Independent Demand Inventory

IP

(Inventory Position)

•Common approaches for minimizing the problem of inaccurate inventory:

1.Assign specific employees to issue and receive orders and materials and to enter transaction data. Controlling the number of people who handle inventory or the associated transactions reduces the chances of errors substantially. 2.Place inventory in a locked and secured location. 3.Cycle counting: a system in which employees physically count a percentage of the total number of items stocked in inventory and correct any errors that are found. Cycle counting is often combined with ABC inventory analysis, with the A items being counted most often, followed by B, and then C.

The objective of an inventory system is to specify

1.When items should be ordered. 2.What quantity of each item should be ordered.

5. Costs of Materials/Quantity Discounts

Just as one company benefits from larger orders in terms of set-up cost, labor and equipment utilization, and transportation, so do companies that supply goods to other companies. It is fairly common for companies to offer quantity discounts. For example: $5.00 per unit; $4.50 for 100 or more units; $4.00 for 500 or more units The selling company passes part of this savings on to the buying company as an incentive to increase the order size. In addition, many companies will carry extra inventory as a hedge against inflation.

IP =

OH + SR - BO

What are some examples of remanufactured inventory?

Printer cartridges, cell phones, computers, and parts for various industrial products and automobiles.

The Wal-Mart Effect

Wal-Mart became the world's largest retailer in large part because of its excellent management of inventory •The company: -has sales of over $524.4 billion and operates more than 4,769 stores in the US (and more than 11766 stores in 27 other countries). -employs more than 1.5 million people in the US alone (2.2 million people aroud the world) -has more than 11,000 stores (worldwide) and 10,000 stock-keeping units (SKUs) at each stores. -manages 60 million individual stocking locations and at least a quarter of a million line-item orders per day.

Bullwhip Effect

When the decisions of one part of the supply chain ripple through the entire system. The ripple effect of small changes in customer demand are magnified upstream through a supply chain, all the way from the customers to the retailer to the distributer to the manufacturer. It is named for its resemblance to a bull whip, as the variability of demand increases sharply when you progress up the supply chain.

Enterprise Resource Planning (ERP)

a large, integrated information system that supports most enterprise processes and data storage needs across the entire organization

Electronic data interchange (EDI)

a technology that allows companies or units within a company to exchange orders, forecasts, and invoices electronically without human intervention to enter data into the receiving system

C items

account for 50 to 70 percent of the total number of items, yet account for only 10 to 20 percent of annual dollar value •C items may well be of high importance, but because they account for relatively little annual inventory cost, it may be preferable to order them in large quantities and carry excess safety stock.

Periodic review system

an inventory system that has a fixed time between orders but has different order quantities from order to order- prs monitor inventory at the end of the prescribed time period (week, month etc.), the order quantity is based on the difference between a target inventory level and the existing inventory level at the end of the time period.

SR (Scheduled Receipt)

an order that has been placed but not yet received

D

annual demand

h

carrying cost expressed as a percentage

Dependent demand

demand for items that are used to make another item or are considered to be component parts

Safety stock inventory

excess Inventory that a company holds to guard against uncertainty in demand, lead time, and supply. •If demand is higher than usual or a supplier is late with a delivery, safety stock protects against shortages. •Safety stock is created when a company either orders before an order is needed, or orders more than the expected demand.

Storage and Handling

greater the inventory carried, the more storage and handling is necessary.

In services...

inventory refers to tangible goods that are sold as part of the service and maintenance, repair, and operating (MRO) supplies that are necessary.

BO (Backorder)

is an order that has been promised to a customer(s) but is currently not in inventory (in retailing this is often called a rain check)

OH (On-hand Inventory)

is the amount of a unit that is physically available

Processing cost

is the cost in time and/or money to machine, assemble, or transform an item.

Set-up and ordering costs-

is the cost in time and/or money to prepare all necessary materials and resources for production.

One situation in which a P-system

is useful is when a manufacturer such a Pepsi or Kellogg's assigns drivers to various stores. The drivers' job is to visit each store on their route on a weekly basis and replace inventory such as sodas or snack products.

A items

make up only 10 to 20 percent of the total number of items, yet account for 60 to 80 percent of annual dollar value

Interest and opportunity cost

money tied up in inventory could be used for other purposes- invested in bonds, stocks etc. - cost of capital

Shrinkage and spoilage

obsolescence or spoilage (e.g., styles changing quickly, video games becoming obsolete, milk spoiling); Shrinkage (products misplaced, stolen, or shoplifted).

Dependent demand

on the other hand, is demand for component parts or subassemblies.

Q

order quantity

C

purchased cost of an item from supplier

S

setup or ordering cost

Target inventory

the desired quantity of inventory that will cover expected demand during the protection interval plus enough safety stock to provide the desired cycle-service level

Excess cost

the difference between the purchase cost of an item and its salvage or discounted value

Shortage cost

the lost profit from not being able to make a sale, plus any loss of customer goodwill

D/Q

the number of times that orders will be placed in a given year

IC

total annual inventory cost

In manufacturing...

types of inventory include raw materials, work in process, finished goods, component parts and supplies.

Continuous review system

•): an inventory system that always orders the same quantity of items but has differing periods of time between orders- crs monitor inventory levels regularly and place an order as soon as a certain inventory level or reorder point is reached.

ABC Systems

•ABC Systems are an approach that recognizes that different items have different values and levels of importance. Thus, the goal is to divide all items held in inventory into groups that receive varying levels of attention. inventory systems that utilize some measure of importance to classify inventory items and allocate control efforts accordingly

Inventory Equilibrium

•Determining the proper amount of inventory •Similar to balancing a scale •Assesses the benefits of carrying larger amounts of inventory against the drawbacks and the risks of carrying that inventory

3. Labor and Equipment Utilization

•Organizations will often produce extra inventory in order to keep equipment and people occupied, believing that if the time is not used, it is lost. •Larger orders also have the benefit of reducing the number of setups and increasing the proportion of time that is spent processing an order (i.e., adding value).

1. Set-up and ordering costs

•Producing an item involves two steps: 1.Setting up the materials and resources necessary to produce the item 2.The actual processing or transformation of the item

Setting the Reorder Point with Certain Demand

•Question of When to Order •Reorder point: the predetermined level that an inventory position must reach for an order to be placed •Lead time: is the time between when an order is placed and when it is expected to arrive or be finished

Reasons to Carry Inventory

•Set-up and ordering costs •Customer service and variation in demand •Labor and equipment utilization •Transportation cost Costs of materials/quantity discounts

Property taxes and insurance premiums

•Taxes and insurance premiums are often assessed on inventory in proportion to the amount- "inventory clearance sales" are designed to reduce inventory to reduce tax bills

Inventory Accuracy

•The amount of inventory in the system (i.e., the computer) often differs from the amount of physical inventory that is on hand. •This happens for a number of reasons: people enter quantities into the system incorrectly, inventory gets misplaced in the wrong location or stolen, or inventory gets damaged and the data on this do not get entered into the system. •It is common for companies to have only 90-95 percent inventory accuracy.

Technological Applications

•The biggest change in inventory management over the past 25 years is the ability of companies to use sophisticated software and hardware to track and monitor inventory very closely. •Computer technology has facilitated much more precise tracking of inventory and has resulted in reductions in the total amount of inventory in both individual companies and entire supply chains. •Common technologies that companies employ to manage inventory are ERP and RFID

Newsvendor Problem

•The newsvendor problem determines how much inventory to order when handling perishable products or items that have a limited life span. Example: Newspaper, T-shirts for a sporting event, flowers. •This is in contrast to other inventory models, which assume that products can be carried over from period to period. •Two key costs:- shortage and excess

ABC: 80/20 rule

•They take advantage of what is commonly called the 80/20 rule, which holds that 20 percent of the items usually account for 80 percent of the value. -Category A contains the most important items. -Category B contains moderately important items. -Category C contains the least important items.

4. Transportation Cost

•Transportation cost is closely linked to the size of the order. •When large items or large quantities of smaller items are shipped, it is much more efficient to have an entire truckload (or railroad car or plane or some other vehicle) than to have a partial load. •Transportation cost is similar to setup cost- larger orders tend to reduce the per-unit cost.

The Wal-Mart Effect pt.2

•Wal-Mart's inventory decisions have been dubbed "the Wal-Mart Effect." The tremendous impact that Wal-Mart's inventory decisions have on its suppliers has been dubbed "the Wal-Mart Effect." •Wal-Mart announced a major effort to reduce its inventory costs by $6 billion in 2006, or 20 percent of its yearly total, and suppliers took notice. •Wal-Mart accounts for 10 to 30 percent of many suppliers' sales. •The correction of Wal-Mart's inventory also affects shippers, with estimates of a $300 to $400 million reduction in freight revenue. •Wal-Mart's inventory reduction reflects its strategy of cutting costs and improving margins.

2. Customer Service and Variation in Demand

•While demand can be predicted, it cannot be predicted with great accuracy. •Businesses often carry buffer inventory so that there is a higher customer service level- i.e., less chance that the store is out of stock.

Cycle inventory

•a quantity of inventory that varies in proportion to order quantity; the order quantity Q is proportional to the time between orders (cycle). The longer the time between orders, the higher the order quantity.

Newsvendor problem pt.2

•a technique that determines how much inventory to order when handling perishable products or items that have a limited life span

Base stock system

•a type of inventory system that issues an order whenever a withdrawal is made from inventory •Items are replaced on a one-for-one basis. •This system is often used for very expensive items, such as spare motors for manufacturing equipment or spare parts.

Can order system

•a type of inventory system that reviews the inventory position at fixed time intervals and places orders to bring the inventory up to an expected target level, but only if the inventory position is below a minimum quantity, similar to the reorder point in a continuous review system

Bin system

•a type of inventory system that uses either one or two bins to hold a quantity of the item being inventoried; an order is placed when one of two bins is empty or a line on a single bin is reached. •This system is common in hardware stores, where there are many small, inexpensive items such as nails, bolts, and screws that would be difficult to keep a precise count on.

Radio Frequency Identification (RFID):

•an automatic identification method that relies on storing and remotely retrieving data using devices such as RFID tags or transponders.

Independent demand

•demand for items that are considered end items that go directly to a customer, and for which demand is influenced by market conditions and not related to inventory decisions for any other item.

Anticipation inventory

•inventory that is held for future use at a time when demand will exceed available capacity •Anticipation inventory would be created if the company produces 3,000 snow-mobiles per month in order to keep production constant. •Inventory would build up prior to November, then be used to meet the surge in demand.

Work-in-process inventory

•inventory that is in the process of being transformed from one state to another •It cannot be sold to a customer because it is not yet finished.

Pipeline inventory

•inventory that is in the process of moving from one location in the supply chain to another. •Pipeline inventory consists of orders that have been placed but not yet received.

Independent demand

•is demand for a finished product, such as a computer, a bicycle, or a pizza. - Independent demand must be forecast

Protection interval

•is the time during which safety stock must protect against running out of stock.

The goal for the inventory system is to

•minimize total annual inventory cost: •The total annual inventory cost is the sum of the cost of holding inventory and the cost of ordering inventory.

Inventory position

•on-hand inventory plus outstanding orders, minus any backorder quantities (items promised to a customer but not yet delivered) •Order Quantity - Q •Reorder Point - R

H

•per unit holding cost (often estimated as hC)

Remanufactured/reconditioned inventory

•products that have been used by a customer and then reacquired by a company and either remanufactured or reconditioned for resale

inventory system

•provides the structure and operating policies for maintaining and controlling goods to be stocked in inventory. •The system is responsible for ordering, tracking, and receiving goods. •There are two essential policies:1. How much or what quantity of an item to order? 2. When should an order for that item be placed?

A periodic review system

•requires a precise counting of inventory only at specific times, often once a week, once a month, or once a quarter.

Economic order quantity

•the order quantity that minimizes the total annual cost of ordering and holding inventory for a particular item EOQ = √(2DS/H)

Inventory

•the physical stock of any items or resources used in an organization

Vendor-managed inventory (VMI):

•vendors monitor sales at the retailer and replenish inventories when supplies are low

Average Inventory=

(Q + 0)/2= Q/2

Variations on the basic types of continuous and periodic reviews

-ABC Systems -Bin Systems -Can Order Systems -Base Stock Systems -The Newsvendor Problem

Inventory Types

-Cycle -Safety stock -Anticipation -Pipeline -Work-in-process Remanufactured/reconditioned