The document discusses inventory management concepts including the reasons for holding inventory, types of inventory, costs of inventory, and inventory control systems. It describes the economic order quantity (EOQ) model which aims to minimize total inventory costs by balancing ordering and holding costs. The EOQ model assumes constant demand, lead times, and avoids stockouts. ABC analysis prioritizes inventory items based on their value to focus management efforts on the most important items. Cycle counting helps maintain accurate inventory records by regularly counting samples of inventory.

1. “Inventory Management”
To hold or not to hold?

2. Objectives
Appreciate the importance of effective inventory
management.
Understand the different reasons for holding inventory
and the different types of inventory
Describe the different costs of inventory.
Realize the significance of independent and dependent
demand in inventory control systems.

3. Objectives
Be aware of the concept of Economic Order Quantity
and its limitations.
Describe the different inventory systems based on
independent demand.
Explain technologies as used for classifying and
controlling inventory.

4. Introduction
Inventory-A physical resource that a firm holds in stock
with the intent of selling it or transforming it into a more
valuable state.
Inventory System- A set of policies and controls that
monitors levels of inventory and determines what levels
should be maintained, when stock should be replenished,
and how large orders should be placed.

5. Inventory
One of the most expensive assets of many companies,
representing as much as 30-40% of total invested capital
Operations managers must balance inventory
investment and customer service

6. Inventory Management
It is the planning and control of inventories (or stock) in
the transformation system of an organization in order to
meet customer demand while also being effective.

7. Key questions to answer
1. What to stock?
2. How much to stock?
3. Where it should be located?
4. How much should be ordered?

8. Reasons for holding inventory
To anticipate changes in customer demand.
To decouple (or uncouple) operations.
To protect against stock-outs due to uncertainties in
supply, demand and lead times.
To allow for transit and transit time.
As a hedge against price increases.
To minimize purchasing and inventory costs.

9. Types of inventory
Raw materials- all commodities, parts and
components.
MRO: Maintenance, Repairs and Operating Supplies
Work-in-Process
Finished Goods

10. The Costs of Inventory
Ordering Costs (Including set-up costs)
Holding costs (Capital costs, Storage costs, Insurance
costs and obsolescence costs)
Stock-out costs (costs involved in dealing with stock-outs)

12. Inventory systems based on Independent
Demand
Fixed-Order Quantity System (sometimes referred to as
EOQ or Q systems).
Fixed-time Period Systems(or Period Review system or
Fixed order interval or P systems).

13. The Economic Order Quantity (EOQ) Model
The EOQ is the order quantity that minimizes the
ordering cost and the holding cost of an item i.e.
minimizing the total costs in acquiring and holding
assets

14. Basic EOQ Model
Important assumptions
1. Demand is known, constant, and independent
2. Lead time is known and constant
3. Receipt of inventory is instantaneous and
complete
4. Quantity discounts are not possible
5. Only variable costs are setup and holding
6. Stock-outs can be completely avoided

15. Inventory Usage Over Time
Order quantity
= Q (maximum
inventory level)
Inventory level
Usage rate Average
Time
inventory on
hand
Q
2
Minimum
inventory

16. Minimizing Costs
Objective is to minimize total costs
Annual cost
Order quantity
Curve for total
cost of holding
and setup
Holding cost
curve
Setup (or order)
cost curve
Minimum
total cost
Optimal
order
quantity

17. The EOQ Model
Q = Number of pieces per order
Q* = Optimal number of pieces per order (EOQ)
D = Annual demand in units for the Inventory item
S = Setup or ordering cost for each order
H = Holding or carrying cost per unit per year
Annual setup cost =
DS
Q
Annual holding cost = QH
2
Annual setup cost = (Number of orders placed per year)
x (Setup or order cost per order)
Annual demand
Number of units in each order
Setup or order
cost per order
=
= D (S)
Q

18. The EOQ Model
Q = Number of pieces per order
Q* = Optimal number of pieces per order (EOQ)
D = Annual demand in units for the Inventory item
S = Setup or ordering cost for each order
H = Holding or carrying cost per unit per year
Annual holding cost = (Average inventory level)
x (Holding cost per unit per year)
Order quantity
= (Holding cost per unit per year)
2
= Q (H)
2
Annual setup cost =
DS
Q
Annual holding cost = QH
2

19. The EOQ Model
Q = Number of pieces per order
Q* = Optimal number of pieces per order (EOQ)
D = Annual demand in units for the Inventory item
S = Setup or ordering cost for each order
H = Holding or carrying cost per unit per year
Annual setup cost =
DS
Q
Annual holding cost = QH
2
Optimal order quantity is found when annual setup cost equals
annual holding cost
D
Q
Q
2
S = H
Solving for Q*
2DS = Q2H
Q2 = 2DS/H
Q* = 2DS/H

20. An EOQ Example
Determine optimal number of needles to order
D = 1,000 units
S = $10 per order
H = $.50 per unit per year
Q* =
2DS
H
Q* =
2(1,000)(10)
0.50
= 40,000 = 200 units

21. An EOQ Example
Determine optimal number of needles to order
D = 1,000 units Q* = 200 units
S = $10 per order
H = $.50 per unit per year
= N = =
Expected number
of orders
Demand
Order quantity
D
Q*
1,000
200
N = = 5 orders per year

22. An EOQ Example
Determine optimal number of needles to order
D = 1,000 units Q* = 200 units
S = $10 per order N = 5 orders per year
H = $.50 per unit per year
= T =
Expected time
between orders
Number of working
days per year
N
T = 2 5 0 = 50 days between orders
5

23. An EOQ Example
Determine optimal number of needles to order
D = 1,000 units Q* = 200 units
S = $10 per order N = 5 orders per year
H = $.50 per unit per year T = 50 days
Total annual cost = Setup cost + Holding cost
TC = D S + H
Q
Q
2
1,000
200
TC = ($10) + ($.50)
200
2
TC = (5)($10) + (100)($.50) = $50 + $50 = $100

24. Robust Model
 The EOQ model is robust
 It works even if all parameters and
assumptions are not met
 The total cost curve is relatively flat in
the area of the EOQ

25. Reorder Points
 EOQ answers the “how much” question
 The reorder point (ROP) tells when to order
ROP =
Lead time for a new
order in days
Demand
per day
= d x L
d = D
Number of working days in a year

26. Reorder Point Curve
Q*
ROP
(units)
Inventory level (units)
Slope = units/day = d
Time (days)
Lead time = L

27. Reorder Point Example
Demand = 8,000 DVDs per year
250 working day year
Lead time for orders is 3 working days
d =
ROP = d x L
D
Number of working days in a year
= 8,000/250 = 32 units
= 32 units per day x 3 days = 96 units

28. Fixed-time Period (P) Systems
Here the inventory levels are reviewed at fixed intervals.

29. Four of the original EOQ assumptions maintained
No constraints are placed on lot size
Holding and ordering costs
Independent demand
Lead times are certain
Order is placed to bring the inventory position up to the target
inventory level, T, when the predetermined time, P, has elapsed

30. Fixed-time Period System(P)
P P
T
L L L
Protection interval
Time
On-hand inventory
IP1
IP3
IP2
Order
placed
Order
placed
Order
received
Order
received
Order
received
IP IP IP
OH OH
Q1
Q2
Q3
P System When Demand Is Uncertain

32. Pareto Principle
80/20 rule
Based on the work of an economist & avid horticulturalist,
V. Pareto in late 19th century Italy.
80% of the land was owned by 20% of the people.
80% of the peas were produced by 20% of the pods
Applied to business by quality guru Dr. Juran

33. Pareto principle applied:
Applied to Meetings: 80% of decisions come from 20% of
meeting time.
Applied to product defects: 20% of the quality problems cause
80% of the defects.
Applied to Salespeople: Roughly 20% of a sales force will
develop 80% of the annual results
Applied to Business Units: Roughly 20% of a company's business
units will produce 80% of the annual revenue.
Applied to time-management…

34. Moral of the Pareto principle
Find the significant 20%
Manage that 20%

35. Pareto principal + Inventory = ABC Analysis
“critical few and the trivial many”
Create a Pareto chart for the inventory dollars per year of
each item – dollar-volume
Generally the top 80% of dollars are from approximately
20% of the items.
Categorize all items into
Class A items – top ~20% items by dollar-volume
Class B items
Class C items

36. 10 20 30 40 50 60 70 80 90 100
Percentage of items
Percentage of dollar value
100 —
90 —
80 —
70 —
60 —
50 —
40 —
30 —
20 —
10 —
0 —

37. 10 20 30 40 50 60 70 80 90 100
Percentage of items
Percentage of dollar value
100 —
90 —
80 —
70 —
60 —
50 —
40 —
30 —
20 —
10 —
0 —

38. 10 20 30 40 50 60 70 80 90 100
Percentage of items
Percentage of dollar value
100 —
90 —
80 —
70 —
60 —
50 —
40 —
30 —
20 —
10 —
0 —

39. 10 20 30 40 50 60 70 80 90 100
Percentage of items
Percentage of dollar value
100 —
90 —
80 —
70 —
60 —
50 —
40 —
30 —
20 —
10 —
0 —

40. 10 20 30 40 50 60 70 80 90 100
Percentage of items
Percentage of dollar value
100 —
90 —
80 —
70 —
60 —
50 —
40 —
30 —
20 —
10 —
0 —
Class C
Class A
Class B

41. ABC Analysis
Policies based on ABC analysis
Develop Class A suppliers more
Implement tighter physical control of Class
A items
Forecast Class A items more carefully
Model inventory for Class A items

42. Cycle counting
Physically counting a sample of total inventory on
a regular basis
Used often with ABC classification
Class A items counted most often (e.g., daily)
Class B items counted less frequently (e.g. weekly)
Class C items counted least often (e.g. monthly)

43. Advantages of Cycle Counting
Eliminates shutdown and interruption of production
necessary for annual physical inventories
Eliminates annual inventory adjustments
Provides trained personnel to audit the accuracy of
inventory
Allows the cause of errors to be identified and
remedial action to be taken
Maintains accurate inventory records

44. Thank you