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EBU6609 Logistics and Supply Chain Management
Logistics and
Supply Chain
Management

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TOPIC 10: INVENTORY MANAGEMENT
MS BING HAN
Learning Objectives
EBU6609 LOGISTICS AND SUPPLY CHAIN MANAGEMENT 2
To differentiate the various inventory flow patterns
To appreciate the role of scanners in inventory control

EBU6609 Logistics and Supply Chain Management
Inventory planning and control
Delivery of products and services when required
Need for products and services at a particular time
Demand The market
Customer requirements
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Inventory planning and control
Supply The operation
Operations resources
Supply of products and services
The operation’s resources
INVENTORY PLANNING AND CONTROL
Compensating for the differences in timing between the supply and demand of material resources
Demand for products and services
The operation’s customers
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EBU6609 Logistics and Supply Chain Management
Inventory is created to compensate for the differences in timing between supply & demand
Rate of supply from input process
Input process
Rate of demand from output process
Output process
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Inventories are stocks of goods and materials that are maintained to satisfy normal demand patterns
Reason #1: to meet anticipated demand and protect against stock- outs
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EBU6609 Logistics and Supply Chain Management
Why Study Inventory Management?
◦ Inventory is the largest factor in manufacturing costs, and efficient Inventory Management has the greatest potential for increasing profitability
◦ E.g. For a typical US manufacturer 60% of corporate income goes towards the purchase of materials
Stockholding & Profitability
Two standard measures:
Return on sales = Return on assets =
Profit Sales
Profit Assets
X 100% X 100%
EBU6609 LOGISTICS AND SUPPLY CHAIN MANAGEMENT
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EBU6609 Logistics and Supply Chain Management
Opening case:
Consider two companies, M Tight and L Slack. Both are similar companies operating in the same industry. Each has annual sales of £5m., fixed assets (plant, machinery, etc) of £2.5m. Each makes a trading profit of £0.5m. Interest rate is 15%. Tight has stock of £0.5m; Slack’s stock is valued at £2.5m. The extra costs of stockholding for Slack (rent, heating, equipment, labour, etc) are £23000 pa.
Question: Which company is better?
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(a) Return on sales
500-(500 x 0.15) x 100 = 8.5%
5000 Slack:
500-[(2500x 0. 15) + 23)] x 100 =2.04% 5000
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EBU6609 Logistics and Supply Chain Management
(b) Return on assets
Tight: 500-(500×0.15)x 100=10.8% 3000
500- [(2500×0.15) + 23)] x 100 = 2.04%
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Conclusion:
Inventory reduces the return on sales, but the effect on asset return is even greater.
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EBU6609 Logistics and Supply Chain Management
Inventory Management
◦ Inventory costs are important to
◦ Inventory turnover: cost of goods sold divided by average inventory at cost
cost of goods sold = inventory turnover average inventory
$200,000 = inventory is sold 4 times per year $ 50,000
◦ Compare with competitors or benchmarked companies
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Inventory holding always carries COST. This COST should be set against the BENEFITS provided.
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EBU6609 Logistics and Supply Chain Management
Role of Inventory in the Supply Chain
Reduce Material Flow Time
Reduce Waiting Time
Reduce Buffer Inventory
Supply / Demand Variability
Seasonal V ariability
Economies of Scale
Safety Inventory
Seasonal Inventory
Cycle Inventory
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Improve Matching of Supply and Demand
Improved Forecasting
Inventory Management – considerations
􏰀Why is there a need to hold stock? 􏰀 Evens out fluctuations in demand
􏰀Categorisation of different types of stock 􏰀Costs associated with stockholding 􏰀Planning stock levels
􏰀Replenishment systems
􏰀Trade-off areas
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EBU6609 Logistics and Supply Chain Management
Why carry Inventory?
􏰀Provide product availability 􏰀Buffer production or acquisition
􏰀Buffer distribution costs 􏰀Hedge against inflation
􏰀Protect against uncertainty 􏰀Protect against unexpected events
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Inventory Management
􏰀Low inventory turnover = high inventory carrying costs, little (or no) stockout costs
􏰀High inventory turnover = low inventory carrying costs, high stockout costs
􏰀Managing the trade-off (product availability/responsiveness vs. cost/efficiency) is important to maintain service levels
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EBU6609 Logistics and Supply Chain Management
Matching Demand and Inventory
Source: Rushton, Oxley and Croucher (2000: 196)
Demand planning
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Seasonality
Description
Underlying growth or decline
Predictable peaks and troughs
Day-to-day variation
Monitor and forecast
Make seasonal allowances
Appropriate safety stock level
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EBU6609 Logistics and Supply Chain Management
Inventory Classifications
Psychic stock (stimulates demand) Cycle or base stock
Safety or buffer stock
Pipeline or in-transit stock Speculative stock
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Inventory-related costs
Holding costs:
􏰋 Opportunity (interest)
􏰋 Storage and warehousing
􏰋 Insurance
􏰋 Obsolescence, shrinkage, deterioration, depreciation
Capital costs:
􏰋 Set up and skills 􏰋 Waste
􏰋 Quality control 􏰋 Administration
Stock-out costs
Production and transportation costs
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EBU6609 Logistics and Supply Chain Management
Determination of the Average Cost of a Stockout
Alternative
1. Brand-loyal customer
2. Switches and comes back
3. Lost customer
Average cost of a stockout
These are hypothetical figures for illustration.
Loss $00.00 $37.00
Probability AverageCost .10 $00.00 .65 $24.05
.25 300.00 1.00 $324.05
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Pareto Curve & ABC Analysis
The Pareto Curve is a mathematical illustration of a common real life event. In a distribution of items and frequencies, nearly always it will be found that 80% of items account for 20% of frequencies. Thus with stocks:
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EBU6609 Logistics and Supply Chain Management
Pareto Curve
% value 100
ABC Analysis
100 % items
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% value 100
100 % items
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EBU6609 Logistics and Supply Chain Management
ABC Analysis
Typically:
◦ Class A 5% items covering 55% value ◦ Class B 15% items covering 25% value ◦ Class C 80% items covering 20% value
Advantages of the techniques:
◦ Assess criticality of some parts
◦ Assess relative importance of different parts
◦ Identify potential obsolete stock line
◦ Control frequency size of replenishment orders ◦ Balance service levels against stockholdings
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ABC Analysis – cont’d
◦ Can be controlled statistically. Good forecasting essential.
Major stock control effort in this group. Safety stock usually employed, recalculated on frequent basis. Expert market knowledge desirable.
◦ Often controlled by computerised methods (materials
requirements planning). Good forecasting desirable. Lean stock buffers. Manage by exception where possible
◦ Simple methods (two bin … ) may be used. Larger safety stocks allowed. Orders can be less frequent. Simple, often visual controls.
Note: annual stock usage must be used, not current consumption
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EBU6609 Logistics and Supply Chain Management
Inventory Management
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When to Order (Reorder point)
Replenishment models:
◦ Fixed-Quantity Models
◦ Fixed-Period Models
Reorder point (ROP)
ROP = DD x RC under certainty
ROP = (DD x RC) + SS under uncertainty Where DD = daily demand
RC = length of replenishment cycle SS = safety stock
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EBU6609 Logistics and Supply Chain Management
How Much to Reorder (Reorder Quantity)
Economic order quantity (EOQ) in terms of money
EOQ = √2AB/C
EOQ = the most economic order size, in dollars
A = annual usage, in dollars
B = administrative costs per order of placing the order
C = carrying costs of the inventory (%)
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How Much to Reorder
Economic order quantity (EOQ) in units EOQ = √2DB/IC
EOQ = the most economic order size, in units
A = annual demand, in units
B = administrative costs per order of placing order
C = carrying costs of the inventory (%)
I = dollar value of the inventory, per unit
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EBU6609 Logistics and Supply Chain Management
Determining EOQ by Use of a Graph
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EOQ Cost Calculations
Number of orders per year
Order size ($)
500 50 333 75 250 100 200 125
Ordering cost ($)
Carrying cost ($)
100 50 33 25 20
Total cost (sum of ordering and carrying cost) ($)
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EBU6609 Logistics and Supply Chain Management
Inventory Flow Diagram
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Inventory Flows
Safety stock can prevent against two problem areas
◦ Increased rate of demand
◦ Longer-than-normal replenishment
When fixed order quantity system like EOQ is used, time between orders may vary
When reorder point is reached, fixed order quantity is ordered
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EBU6609 Logistics and Supply Chain Management
Contemporary Approaches of IM
ABC Analysis
Just-in Time (JIT) Approach
Vendor-Managed Inventory (VMI)
◦ VMI employs the same principles as those of JIT inventory, however, the responsibilities of managing inventory is placed with the vendor
Inventory Tracking
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Just-in-time
Just in time (JIT) is a production strategy that strives to improve a business return on investment (ROI) by reducing in-process inventory and associated carrying costs. To meet JIT objectives, the process relies on signals or Kanban between different points in the process, which tell production when to make the next part.
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EBU6609 Logistics and Supply Chain Management
Kanban are usually ‘tickets’ but can be simple visual signals, such as the presence or absence of a part on a shelf. Implemented correctly, JIT focuses on continuous improvement and can improve a manufacturing organization’s return on investment, quality, and efficiency.
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Benefits of JIT
1. Reduced setup time. Cutting setup time allows the company to reduce or eliminate inventory for “changeover” time.
2. Theflowofgoodsfromwarehousetoshelvesimproves.Small or individual piece lot sizes reduce lot delay inventories, which simplifies inventory flow and its management.
3. Employeeswithmultipleskillsareusedmoreefficiently. Having employees trained to work on different parts of the process allows companies to move workers where they are needed.
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EBU6609 Logistics and Supply Chain Management
Benefits of JIT (cont’d)
1. Production scheduling and work hour consistency synchronized with demand. If there is no demand for a product at the time, it is not made.
2. Increased emphasis on supplier relationships.
3. Supplies come in at regular intervals throughout the
production day.
4. Minimises storage space needed.
5. Smallerchanceofinventorybreaking/expiring.
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Problems of JIT philosophy
JIT relies on other elements in the inventory chain as well. For instance, its effective application cannot be independent of other key components of a lean manufacturing system or it can “end up with the opposite of the desired result.“
Manufacturers have continued to try to hone forecasting methods such as applying a trailing 13- week average as a better predictor for JIT planning; however, some research demonstrates that basing JIT on the presumption of stability is inherently flawed.
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EBU6609 Logistics and Supply Chain Management
Suppliers actively manage inventory for customers.
Vendor monitors the buyer’s inventory levels (physically or via electronic messaging), makes periodic resupply decisions regarding order quantities, shipping, and timing.
Transactions customarily initiated by the buyer (such as purchase orders) are initiated by the supplier.
Vendor-Managed
Replenishment (VMR/VMI)
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Benefits for suppliers
􏰀improved demand information
􏰀improved ability to allocate productive resources
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EBU6609 Logistics and Supply Chain Management
Benefits for customers
􏰀Lower labour and inventory costs 􏰀Improved item availability 􏰀Improved responsiveness
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Examples of VMI
◦PET granules for bottle blowing ◦Car seats to trackside at NISSAN
◦Soap to TESCO
◦Beer/drinks to managed pubs ◦Chemicals to process company
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EBU6609 Logistics and Supply Chain Management
Special Concerns
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Defining stock-keeping units (SKUs)
Dead inventory
Substitute items
Complementary items
Informal arrangements outside the distribution channel
Repair/replacement parts
Reverse logistics
Key Terms ◦ABC analysis
◦Economic order quantity (EOQ)
◦Fixed Quantity Models
◦ Fixed-Period Models
◦ Handling costs
◦ Insurance costs
◦ Inventory carrying (holding) costs
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EBU6609 Logistics and Supply Chain Management
◦ Marginal analysis
◦ Stockouts
◦ Storage costs
◦ Vendor-managed inventory (VMI)
◦ Obsolescence
◦ Opportunity cost
◦ Reorder point (ROP)
◦ Safety stocks
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References
Leenders, Ch6
Christopher, Ch4, pp115-142
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