Módulo 2

Lunes 19 de Febrero del 2024.

Inventory: Those stocks or items used to support production, supporting activities and customer
service.

How many types of inventory there is?

Suppliers
Raw materials
Operations
Work in progress
Maintenance, Repair and Operating supplies (MRO)
Customer
Finished goods

MRO
Maintenance, Repair and operation suppliers

all types of inventory are important, there is not such thing as most important inventory

Why is the 4th type of inventory so important in the Supply Chain?

Allows you to optimize your operations and account for each step of the production process
more efficiently.

What is the main reason to carry inventory?

- Uncertain demand, have enough inventory in order
- Your supply is not the same as your demand

𝑆𝑢𝑝𝑝𝑙𝑦 ≠ 𝐷𝑒𝑚𝑎𝑛𝑑
Supply and demand are not equal processes, the resulting difference is inventory
Supply is not always available, so we need inventory to decrease the dependency between both
supply and demand processes.

Metrics:
 1. Inventory Turns: it means how many times the company have been restock in terms of
inventory (times the inventory was consumed in a year)

ej.
If a company orders inventory 3 times then the company has 3 inventory turns as seen in the
image.

Have 1 inventory turn or 5 inventory turns

Which is better?
- 5 inventory turns
because the other one is so expensive, there is no flow in the first one
In the first option you can see where the inventory is and also allows you to change the
inventory
The best scenario is the second one if we focus on the financial flow, that is because the
company in the first case just makes money once a year, instead of the second one in a certain
period of time the company is making money constantly.

2. Days of Supply: The number of days it would take to sell inventory.

365 entre el número de Inventory turns, days of supply per cycle
It is better to have little days of supply to have a better flow of cash.
Is better to have flows.

Variables in Inventory models:

- Demand
- Lead time
- Costs

Variables in the inventory cycle

The Economic Order Quantity Model

Main assumptions:
 - Demand is known, continuous, and constant over time
- All costs are known and do not vary
- No shortages are allowed
- Lead time is zero

The minimal point determine the optimal order cost (E0Q)

This variables are used to know when to order, how to order and what to order

The Economic Order Quantity Model Formulas

𝑄0 = 𝑂𝑟𝑑𝑒𝑟 𝑠𝑖𝑧𝑒
𝑅𝐶 = 𝑟𝑒𝑂𝑟𝑑𝑒𝑟 𝑐𝑜𝑠𝑡
𝐷 = 𝐷𝑒𝑚𝑎𝑛𝑑
𝐻𝐶 = 𝐻𝑜𝑙𝑑𝑖𝑛𝑔 𝑐𝑜𝑠𝑡
𝑉𝐶0 = 𝑉𝑎𝑟𝑖𝑎𝑏𝑙𝑒 𝑐𝑜𝑠𝑡
𝑇𝐶0 = 𝑇𝑜𝑡𝑎𝑙 𝑐𝑜𝑠𝑡
𝑇0 = 𝐶𝑦𝑐𝑙𝑒 𝑒𝑛𝑑
𝑈𝐶 = 𝑢𝑛𝑖𝑡 𝑐𝑜𝑠𝑡

Formulario

𝑄0 =
2*𝑅𝐶*𝐷
→ 𝐸𝑐𝑜𝑛𝑜𝑚𝑖𝑐 𝑜𝑟𝑑𝑒𝑟 𝑞𝑢𝑎𝑛𝑡𝑖𝑡𝑦 𝑉𝐶0 = 2 * 𝑅𝐶 * 𝐻𝐶 * 𝐷
𝐻𝐶
𝑅𝐶*𝐷 𝐻𝐶*𝑄0
𝑉𝐶0 = 𝑄0
+ 2

𝑉𝐶0 = 𝐻𝐶 * 𝑄

2*𝑅𝐶 𝑄0
𝑇𝑜 = = → 𝑂𝑝𝑡𝑖𝑚𝑎𝑙 𝐶𝑦𝑐𝑙𝑒 𝐿𝑒𝑛𝑔𝑡ℎ
𝐷*𝐻𝐶 𝐷 𝑇𝐶0 = 𝑈𝐶 * 𝐷 + 𝑉𝐶0 → 𝑂𝑝𝑡𝑖𝑚𝑎𝑙 𝑡𝑜𝑡𝑎𝑙 𝑐𝑜𝑠𝑡
Example problem
A company buys 6,000 units of an item every year with a unit cost of $30. It costs $125 to process
an order and arrange delivery, while interest and storage cost amount to $6 a year for each unit held.
What is the best order policy for the item?

Data
𝑄0 = ?
𝑅𝐶 = $125 𝑝𝑒𝑟 𝑜𝑟𝑑𝑒𝑟
𝑈𝐶 = $30 𝑝𝑒𝑟 𝑢𝑛𝑖𝑡
𝐷 = $6, 000 𝑝𝑒𝑟 𝑦𝑒𝑎𝑟
𝐻𝐶 = $6 𝑝𝑒𝑟 𝑢𝑛𝑖𝑡 𝑝𝑒𝑟 𝑦𝑒𝑎𝑟

2*𝑅𝐶*𝐷 2*125*6000
𝑄0 = 𝐻𝐶
→𝑄 = 6
=500 𝑢𝑛𝑖𝑡𝑠
0
Explanation:

2*𝑅𝐶 500
𝑇𝑜 = 𝐷*𝐻𝐶
→ 6,000
= 0. 083𝑦𝑒𝑎𝑟𝑠 ≈ 1 𝑚𝑜𝑛𝑡ℎ
𝑅𝐶*𝐷 𝐻𝐶*𝑄0
𝑉𝐶0 = 𝑄0
+ 2

𝑉𝐶0 = 𝐻𝐶 * 𝑄 → 𝑉𝐶0 = 6 * 500 = $3, 000 𝑝𝑒𝑟 𝑦𝑒𝑎𝑟

𝑇𝐶0 = 𝑈𝐶 * 𝐷 + 𝑉𝐶0 → 𝑇𝐶0 = 30 * 6000 + 3000 = $183, 000 𝑝𝑒𝑟 𝑦𝑒𝑎𝑟

In the The Economic Order Quantity Model the minimum point when you order 500 units every
month. If we increase or decrease the order of units, the costs will increase.

Example problem 2
A company operating for 50 weeks is concerned about its stock of copper cable. This cost $8 a
meter and there is a demand for 8,000 meters a week. Each replenishment cost $35 for
administration and $55 for delivery, while holding costs are estimated at 25% of value held a year.
Assuming shortages are allowed, what is the optimal inventory policy for the cable?
𝑄0 = 6, 000
𝑅𝐶 = $35 (𝑎𝑑𝑚𝑖𝑛𝑖𝑠𝑡𝑟𝑎𝑡𝑖𝑜𝑛) + $55 (𝑑𝑒𝑙𝑖𝑣𝑒𝑟𝑦) = $90 𝑝𝑒𝑟 𝑜𝑟𝑑𝑒𝑟
𝑈𝐶 = $8 𝑝𝑒𝑟 𝑢𝑛𝑖𝑡
𝐷 = $8, 000 𝑚 𝑝𝑜𝑟 𝑤𝑒𝑒𝑘 → $400, 000 𝑚 𝑝𝑒𝑟 𝑦𝑒𝑎𝑟
𝐷 = 𝑊𝑒 𝑛𝑒𝑒𝑑 𝑡𝑜 𝑐𝑜𝑛𝑠𝑖𝑑𝑒𝑟 𝑡ℎ𝑎𝑡 𝑡ℎ𝑒 𝑐𝑜𝑚𝑝𝑎𝑛𝑦 𝑜𝑛𝑙𝑦 𝑜𝑝𝑒𝑟𝑎𝑡𝑒𝑠 50 𝑤𝑒𝑒𝑘 𝑠𝑜 𝑑𝑒 𝑑𝑒𝑚𝑎𝑛𝑑 𝑢𝑛𝑖𝑡𝑠 𝑝𝑒𝑟 𝑤𝑒𝑒𝑘 ($8)
𝑡𝑖𝑚𝑒𝑠 𝑜𝑝𝑒𝑟𝑎𝑡𝑖𝑛𝑔 𝑤𝑒𝑒𝑘𝑠 (50) = $400, 000 𝑚 𝑝𝑒𝑟 𝑦𝑒𝑎𝑟.
𝐻𝐶 = 0. 25 * 8 = $2 𝑝𝑒𝑟 𝑢𝑛𝑖𝑡 𝑝𝑒𝑟 𝑦𝑒𝑎𝑟
 2*𝑅𝐶*𝐷 2*90*400000
𝑄0 = 𝐻𝐶
→𝑄 = 2
= 6, 000 𝑚𝑒𝑡𝑒𝑟𝑠
0
2*𝑅𝐶 2*90
𝑇𝑜 = 𝐷*𝐻𝐶
→ 400,000*2
= 0. 015 𝑦𝑒𝑎𝑟𝑠 → 0. 015 * 50 = 0. 75 𝑤𝑒𝑒𝑘𝑠
𝑅𝐶*𝐷 𝐻𝐶*𝑄0
𝑉𝐶0 = 𝑄0
+ 2

𝑉𝐶0 = 𝐻𝐶 * 𝑄 → 𝑉𝐶0 = 2 * 6, 000 = $12, 000 𝑝𝑒𝑟 𝑦𝑒𝑎𝑟

𝑇𝐶0 = 𝑈𝐶 * 𝐷 + 𝑉𝐶0 → 𝑇𝐶0 = 8 * 400, 000 + 12, 000 = $3, 212, 000 𝑝𝑒𝑟 𝑦𝑒𝑎𝑟
If the company orders 6,000 m per order, the total cost per year is going to be $3,212,000 per year,
which is the minimum cost.

Continuous Review System

Works like when you fill your car
The orders size is always the same

Elements
- Re order size
- Lead time: tiempo que tarda en acabarse
- Reorder level: cuando debes de hacer la orden

𝑅𝑂𝐿(𝑟𝑒𝑜𝑟𝑑𝑒𝑟 𝑙𝑒𝑣𝑒𝑙) = 𝐿𝑇 * 𝐷 = 𝑟𝑒𝑜𝑟𝑑𝑒𝑟 𝑙𝑒𝑣𝑒𝑙

𝑅𝑒𝑜𝑟𝑑𝑒𝑟 𝑙𝑒𝑣𝑒𝑙 = 𝐿𝑒𝑎𝑑 𝑇𝑖𝑚𝑒 * 𝐷𝑒𝑚𝑎𝑛𝑑 − 𝑆𝑡𝑜𝑐𝑘 𝑜𝑛 𝑂𝑟𝑑𝑒𝑟

Example problem
Demand for an item is constant at 100 units a week and the EOQ has been calculated as 250 units.
What is the best ordering policy if lead time is:
𝐷 = 100 𝑢𝑛𝑖𝑡𝑠
𝑄0 = 250 𝑢𝑛𝑖𝑡𝑠
a) One week
 𝑅𝑂𝐿 = 𝐿𝑇 * 𝐷 → 𝑅𝑂𝐿 = 1 * 100 = 100 𝑢𝑛𝑖𝑡𝑠 → When the level of inventory gets down to
100 orders, you should have to reorder.
b) Two weeks
𝑅𝑂𝐿 = 𝐿𝑇 * 𝐷 → 𝑅𝑂𝐿 = 2 * 100 = 200 𝑢𝑛𝑖𝑡𝑠 → Because the lead time is longer, you have
to order sooner.
𝑄0 250
𝑇𝑜 = 𝐷
→ 100
= 2. 5 𝑤𝑒𝑒𝑘𝑠

If the lead time gets higher than the cycling → Shortage (𝐿𝑇 ≥ 𝑇0)
To prevent it you have to place an order earlier
𝑅𝑂𝐿 = 𝐿𝑇 * 𝐷 − 𝑆𝑡𝑜𝑐𝑘 𝑜𝑛 𝑜𝑟𝑑𝑒𝑟

Example problem
Demand for an item is steady at 1,200 units a year with ordering cost of $16 and holding cost
estimated at $0.24 a unit a year- Determine an appropriate inventory policy ir lead time is constant
at:

2*𝑅𝐶
𝑇𝑜 = 𝐷*𝐻𝐶

𝑅𝐶 = $16 𝑝𝑒𝑟 𝑜𝑟𝑑𝑒𝑟

𝐷 = 1, 200 𝑢𝑛𝑖𝑡𝑠 𝑝𝑒𝑟 𝑦𝑒𝑎𝑟
𝐻𝐶 = $0. 24 𝑝𝑒𝑟 𝑢𝑛𝑖𝑡 𝑝𝑒𝑟 𝑦𝑒𝑎𝑟
2*𝑅𝐶*𝐷 2*16*1,200
1. 𝑄0 = 𝐻𝐶
→𝑄 = 0.24
= 400 𝑢𝑛𝑖𝑡𝑠
0
𝑄0 400
2. 𝑇𝑜 = 𝐷
→ 1,200
= 0. 3 𝑦𝑒𝑎𝑟𝑠 = 4 𝑚𝑜𝑛𝑡ℎ𝑠
a) 3 months
1200
𝑅𝑂𝐿 = 𝐿𝑇 * 𝐷 → 𝑅𝑂𝐿 = 3 * 12
= 300 𝑢𝑛𝑖𝑡𝑠

b) 9 months
𝐿𝑇
Proportional lead time = 𝑇𝑂
= 2. 25 ≈ 2
1200
𝑅𝑂𝐿 = 𝐿𝑇 * 𝐷 − 𝑆𝑡𝑜𝑐𝑘 𝑜𝑛 𝑜𝑟𝑑𝑒𝑟 = 9 * 12
−2(400) = 100 𝑢𝑛𝑖𝑡𝑠
When the lead time exceeds the Time cycle we need to considerate the stock on order

c) 18 months
𝐿𝑇
Proportional lead time = 𝑇𝑂
= 4. 5 ≈ 4
 1200
𝑅𝑂𝐿 = 𝐿𝑇 * 𝐷 − 𝑆𝑡𝑜𝑐𝑘 𝑜𝑛 𝑜𝑟𝑑𝑒𝑟 = 18 * 12
− 4(400) = 200 𝑢𝑛𝑖𝑡𝑠
En el momento que se tengan 200 unidades, se pide nuevo material para que no te quedes
sin stock, y se vuelven a pedir 400 units

How would you put into practice what you have learned about continuous review
systems?

Bean method for the working stock and reorder level.

Discounted Unit cost

Each UC determine by a Total cost

Example problem
Annual demand for an item is 2000 units, each order costs $10 to place and annual holding cost is
%40. THe unit cost depends on the quantity ordered as follows:

● Unit cost is $1 for order quantities less than 500

● $0.80 for quantities between 500 and 999 each
● $0.60 for quantities of 1000 or more
What is the optimal ordering policy?
𝑅𝐶 = $10 𝑝𝑒𝑟 𝑜𝑟𝑑𝑒𝑟
𝐷 = 2, 000 𝑢𝑛𝑖𝑡𝑠
𝑖 = 40%
𝐻𝐶 = 𝑖 * 𝑈𝐶𝑖
𝐻𝐶 = (0. 4)(0. 60)

0.60
𝐻𝐶 = (0. 4)(0. 60) = 0. 24
2*𝑅𝐶*𝐷 2*10*2000
𝑄0 (𝑂𝑟𝑑𝑒𝑟 𝑠𝑖𝑧𝑒) = 𝐻𝐶
→ 𝑄0 = 0.24
= 408. 2 𝑢𝑛𝑖𝑡𝑠
𝑅𝐶*𝐷 𝐻𝐶*𝑄0 10*2000 0.24*1000
𝑇𝐶𝑜 = 𝑈𝐶 * 𝐷 + ( 𝑄0
+ 2
) → 𝑉𝐶0 = 0. 6 * 2000 + ( 1000
+ 2
) = $1, 340 𝑝𝑒𝑟 𝑦𝑒𝑎𝑟
0.80
Calculate the new order cost
𝐻𝐶 = (0. 4)(0. 80) = 0. 32
2*𝑅𝐶*𝐷 2*10*2000
𝑄0 (𝑂𝑟𝑑𝑒𝑟 𝑠𝑖𝑧𝑒) = 𝐻𝐶
→ 𝑄0 = 0.32
= 353. 6 𝑢𝑛𝑖𝑡𝑠
𝑅𝐶*𝐷 𝐻𝐶*𝑄0 10*2000 0.32*500
𝑉𝐶0 = 𝑈𝐶 * 𝐷 + ( 𝑄0
+ 2
) → 𝑉𝐶0 = 0. 8 * 2000 + ( 500
+ 2
) = $1, 720 𝑝𝑒𝑟 𝑦𝑒𝑎𝑟
1
𝐻𝐶 = (0. 4)(1) = 0. 4

2*𝑅𝐶*𝐷 2*10*2000
𝑄0 (𝑂𝑟𝑑𝑒𝑟 𝑠𝑖𝑧𝑒) = 𝐻𝐶
→ 𝑄0 = 0.4
= 316. 22 𝑢𝑛𝑖𝑡𝑠
𝑅𝐶*𝐷 𝐻𝐶*𝑄0 10*2000 0.40*316.22
𝑇𝐶0 = 𝑈𝐶 * 𝐷 + ( 𝑄0
+ 2
) → 𝑉𝐶0 = 1 * 2000 + ( 316.22
+ 2
) = $2, 126. 49 𝑝𝑒𝑟 𝑦𝑒𝑎𝑟

Example problem
A company works for 50 weeks a year during which demands for a product is constant at 10 units a
week.The cost of placing an order, including delivery charges. is estimated to be $150. The
company aims for 20% annual return on assets employed.The supplier of the item quotes a basic
price of $250 a unit, with discounts of 10% on orders of 50 units or more, 15% on orders of 150 units
or more and 20% on orders of 500 units or more.

What is the optimal order quantity for the item?

𝑅𝐶 = $150 𝑝𝑒𝑟 𝑜𝑟𝑑𝑒𝑟
𝐷 = 500 𝑢𝑛𝑖𝑡𝑠
𝑖 = 20%
𝐻𝐶 = 𝑖 * 𝑈𝐶𝑙
𝐻𝐶 = 0. 20 * 200 = 40

250 1 - 49
225 50 - 149
212.5 150 - 499
200 500 - +
2*𝑅𝐶*𝐷 2*150*500
𝑄0 (𝑂𝑟𝑑𝑒𝑟 𝑠𝑖𝑧𝑒) = 𝐻𝐶
→ 𝑄0 = 40
= 61. 24 𝑢𝑛𝑖𝑡𝑠
𝑅𝐶*𝐷 𝐻𝐶*𝑄0 150*500 40*500
𝑇𝐶 = 𝑈𝐶 * 𝐷 + ( 𝑄0
+ 2
) → 𝑉𝐶0 = 200 * 500 + ( 500
+ 2
) = $110, 150 𝑝𝑒𝑟 𝑦𝑒𝑎𝑟

2*𝑅𝐶*𝐷 2*150*500
𝑄0 (𝑂𝑟𝑑𝑒𝑟 𝑠𝑖𝑧𝑒) = 𝐻𝐶
→ 𝑄0 = 42.5
= 59. 41 𝑢𝑛𝑖𝑡𝑠
𝑅𝐶*𝐷 𝐻𝐶*𝑄0 150*500 42.5*150
𝑉𝐶0 = 𝑈𝐶 * 𝐷 + ( 𝑄0
+ 2
) → 𝑉𝐶0 = 212. 5 * 500 + ( 150
+ 2
) = $109, 937. 5 𝑝𝑒𝑟 𝑦𝑒𝑎

2*𝑅𝐶*𝐷 2*150*500
𝑄0 (𝑂𝑟𝑑𝑒𝑟 𝑠𝑖𝑧𝑒) = 𝐻𝐶
→ 𝑄0 = 45
= 57. 73 𝑢𝑛𝑖𝑡𝑠
𝑅𝐶*𝐷 𝐻𝐶*𝑄0 150*500 45*50
𝑉𝐶0 = 𝑈𝐶 * 𝐷 + ( 𝑄0
+ 2
) → 𝑉𝐶0 = 225 * 500 + ( 50
+ 2
) = $115, 125 𝑝𝑒𝑟 𝑦𝑒𝑎𝑟
Service level models

How much safety stock should be held?

Service level is the percentage of demand that be cover by the available stock
Higher service level= Higher safety stock.
Items are given service levels related to their importance

Determine safety stock

To minimize the likeliness of a shortage in inventory we use Safety stock

𝑆𝑎𝑓𝑒𝑡𝑦 𝑠𝑡𝑜𝑐𝑘 = 𝑍 * σ * 𝐿𝑇
𝑅𝑒𝑜𝑟𝑑𝑒𝑟 𝑙𝑒𝑣𝑒𝑙 = 𝑙𝑒𝑎𝑑 𝑡𝑖𝑚𝑒 * 𝑑𝑒𝑚𝑎𝑛𝑑 + 𝑠𝑎𝑓𝑒𝑡𝑦 𝑠𝑡𝑜𝑐𝑘
 Z Percentage Cycle Service
Cycle with Level
shortage

0 50 50

0.84 20 80

1 15.9 84.1

1.04 15 85

1.28 10 90

1.48 7 93

1.64 5 95

1.88 3 97

2 2.3 97.7

2.33 1 99

2.58 0.5 99.5

3 0.1 99.9

Example problem
A retailer guarantees a 95% service level for all stock items. Stock is replenished from a single
wholesaler who has a fixed lead time of 4 weeks. What reorder level should the retailer adopt for an
item which has Normally distributed demand with a mean 100 units a week and a standard deviation
of 10 units? What would the reorder level be if a 98% service level were used?

If service level = 95%

𝑆𝑎𝑓𝑒𝑡𝑦 𝑠𝑡𝑜𝑐𝑘 = 1. 64 * 10 * 4 = 32. 8 ≈ 33
𝑅𝑒𝑜𝑟𝑑𝑒𝑟 𝑙𝑒𝑣𝑒𝑙 = 𝑙𝑒𝑎𝑑 𝑡𝑖𝑚𝑒 * 𝑑𝑒𝑚𝑎𝑛𝑑 + 𝑠𝑎𝑓𝑒𝑡𝑦 𝑠𝑡𝑜𝑐𝑘
𝑅𝑒𝑜𝑟𝑑𝑒𝑟 𝑙𝑒𝑣𝑒𝑙 = 4 * 100 + 33 = 433

If service level = 98% ≈ 97. 7

𝑆𝑎𝑓𝑒𝑡𝑦 𝑠𝑡𝑜𝑐𝑘 = 𝑍 * σ * 𝐿𝑇
𝑆𝑎𝑓𝑒𝑡𝑦 𝑠𝑡𝑜𝑐𝑘 = 2 * 10 * 4 = 40
𝑅𝑒𝑜𝑟𝑑𝑒𝑟 𝑙𝑒𝑣𝑒𝑙 = 4 * 100 + 41 = 440
If service level = 98%
𝑆𝑎𝑓𝑒𝑡𝑦 𝑠𝑡𝑜𝑐𝑘 = 𝑍 * σ * 𝐿𝑇
𝑆𝑎𝑓𝑒𝑡𝑦 𝑠𝑡𝑜𝑐𝑘 = 2. 05 * 10 * 4 = 41. 1
𝑅𝑒𝑜𝑟𝑑𝑒𝑟 𝑙𝑒𝑣𝑒𝑙 = 4 * 100 + 41 = 441

Example problem 2

Demand for an item is Normally distributed with a mean of 1000 units a week and a standard
deviation of 200 units. Unit cost is $10 and reorder cost is $100. Holding costs are 30% of value year
and lead time is fixed at 3 weeks. Describe an ordering policy which gives 95% service level. What is
the cost of the safety stock in this case?

𝑅𝐶 = $150 𝑝𝑒𝑟 𝑜𝑟𝑑𝑒𝑟

𝐷 = 1000 * 52 𝑤𝑒𝑒𝑘𝑠 = 52, 000 𝑢𝑛𝑖𝑡𝑠
𝑖 = 30%
𝐻𝐶 = 𝑖 * 𝑈𝐶𝑙
𝐻𝐶 = 0. 30 * 10
2*𝑅𝐶*𝐷 2*100*52000
𝑄0 (𝑂𝑟𝑑𝑒𝑟 𝑠𝑖𝑧𝑒) = 𝐻𝐶
→ 𝑄0 = 3
= 1, 862 𝑢𝑛𝑖𝑡𝑠

𝑆𝑎𝑓𝑒𝑡𝑦 𝑠𝑡𝑜𝑐𝑘 = 1. 64 * 200 * 3 = 568. 11 ≈ 568

𝑅𝑒𝑜𝑟𝑑𝑒𝑟 𝑙𝑒𝑣𝑒𝑙 = 𝑙𝑒𝑎𝑑 𝑡𝑖𝑚𝑒 * 𝑑𝑒𝑚𝑎𝑛𝑑 + 𝑠𝑎𝑓𝑒𝑡𝑦 𝑠𝑡𝑜𝑐𝑘 = 3 * 1000 + 568 = 3, 568
𝐶𝑜𝑠𝑡 𝑜𝑓 𝑠𝑎𝑓𝑒𝑡𝑦 𝑠𝑡𝑜𝑐𝑘 = 𝐻𝑜𝑙𝑑𝑖𝑛𝑔 𝑐𝑜𝑠𝑡 * 𝑠𝑎𝑓𝑒𝑡𝑦 𝑠𝑡𝑜𝑐𝑘
𝐶𝑜𝑠𝑡 𝑜𝑓 𝑠𝑎𝑓𝑒𝑡𝑦 𝑠𝑡𝑜𝑐𝑘 = 3 * 568 = $1, 704
 ____________________________________________________________________________
________

Periodic Review System

We are looking for answers to two questions
How long should the interval between orders be?
What should the target stock level be?
Revision Period: The time that the inventory is going to be checked
Is always the same

Periodic Review System Formulas:

𝑆𝑎𝑓𝑒𝑡𝑦 𝑆𝑡𝑜𝑐𝑘 = 𝑍 * 𝑠𝑡𝑎𝑛𝑑𝑎𝑟𝑑 𝑑𝑒𝑣𝑖𝑎𝑡𝑖𝑜𝑛 𝑜𝑓 𝑑𝑒𝑚𝑎𝑛𝑑 𝑜𝑣𝑒𝑟 𝑇 + 𝐿𝑇

= 𝑍 * σ * (𝑇 + 𝐿𝑇)
𝑇𝑎𝑟𝑔𝑒𝑡 𝑠𝑡𝑜𝑐𝑘 𝑙𝑒𝑣𝑒𝑙 = 𝑑𝑒𝑚𝑎𝑛𝑑 𝑜𝑣𝑒𝑟 (𝑇 + 𝐿𝑇) + 𝑠𝑎𝑓𝑒𝑡𝑦 𝑠𝑡𝑜𝑐𝑘 = 𝐷 * (𝑇 + 𝐿𝑇) + 𝑍 * σ * (𝑇 + 𝐿𝑇)
𝑂𝑟𝑑𝑒𝑟 𝑞𝑢𝑎𝑛𝑡𝑖𝑡𝑦 = 𝑡𝑎𝑟𝑔𝑒𝑡 𝑠𝑡𝑜𝑐𝑘 𝑙𝑒𝑣𝑒𝑙 − 𝑠𝑡𝑜𝑐𝑘 𝑜𝑛 𝑑𝑒𝑚𝑎𝑛𝑑 − 𝑠𝑡𝑜𝑐𝑘 𝑜𝑛 𝑜𝑟𝑑𝑒𝑟

𝑇 = 𝑟𝑒𝑣𝑖𝑠𝑖𝑜𝑛 𝑝𝑒𝑟𝑖𝑜𝑑

In a continuous the order size is always the same, in the period review system the order size is
changing and the revision period is always the same

Example problem

Demand for an item is Normally distributed with a mean of 1000 units a month and standard
deviation of 100 units. Stock is checked every three months and lead time is a constant one month.
Describe an ordering policy which gives a 95% service level. If the holding cost is $20 a unit a
month. What is the cost of safety stock with this policy? What would be the effect of using a 98%
service level?
𝐷 = 1000 𝑢𝑛𝑖𝑡𝑠 𝑝𝑒𝑟 𝑚𝑜𝑛𝑡ℎ
σ = 100 𝑢𝑛𝑖𝑡𝑠
𝐻𝐶 = $20 𝑝𝑒𝑟 𝑢𝑛𝑖𝑡 𝑝𝑒𝑟 𝑚𝑜𝑛𝑡ℎ
𝑇 = 3 𝑚𝑜𝑛𝑡ℎ𝑠
𝐿𝑇 = 1 𝑚𝑜𝑛𝑡ℎ

𝑆𝑆 = 𝑍 * σ * (𝑇 + 𝐿𝑇) → 𝑆𝑆 = 1. 64 * 100 * (3 + 1) = 328 𝑢𝑛𝑖𝑡𝑠

𝑇𝑆𝐿 = 𝐷 * (𝑇 + 𝐿𝑇) + 𝑍 * σ * (𝑇 + 𝐿𝑇) →

𝑇𝑆𝐿 = 1, 000 * (3 + 1) + 1. 64 * 100 * (3 + 1) = 4, 328 𝑢𝑛𝑖𝑡𝑠

𝐻𝑆𝑆 = 𝑆𝑆 * 𝐻𝐶 → 𝐻𝑆𝑆 = 328 * 20 = $6, 560 𝑝𝑒𝑟 𝑦𝑒𝑎𝑟