TOPIC 3

Inventory Model
Deterministic Inventory Control Models
• Economic Order Quantity (EOQ) Model
• Economic Production Lot Size Model
• Quantity Discounts for the EOQ Model
DETERMINISTIC INVENTORY CONTROL MODEL
 Basically, Deterministic models keeps the condition that
all variables take values which are known exactly.
However, Deterministic models do remove some of the
assumptions made in the classical analysis or EOQ.

1. Quantity Discount Model: Many suppliers quote lower

prices for larger orders, so a procedure is described for
finding the overall lower cost.

2. Finite Replenishment rate: This is typical of a finished

goods store at the end of a production line. Here units
arrive at a finite rate and stock accumulates during a
production run. Remove the assumption of
instantaneous replenishment used for EOQ and calculate
new optimal batch sizes.
Quantity Discounts

Price per unit decreases as order

quantity increases

CoD CcQ
TC = + + PD
Q 2
where

P = per unit price of the item

D = annual demand
 Quantity Discount Model (cont.)
ORDER SIZE PRICE
0 - 99 $10 TC = ($10 )
100 – 199 8 (d1)
200+ 6 (d2) TC (d1 = $8 )

TC (d2 = $6 )

Inventory cost ($)

Carrying cost

Ordering cost

Q(d1 ) = 100 Qopt Q(d2 ) = 200

 Quantity Discount: Example
QUANTITY PRICE
1 - 49 $1,400 Co = $2,500
50 - 89 1,100 Cc = $190 per computer
90+ 900 D = 200

2CoD 2(2500)(200)
Qopt = = = 72.5 PCs
Cc 190

For Q = 72.5
CoD CcQopt
TC = + + PD = $233,784
Qopt 2

For Q = 90
CoD C cQ
TC = + + PD = $194,105
Q 2
Continuous versus Periodic
Review System
 Continuous review (Q) systems (Reorder point
systems ROP) are designed to track the remaining
inventory of an item each time a withdrawal is made
to determine whether it is time to reorder.

 Periodic review (P) systems (Fixed Interval

Reorder systems) in which an item’s inventory
position is reviewed periodically rather than
continuously.
 Continuous Review (Q) System
Q systems when demand & lead time are constant and certain.

IP IP IP

Order Order Order Order

received received received received
On-hand inventory

Q Q Q

OH OH OH

R
Order Order Order
placed placed placed

L L L Time
TBO TBO TBO

12 – 9
Continuous Review System (Q,r)
Amount used during first lead time
Inventory on hand

Order quantity, EOQ

EOQ
Reorder point, ROP

d3
Average lead time usage, dL
d1
d2 EOQ

Safety stock, SS First lead

time, LT1 LT2 LT3

Time
Order 1 placed Order 2 placed Order 3 placed

Shipment 1 received Shipment 2 received Shipment 3 received

Periodic Review System (P)

 Fixed interval reorder system or periodic reorder

system
 Four of the original EOQ assumptions maintained
 No constraints are placed on lot size
 Holding and ordering costs
 Independent demand
 Lead times are certain

 Order is placed to bring the inventory position up

to the target inventory level, T, when the
predetermined time, P, has elapsed

Copyright © 2010 Pearson Education, Inc. Publishing as Prentice Hall.

Periodic Review System (P)

T
IP IP IP
Order Order Order
received received received

On-hand inventory
Q1 Q3
OH Q2 OH
IP1

IP3
Order Order
placed placed
IP2

L L L Time
P P
Protection interval

Figure 12.10 – P System When Demand Is Uncertain

Copyright © 2010 Pearson Education, Inc. Publishing as Prentice Hall.

Periodic Review System
(order-up-to)
Inventory on Hand
Review period

RP RP RP
Target inventory level, TIL

First order quantity, Q1

Q2 Q3

d1 d3
Amount used during
first lead time

d2

Safety stock, SS First lead time, LT1

LT2 LT3

Time
Order 1 placed Order 2 placed Order 3 placed

Shipment 1 received Shipment 2 received Shipment 3 received

Comparative Advantages

 Primary advantages of P systems

 Convenient
 Orders can be combined
 Only need to know IP when review is made

 Primary advantages of Q systems

 Review frequency may be individualized
 Fixed lot sizes can result in quantity discounts
 Lower safety stocks

Copyright © 2010 Pearson Education, Inc. Publishing as Prentice Hall.