Inventory Management

¨ Instructor: Dr. Nguyen Van Hop

¨ Textbooks:
1. Silver, Pyke & Peterson, Inventory management and Production
planning and scheduling, 3rd edition, John Wiley & Son, 1998
2. Sunil Chopra, Peter Meindl – Supply chain management: Strategy,
Planning and Operation, 5th ed, Pearson.
¨ Grading:
¨ Midterm examination: 30%
¨ Assignments: 10%
¨ Quizs: 20%
¨ Final examination: 40%

1
 Course Outline
¨ Introduction to Inventory
¨ Replenishment systems for single-item inventory:
¨ Order Quantities when demand is approximate level
¨ Lot Sizing for Individual items with time-varying demand.
¨ Individual items with probabilistic demand
¨ Special classes of Items:
¨ Managing the most important inventories
¨ Managing routine inventories
¨ Style goods and perishable items
¨ Multiple items and multiple locations
¨ Coordinated replenishments at a single stocking point
¨ SCM and Multi-echelon Inventories
 Chapter 1: Introduction
¨ Definitions
¨ Types of Inventory
¨ Functions of Inventory
¨ Introduction to Inventory Control
¨ ABC Analysis
¨ Inventory Accuracy and Cycle Counting
¨ Inventory System
¨ General Framework for Inventory Model
 1. Definitions
Inventory

¨ Stock of physical goods held at a specific location at a specific time

¨ It exists because demand and supply cannot be matched for physical and
economic reasons.

Stock Keeping Units (SKU’s)

¨ Each distinct item in the inventory at a location

Serviceability

¨ Probability of stock out

 2. Types of Inventory
¨ Transaction Stocks
¨ Organization Stocks
¨ Excess Stocks
 Transaction Stocks
¨ Stock to support the transformation, movement, and sales
operations of the firm
¨ Active work-in-process (WIP) stocks constitute a large part of
transaction stock
¨ Pipeline or transportation inventories are inventory in transit
¨ Transaction stock cannot be easily reduced
 Organization Stocks
¨ Safety Stock is an organization stock to buffer against
uncertainty
¨ Anticipation Inventory or leveling inventory is used whenever
it is cheaper to hold stock than to alter short-term production
capacity
 Excess Stocks
¨ Has no purpose. It is an indication of poor planning/execution
of system operation
 General Types of Inventory
Raw material
¨ Purchased but not processed
Work-in-process
¨ Undergone some change but not completed
¨ A function of cycle time for a product
Maintenance/repair/operating (MRO)
¨ Necessary to keep machinery and processes productive
Finished goods
¨ Completed product awaiting shipment
 3. Functions of Inventory
¨ To decouple or separate various parts of the production
process
¨ To protect/buffer the firm from fluctuations in demand
¨ To take advantage of quantity discounts
¨ To hedge against inflation
 Levels of Inventory
¨ Inventory may occur at various levels or echelons within the
company. An echelon, level, or stage is a stock point that is
under control of the company.
¨ Raw material, work in process, high level components, and
finished products belong to different echelons
 Reasons for Carrying Inventories

1. To provide service
¨ finished good inventory to meet demand and keep
customers happy
¨ work-in-progress inventory to increase flexibility by
decoupling production stages and keep machines
running
¨ raw material inventory keeps production moving
¨ protection against uncertainty
 Reasons for Carrying Inventories

2. To save money
¨ buying in large quantities allows spreading of fixed costs
such as ordering costs and obtaining quantity discounts.
¨ stocking of seasonal items allow production smoothing or
work-load balancing.
 4. Introduction to Inventory Control

¨ Supply Chain Management: control of the material flow from

supplier to customers is a crucial problem
¨ Total investment in inventories is ENORMOUS
¨ Huge potential for improvement to cut cost, to gain
competitive advantage
⇒ Importance of Inventory Management
 Introduction to Inventory Control: goals

¨ Balancing conflicting goals of Finance, Production and Marketing

¨ Finance: keep stocks low to free up investment capital
¨ Purchasing: order large batches to get volume discounts
¨ Production: long production runs to avoid time-consuming setups
and have a large raw material inventory to avoid production
stoppages
¨ Marketing: have high stock of finished goods to avoid stockouts

⇒ Inventory Models seek to find the best balance between

these goals.
 Inventory Planning and Control

¨ Tradeoff among three major system objectives: customer

service, inventory investment, and production efficiency.
¨ Costs associated with these objectives always exist,
regardless of whether or not they can be measured
accurately
 5. ABC Analysis
¨ Inventory distribution by value

¨ Not all customers and not all SKU’s are equally important.

¨ Usually, 20% of the SKU’s will account for 80% of the value of the
inventory

¨ Usually, the ABC system picks 15% to 20% of the items, representing 80%
of the dollar value to be A items.

¨ About the next 30% to 40% of the items form a B category, account for
15% of the total value

¨ The rest are C items, account for about 5% of the total value
 Example
Total Annual
Annual Usage Annual Usage
Item Unit Cost Percentage
(Units) (Cost)
Usage

A 10 7000 70,000 3.2

B 86 400 34,400 1.6
C 130 1300 169,000 7.7
D 92 60 5,520 0.3
E 32 13000 416,000 19.0
G 102 10000 1,020,000 46.5
H 13 7000 91,000 4.2
I 9 5000 45,000 2.1
M 630 250 157,500 7.2
P 180 850 153,000 7.0
Q 4 2,000 8,000 0.4
S 22 1,000 22,000 1.0

47,860 2,191,420 100.0

 Example (cont.)
Total Annual
Annual Usage Annual Usage
Item Unit Cost Percentage
(Units) (Cost)
Usage

G 102 10000 1,020,000 46.5

E 32 13000 416,000 19.0
C 130 1300 169,000 7.7
M 630 250 157,500 7.2
P 180 850 153,000 7.0
H 13 7000 91,000 4.2
A 10 7000 70,000 3.2
I 9 5000 45,000 2.1
B 86 400 34,400 1.6
S 22 1,000 22,000 1.0
Q 4 2,000 8,000 0.4
D 92 60 5,520 0.3

47,860 2,191,420 100.0

 Example (cont.)
100
Cumulative Percentage Usage

90
80
70
60
50
40
30
20
10
0
-- G E C M P H A I B S Q D
 Controls for A Items
¨ Frequent, perhaps monthly, cycle counting with tight
tolerances on accuracy
¨ Daily updating of records
¨ Frequent review of demand requirements, order quantities,
and safety stock; usually resulting in relatively small order
quantities
¨ Close follow-up and expediting to reduce lead time
 Controls for B Items
¨ Similar to controls for A items with most control activities
taking place less frequently
 Controls for C Items
¨ Basic rule is to have them simple records or no records;
perhaps use a periodic review of physical inventory
¨ Large order quantity and safety stock
¨ Store in area readily available to production workers or order
fillers
¨ Count items infrequently with scale accuracy acceptable
 6. Inventory Accuracy and Cycle
Counting
¨ Inventory accuracy refers to how well the inventory records
agree with physical count.
¨ Tolerance refers to the acceptable errors of inventory
records.
¨ Cycle Counting is a physical inventory- taking technique in
which inventory is counted on a frequent basis rather than
once or twice a year.
 7. Inventory System
¨ Objective is to keep the total cost associated with the system
to a minimum
 Important Issues
¨ Inventory Transaction
¨ Inventory Accuracy
¨ Physical Control
¨ Cycle Counting
¨ Inventory Valuations
 Independent vs. Dependent Demand

¨ Independent demand - the demand for item is independent

of the demand for any other item in inventory
¨ Dependent demand - the demand for item is dependent
upon the demand for some other item in the inventory
 Service Level
¨ Quality
¨ Lead Time
¨ Fill Rates
¨ On-time Delivery Performance
¨ Responsiveness to Demand
¨ Technical Support
¨ Product Warranty and Service Parts
¨ Payment Terms
¨ Ordering Practices
¨ Freight Enhancements
 8. General Framework for
Inventory Models
Demand
¨ certainty
¨ risk, probability distribution of demand
¨ uncertainty, nothing known
Lead time: The period between the order time and the delivery time
¨ Certainty
¨ risk, probability distribution of demand
¨ uncertainty
Inside or Outside Procurement
¨ purchased from outside; pure inventory problem
¨ integrated with production smoothing if inside
General Framework for Inventory
Models
Static and Dynamic Problems
¨ Static: one period problem, examples are newsboy problem
¨ Dynamic: decisions over time
Behavior of Demand through Time for Various Items
¨ Stationary Demand: EOQ models
¨ Time-dependent Demand: WW model, Silver/Meal Heuristic
¨ Dependent Demand: MRP
Costs
¨ Price or Variable Production Costs: quantity discounts
¨ Ordering or Setup Costs
¨ Holding or Inventory Carrying Costs
¨ Stockout/Shortage costs
 Timing Decisions

One-Time Intermittent-Time
Continuous Decisions
Decisions Decisions
Continuous Review Periodic Review
System Systems

EOQ, EPQ EOQ

Base Stock (S, T) System

(Q, r) System (s, S) System

Optional
Two Bins
Replenishment
Structure of timing decisions