LECTURE 10

 CHAPTER 9 : INVENTORY MANAGEMENT

Determination of Cost Parameters
 Holding cost per unit Vs. Holding Rate
 H = Holding cost of one unit of an item in
inventory per year
 h = holding rate of one dollar’s worth of
inventory , usually expressed as a
percentage, e.g. 35%
 H = holding rate ( h) * cost of one unit of
the item ( c )
 EOQ= Q*= √2* D*S/H
 EOQ= Q*= √2* D*S/(h*c)
 EOQ Quantity Discount
 https://youtu.be/smMhdlojqiY

 Step 1: Calculate the EOQ for the lowest cost

option. Check if this EOQ lies in the range
corresponding to its per-unit price. If yes,
then this EOQ is your best order quantity.
Otherwise, go to step 2.

 Step 2: Calculate EOQ for ALL cost options.

Create a table finding the total cost for ALL
cost options [considering EOQ as Q if EOQ lies
in the range corresponding to its per-unit
price, otherwise, choose the lowest in the
range as your Q].
How Much to Order in Case of
Quantity Discounts

 Usually vendors provide discounts if

purchases are made in large quantities of
a certain item or when a group of items
are combined. Furthermore, economics of
scale also exist in transportation costs
when large volumes are shipped.
 Example:
 D = 1600 units/ year
 S = $ 10
 h = 20%
 Suppose the vendor gives the following
discounts:

 Quantity purchased prices

1 – 799 units $ 1.00 per
unit
800 – 1599 units $ 0.98
1600 & more $ 0.97
 EOQ is 400 units at $ 1.00
EOQ is 404 units at $ 0.98
EOQ is 406 units at $ 0.97
Price Order Annual Purchasing Annual Ordering Annual Holding Cost Annual Total Cost
c Quantity Cost Cost (Q/2 *(h*c)
Q D*c (D/Q)*S

.97 1600 1600*.97 (1600/1600) (1600/2)*.2*.97 $1717.2

=1552 *10=$10 =$155.2

.98 800 1600*.98 (1600/800)* (800/2)*.2*.98 $1666.4

=1568 10 =$78.4
=$20
$1 400 1600*1 (1600/400)* (400/2)*.2*1 $1680
=1600 10 =$40
=$40
 GROUP ASSIGNMENT:
 D = 750 units/ year
 S = $ 160
 h = 30%
 Suppose the vendor gives the following
discounts:

Quantity purchased prices

< 450 units $ 7.00 per unit
450 & more Units $ 5.00 per
unit
When to Order??

Lead Time Demand

Constant Constant
Constant Varies
Varies Constant
Varies Varies
 When to Order??
If Demand and Lead Time are Constant:

ROP = Demand During Lead Time

ROP = ( Demand per period) * (# of periods in

LT)
When Demand & Lead Time are Constant
 ROP = Demand During Lead Time
 ROP = ( Demand per period) * ( # of
periods in LT)
 D = 1200 units (100 units per month)
 Q = 300 units Lead Time = 1 month

 When should we place the order?

 ROP = 100*1 = 100
 When inventory comes down to 100 unit, place
another order for 300 units.
Demand Varies and Lead Time is
Constant
 Demand Varies and Lead Time is
Constant
ROP= Average Demand during Lead Time
+
Safety Stock
=(d*LT) + Z*Standard Deviation of
Demand During Lead Time

[Standard Deviation of Demand During

Lead Time = Standard Deviation per
Period* √ LT]
 Practice Problem
 Demand is Normally Distributed with:
 Mean Demand per week = 25 units
Standard Deviation of Demand per Week =10

Desired Customer Service Level = 99.85%

Lead Time = 2 Weeks
1. When should we place the order?
ROP= =(d*LT) + Z*Standard Deviation of Demand
During Lead Time
= (25*2) + 2.96*10* √ 2 = 92
When inventory comes down to 92 units, place another
order to satisfy 99.85% customers
 Practice Problem
 Mean Demand During Lead Time = 50 units
 Variance of Demand During Lead Time = 225
units
1.What ROP would Provide a Customer Service Level of
84%
ROP= 50 + 1*15 = 65
2.What Safety Stock is necessary to have 2.5% stock-
out
SS = 1.96*15 = 30 units
3.An ROP of 95 Units provides what level of customer
service?
95 = 50 + Z*15 => Z = 3
Customer Service Level of 99.87%
 ABC CLASSIFICATION
% of Inventory Value % of Items Class
80% 20% A

15% 30% B

5% 50% C
Practice ABC Classification Problem
from Book

 https://youtu.be/2h7nOY2ICHA
Thanks Much!!