables overall production to be divided into stages of manageable size.

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3. Finished Goods: Provides ready supply of products upon customer demand and enables long,
efficient production runs.
4. In-transit (pipeline): Distributes products to customers.

Functions of Inventory Control

The functions of inventory control for an organization are:
1. Receive variety of goods
2. Inspection
3. Storing
4. Issue for production needs and
5. Determine price for goods

Inventory Costs
In making any decision that will affect inventory size, the following costs must be considered.
1. Holding costs: Holding or carrying costa are the costs, which are incurred deterioration in
connection with holding the inventory. They included:
 Interest on capital investment
 Storage facilities, handling charges
 Taxes and insurance expenses
 Physical deterioration, depreciation, obsolescence
2. Production change (or setup) costs: To make each different product involves obtaining the
necessary materials, arranging specific equipment setups, filling out the required papers,
appropriately charging time and materials and moving out the previous stock of material. In
addition, other costs may be involved in hiring, training or layoff of workers and in idle time or
overtime.
3. Ordering costs: These costs refer to the managerial and clerical costs entailed in preparing the
purchase or production order. Common terminology subdivides these into two categories:
 Header cost
 Line cost
Ordering costs are the costs, which are incurred in connection with ordering and procurement.
They includes:

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  Cost of sending requisition to the purchasing office
 Placing the order
 Receiving the goods
 Placing them into inventory
 Paying the supplier
 Salaries
 Stationary

4. Shortage costs: When the stock of an item is depleted, an order for that item must either wait
until the stock is replenished or be canceled. There is a trade-off between carrying stock to satisfy
demand and the costs resulting from stock out. This balance is sometimes difficult to obtain since
it may not be possible to estimate lost profits or the effects of lost customers or lateness penalties.

Models of Inventory
There are different models of inventory. The inventory models can be classified into deterministic
models and probabilistic models. The various deterministic models are as given below:
1. Purchase model with instantaneous replenishment and without shortages
2. Manufacturing model without shortages
3. Purchase model with instantaneous replenishment and with shortages
4. Manufacturing model with shortages

Types of Inventory
There are four types of inventory for an item. These are given below:
1. Cycle Inventory: The portion of total inventory that varies directly with lot size is called cycle
inventory.
𝑸+𝟎 𝑸
Average cycle inventory = =
𝟐 𝟐
Where,
Beginning of the interval = Maximum or Q
End of the interval = Minimum or 0
2. Safety Stock Inventory: Surplus inventory that a company holds to protect against uncertainties
in demand, lead-time and supply.

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3. Anticipation Inventory: Inventory used to absorb uneven rates of demand or supply, which
business often face, is referred to as anticipation inventory.
4. Pipeline Inventory: Inventory moving from point to point in the materials flow system is called
pipeline inventory.

Economic Order Quantity (EOQ)

Economic order quantity is that size of order, which minimizes the total ordering and carrying
costs. It is the ideal order quantity a company should purchase to minimize inventory costs such
as holding costs, shortage costs, and order costs. This production-scheduling model was developed
in 1913 by Ford W. Harris and has been refined over time. The formula assumes that demand,
ordering, and holding costs all remain constant.

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There are three methods for determining EOQ:
i. Trial and Error method
ii. Algebraic method and
iii. Graphically

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