Chapter 7- Inventory Management

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square root of [(2*D, annual demand,*Co)/(U,unit cost, *Ci)

EOQ formula

average demand per time period,d, * average supplier lead time, t

ROP formula

service level

a measure of how well the objective of meeting customer demand is met (expressed as percentage)

inventory

a supply of items help by a firm to meet demand

B Items

about 30% of SKUs (P is between 0.80 and 0.95)

C items

about 50% of SKUs (P is equal to or more than 0.95)

setup cost

administrative expenses and the expenses rearranging a work center to produce an item

inventory

an asset, oftentimes one of largest, if not largest, asset in company. goods that are waiting to be sold

stock out

an event that occurs when no inventory is available

industrial manufacturers, Walmart/Target

an inventory turnover rate of 7 would be good for an industry like ___________, but bad for businesses like ______________________

upstream (manufacturers)

area of supply chain where profit margins are high

middle to downstream

area of supply chain where profit margins are laser thin

(unit cost* annual Demand) / (unit cost * average inventory level)

breakdown of inventory turnover formula

days of supply

calculation that informs you how many days you would have until running out if you did nothing (didn't buy anymore inventory)

retailers and distributors

companies in what industries need more inventory turns

TAC = (Co * D/Q) + (U*Ci* Q/2)

complete formula for total acquisition cost

lots of inventory

cons include costs money (usually around 25-30% total inventory value per year)

stockout cost

cost incurred when inventory is not available to meet demand

Z= (x-u)/o Z = (ROP - dt)/o ROP = dt + zo

derivations (3) of reorder point formula

Unit Cost(U) * Carrying cost percent(Ci) * Average inventory (Q/2)

formula for annual carrying cost

Co(order cost) * number of orders per year (D/Q)

formula for annual ordering cost

Order Quantity, Q/2

formula for average inventory

days of supply = current or ending inventory/ average demand rate (daily demand)

formula for days of supply

= z(number of std. deviations required for desired service level) * std. dev. of dd/t

formula for finding safety stock level

Cost to hold/carry inventory = value of inventory at cost * Ci (annual carrying cost percentage)

formula for holding/carrying costs

= square root of [(average lead time, t * std deviation demand^2) + (average demand^2 * std deviation of lead time^2)]

formula for standard deviation of demand during lead time

total acquisition cost

found by finding the sum of annual ordering cost + annual carrying cost

ABC analysis

frequently used approach in managing safety stock, ranking every items in inventory according to some criterion of importance. helps focus on the most important items. classified according to annual sales volume or item profit. For raw materials/componenet parts/MRO can be classified according to cost, annual usage, difficulty in obtaining

= (d*t) + (z * square root[(t*std. dev. demand^2) + (d^2* std. dev. of lead time^2)]

full formula to calculate reorder point when demand and/or lead time is uncertain

low

goal level to keep inventories at

balancing act

how carrying inventory is defined

$2 Trillion

how much of inventory is part of US economy (huge part of US GDP)

Annual demand, D/ Order Quantity (Q)

how to find # of orders placed per year

(demand rate * lead time) + safety stock

how to find reorder point when there is uncertainty (demand and/or lead time is variable)

manufacturers

in general _______________ have high profit margins whereas _______________ have low profit margins

linear progression, exponential

increasing service level is not a ________________________, once you reach a 90% service level, to increase service level it requires an________________ jump in invenotry

two-bin system

inventory of an item is stored in two different locations. workers withdraw items as needed from one location until that location is empty, when empty workers know that it is time to issue an order for more, information is given to purchasing. inventory is taken from 2nd location while awaiting arrival of new inventory. ROP is level of inventory in 2nd location. when order arrives first location filled and any remaining put in second location

work in process inventory

inventory that is in the production process

cost of goods sold/ average inventory at cost= inventory turnover

inventory turnover formula

transit inventory

items being transported from one location to another

raw materials and component parts

items that are bought from suppliers to use in the production of a product

finished goods invntory

items that are ready for sale to customers

opportunity cost

largest cost involved in holding inventory

MRO inventory

maintenance, repair, and operating inventories

more

more or less inventory turns better?

order small amounts often

order small amounts often? OR order large amounts few times?

distributors and middle/middle-downstream

organizations in supply chain that often make thin profit margins

1 - service level

percent of time we expect we don't meet demand (how much percentage of time we expect to stock out

service level

percent of time we meet demand (Expected to meet demand)

carrying cost percentage

percentage (usually b/w 20-40% total inventory value) that tells company how much it costs to hold inventory

holding costs = carrying costs

point of continuous review model

economic order quantity

point on graph that coincides on x-asis where lowest point of total cost curve is (slope = 0) and where holding cost and order (Setup cost) curves intersect

1. determine annual usage/sales for each item (units and/or value) 2. determine the percentage of the total usage/sales by item 3. rank the items from highest to lowest percentage 4. classify items in ABC categories

process of conducting ABC analysis

finished inventory goods

products that a company makes to sell

lots of inventory

pros include meeting demand, keeping machinery/employees/plants utilized, no stock-outs

component inventory goods

raw materials that a company uses to make goods

ordering costs > holding costs

relationship b/w two cost curves that indicates that larger quantities should be ordered less often

holding costs > ordering costs

relationship b/w two cost curves that indicates that smaller quantities should be ordered more often

carrying cost

several expenses that are incurred due to the fact hat inventory is held

service level policy

specification of the amount of risk of incurring a stockout that firm is willing to incur (helps determine safety stock needed)

continuous review model

system that answers two questions: 1. how much to order 2. when to order

The continuous review model

system whose objective is to minimize inventory. two questions asked are how much should be ordered when an order is placed and when should an order be placed. do this by demanding forecast

demand during lead time (dd/t)

the amount of demand that occurs while awaiting receipt of an inventory replenishment order

order cost

the expenses incurred in placing and receiving orders from suppliers

reorder point (ROP)

the minimum level of inventory that triggers the need to order more

days of supply

the number of days of business operations that can be supported with the inventory on hand

economic order quantity

the order quantity that minimizes the sum of annual inventory carrying cost and annual ordering cost (makes the two costs virtually equal)

ABC Analysis

the ranking of all items of inventory according to importance

Inventory Turnover

the ratio between average inventory and the level of sales. how many times per year your business sells out of all of its inventory (most important idea)

Pareto's Law

the rule that a small percentage of items account for a large percentage of sales, profit, or importance to a company

total acquisition cost (TAC)

the sum of all relevant inventory costs incurred each year

manufacturers (especially industrial)

type of company/area that does not need as many inventory turns

20-40% dollar value of total inventory

typical carrying/holding cost percentage of inventory

Ci

variable for carrying cost percentage

high volume, inventory management, low costs, capacity management

ways in which distributors can be as successful as manufacturers

COGs

what is reduced along with reduction in inventory that leads to higher gross margin

when demand rate (sloped line) crosses reorder point (straight line)

when to reorder on graph when y-axis depicts inventory and x-axis depicts days

one-stop shop, supporting, not competing items (go in conjunction with A items)

why organizations have B & C items

partially completed inventory goods

works in process materials that a company will sell

continuous review model

2 amounts calculated include economic order quantity and reorder point

A items

20% of SKUs ( P is less than or equal to 0.80)

1. carrying cost 2. order and setup cost 3. stockout cost

3 inventory related costs

1. raw materials and component parts 2. work in process inventory 3. finished goods inventory 4. MRO inventory 5. transit inventory

5 types of inventory

1. opportunity cost (cost of capital) 2. storage space costs 3. taxes 4. insurance 5. costs of obsolescence, loss and disposal 6. costs of materials handling, tracking, and management

6 various costs associated with holding inventory (carrying costs of inventory)


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