Chapter 7- Inventory Management
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)