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ECONOMIC ORDER QUANTITY

INVENTORY MANAGEMENT

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- 1. Economic order quantity ‘ EOQ’ 11/06/09 Maroof Hussain Sabri
- 2. Inventory <ul><li>Definition </li></ul><ul><li>“ The term inventory include materials- raw, in progress, finished packaging, spares, and other stock in order to meet an un expected demand or distribution in the future.” </li></ul>
- 3. Inventory cost <ul><li>Ordering costs; </li></ul><ul><li>Carrying cost; </li></ul><ul><li>Capital cost; </li></ul><ul><li>Store space cost; </li></ul><ul><li>Inventory service cost; & </li></ul><ul><li>Inventory risk cost; </li></ul>
- 4. Inventory management & control <ul><li>Inventory management involves the: </li></ul><ul><li>“ Development and administration of policies systems and procedures, which will minimize total cost related to inventory decisions and related functions such as production scheduling, purchasing and traffic”. </li></ul>
- 5. Inventory control Techniques <ul><li>ABC Technique; </li></ul><ul><li>HML Technique; </li></ul><ul><li>VED Technique; </li></ul><ul><li>SED Technique; </li></ul><ul><li>FSN Technique; & </li></ul><ul><li>EOQ Technique . </li></ul>11/06/09 XIDAS, Jabalpur
- 6. What is EOQ ? <ul><li>Economic order quantity is one of the techniques of inventory control which minimizes total holding and ordering costs for the year. </li></ul><ul><li>The economic order quantity is the technique which solves the problem of the materials manager . </li></ul>
- 7. Definition of EOQ <ul><li>“ EOQ is essentially an accounting formula that determines at which the combination of order, costs and inventory carrying cost are the least. The result is the most cost effective quality to order. In purchasing this is known as order quantity, in manufacturing it is known as the production lot size.” </li></ul><ul><li>- Dave Piasecki </li></ul>
- 8. EOQ Models <ul><li>‘ Q’ Models; & </li></ul><ul><li>‘ P’ Models. </li></ul>
- 9. Assumption of the EOQ Models <ul><li>Demand is known and is deterministic, i.e. constant; </li></ul><ul><li>The lead time, i.e. the time between placement of the order and the receipt of the order is known and constant; </li></ul><ul><li>The receipt of inventory is instantaneous. In other words the inventory from an order arrives in one batch at one point in time; </li></ul><ul><li>Quantity discount are not possible, in other words it dose not make any difference how much we order, the price of the product will still be the same; and </li></ul><ul><li>That only costs pertinent to inventory model are the cost of placing an order and cost of holding or storing inventory over time. </li></ul>
- 10. ‘ Q’ Model of EOQ <ul><li>In ‘Q’ model, a fixed quantity of material is ordered when ever the stock on hand reaches the recorder point the fixed quantity of material ordered each time is nothing but the economic order quantity (EOQ). when the new consignment arrives the total stock shall be within the maximum and the minimum limits. </li></ul>
- 11. Graphic presentation of ‘Q’ Model E O Q RE-ORDER LEVEL BUFFER STOCK MAXIMUM LEVEL MINIMUM LEVEL E G I N V E N T O R Y TIME PERIOD K A B C D
- 12. Mathematical method of EOQ <ul><li>The objective is to determine the quantity to order which minimize the total annual inventory management cost; </li></ul><ul><li>Minimize Total cost per period = inventory holding cost per period + order cost per period; </li></ul><ul><li>Where order cost = the number of order placed in the period ‘x’ order cost; and </li></ul><ul><li>Carrying cost = average inventory level ‘x’ the carrying costs of 1 unit of stock for one period. </li></ul>
- 13. Mathematical formula of ‘Q’ Model <ul><li>Where as , </li></ul><ul><li>Q denotes order quantity; </li></ul><ul><li>A denotes demand per time period (e.g.-annual demand); </li></ul><ul><li>S denotes carrying / holding cost of 1 unit of stock for one period; and </li></ul><ul><li>P denotes order cost. </li></ul>11/06/09 XIDAS, Jabalpur EOQ = Square Root of 2AP/S
- 14. Example: Q. Calculate the economic order quantity if annual demand for the product is 5,000 unit. The ordering cost is Rs 30 per order and holding cost is Rs 6/- per unit per annual. Sol:- Given R=5000 unit Cp= Rs. 30 Ch=Rs. 6 Now, _____ EOQ = J ( 2RCp/ CH) _____ = J(2*5000*30/6) ______ = J 5000 = 224 or 22.5 units. 11/06/09 XIDAS, Jabalpur
- 15. Merits of ‘Q’ system <ul><li>Each material can be in the most economical quantity; </li></ul><ul><li>Purchasing an inventory control personnel automatically devote attention to the items that are needed only when required; and </li></ul><ul><li>Positive control can be easily exerted to maintain total inventory investment at the desired level, simply by manipulating the plant maximum and minimum values. </li></ul>
- 16. Demerits of ‘Q’ system <ul><li>The orders are raised at irregular intervals which may not be convenient to the suppliers; </li></ul><ul><li>In case the lead time is very high supply of inventory may interpret; </li></ul><ul><li>EOQ may give you an order quantity which is much below the supplier minimum, and there is always a chance that the ordering level for an item has been reached but not noticed in which case a stock out may occur; and </li></ul><ul><li>The items cannot be group and ordered at a time since the recorder points occur irregularly. </li></ul>
- 17. ‘ P’ model of EOQ <ul><li>In this model the stock position of each item of material is regularly is reviewed; </li></ul><ul><li>Under this model inventory is ordered based on fixed period. </li></ul>11/06/09 XIDAS, Jabalpur
- 18. Graphical Presentation of ‘P’ Model Q U A L I T Y UNITS OF STOCK Replenishment level R1 15 days Y1 Y2 Y3 R3 R1 G S3 R2 S2 S1 S2 R2 R3 S3
- 19. Merits of P model <ul><li>The ordering and inventory cost are low; </li></ul><ul><li>The supplier will also offer attractive discount on sales are granted; and </li></ul><ul><li>The system works well for material which exhibit an irregular or seasonal use and whose purchase must be planned in advance on the basis of sales estimates. </li></ul>
- 20. Demerits of ‘P’ model <ul><li>It compels a periodic review of all item; this in itself make the system somewhat inefficient. because of difference in uses rate supply may not have to be order until succeeding review; </li></ul><ul><li>Equally important the system demand the establishment of rather inflexibility order quantities. in The interest of the administrative efficiency; and </li></ul><ul><li>The periodic review system tends to peak the purchasing work around the review dates. </li></ul>

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