inventory management

1. 19 -1
Inventory
Management
CHAPTER

2. 19 -2
1. Describe the traditional inventory
management model.
2. Discuss JIT inventory management.
3. Explain the theory of constraints, and tell
how it can be used to manage inventory.
Objectives
After studying this
chapter, you should
be able to:

3. 19 -3
Inventory Costs
1. Ordering costs are the costs of
placing and receiving an order.
2. Setup costs are the costs of
preparing equipment and facilities
so they can be used to produce a
particular product or component.
3. Carrying costs are the costs of
carrying inventory.

4. 19 -4
1. To balance ordering or setup costs and carrying
costs.
2. To satisfy customer demand.
3. To avoid shutting down manufacturing facilities
because of machine failure, defective parts,
unavailable parts, or late delivery of parts.
4. To buffer against unreliable production processes.
5. To take advantage of discounts.
6. To hedge against future price increases.
Traditional Reasons for Carrying Inventory

5. 19 -5
The Appropriate Inventory Policy
 How much should be ordered or
produced?
 When should the order be placed or
the setup be performed?
Two Basic Questions Must be Addressed

6. 19 -6
Total Costs = Ordering costs + Carrying costs
TC = PD/Q + CQ/2
The Traditional Inventory Model
Where TC = The total ordering (or setup) and carrying costs
P = The cost of placing and receiving an order (or the
cost of setting up a production run)
Q = The number of units ordered each time an order is
placed
D = The known annual demand
C = The cost of carrying one unit of stock for one year

7. 19 -7
The Traditional Inventory Model
Economic order
quantity (EOQ)
=  2PD/C
D = 10,000 units
Q = 1,000 units
P = $25 per order
C = $2 per unit

8. 19 -8
The Traditional Inventory Model
EOQ =  ($2 x $25 x 10,000)/2
EOQ =  250,000
EOQ = 500 units

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Reorder point = Rate of usage x Lead time
Example: The producer uses 50 parts per day
and that the lead time is 4 days.
Reorder point = 4 x 50 = 200 units
Thus, an order should be placed when inventory
drops to 200 units.
Reorder Point
Demand is Certain

10. 19 -10
Reorder Point
Demand is Certain
500
400
300
200
100
Inventory (units)
(EOQ)
(ROP)
2 4 6 8 10 12 14 16 18 20
Days

11. 19 -11
Reorder Point
Safety Stock
If the refrigerator part was used at a rate of 60
parts a day instead of 50, the firm would use 200
parts after three and one-third days. The safety
stock is determined as follows:
Maximum usage 60
Average usage 50
Difference 10
Lead time x4
Safety stock 40

12. 19 -12
Reorder Point
Safety Stock
ROP = (Average rate of usage x Lead time) +
Safety stock
ROP = (50 x 4) + 40
ROP = 240 units

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A Manufacturing Example
The manager of Benson Company is trying to determine
the size of the production runs for the blade fabrication.
The controller supplies the following information:
Average demand for blades 320 per day
Maximum demand for blades 340 per day
Annual demand for blades 80,000
Unit carrying cost $5
Setup cost $12,500
Lead time 20 days

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A Manufacturing Example

EOQ =
2PD
C

2 x 80,000 x 2,500
=
5
400,000,000
=
= 20,000 blades

15. 19 -15
A Manufacturing Example
Maximum usage 340
Average usage 320
Difference 20
Lead time x20
Total safety stock 400
Reorder point = (Average usage x Lead time) + Safety stock
= (320 x 20) + 400
= 6,800 units

16. 19 -16
 Push-through system
 Significant inventories
 Large supplier base
 Short-term supplier contracts
 Departmental structure
 Specialized labor
 Centralized services
 Low employee involvement
 Supervisory management style
 Acceptable quality level
 Driver tracing dominates
Traditional Inventory Systems

17. 19 -17
Traditional Manufacturing Layout
Product A
Product B
Department. 1
Lathes
Finished Product A
Finished Product B
Each process passes
through departments
that specialize in one
process.
Abrasive
Grinders
A
B
Department 2
A
B
 
Welding
Equipment
Department 3

18. 19 -18
JIT Inventory Systems
 Pull-through system
 Insignificant inventories
 Small supplier base
 Long-term supplier contracts
 Cellular structure
 Multiskilled labor
 Decentralized services
 High employee involvement
 Facilitating management style
 Total quality control
 Direct tracing dominates

19. 19 -19
JIT has two strategic objectives:
JIT Inventory Systems
 To increase profits
 To improve a
firm’s competitive
positions

20. 19 -20
JIT Manufacturing Layout

Welding
Grinder
Cell A
Lathe
Product
A
Finished
Product
Cell B

Welding
Grinder
Lathe
Product
B
Finished
Product

21. 19 -21
JIT And Inventory Management
JIT reduces the costs of acquiring inventory to
insignificant levels by:
1. Drastically reducing setup time
2. Using long-term contracts for outside
purchases
Carrying costs are reduced to insignificant levels by
reducing inventories to insignificant levels
Setup and Carrying Costs: The JIT Approach

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Lead times are reduced so that the company can
meet requested delivery dates and to
respond quickly to customer demand.
Lead times are reduced by:
reducing setup times
improving quality
using cellular manufacturing
JIT And Inventory Management
Due Date Performance: The JIT Solution

23. 19 -23
JIT And Inventory Management
Avoidance of Shutdown: The JIT Approach
Total preventive maintenance to reduce machine
failures
Total quality control to reduce defective parts
Cultivation of supplier relationships to ensure
availability of quality raw materials and
subassemblies
The use of the Kanban system is also essential

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What is the Kanban System?
A Card System is used to monitor work-in-
process
 A withdrawal Kanban
 A production Kanban
 A vendor Kanban

25. 19 -25
Withdrawal Kanban
Item No.___________________ _____________
Item Name_________________ _____________
Computer Type_____________ _____________
Box Capacity_______________ _____________
Box Type__________________ _____________
15670T07
Circuit Board
TR6547 PC
8
C
Processing Process
CB Assembly
Subsequent Process
Final Assembly

26. 19 -26
Production Kanban
Item No.___________________ _____________
Item Name_________________ _____________
Computer Type_____________
Box Capacity_______________
Box Type__________________
15670T07
Circuit Board
TR6547 PC
8
C
Process
CB Assembly

27. 19 -27
Vendor Kanban
Item No.___________________
Item Name_________________ _____________
Box Capacity_______________
Box Type__________________
Time to Deliver
Name of Supplier
15670T08
Computer Casing
8
C
Name of Receiving Co.
Electro PC
Receiving Gate
75
8:30 A.M., 12:30 P.M., 2:30 P.M.
Garry Supply

28. 19 -28
Lot with P-Kanban
Production
Ordering Post
(6) Signal
CD Assembly
Remove
(4) P-Kanban
Attach to Post
(5) Attach
W-Kanban
(1) Remove
W-Kanban
Attach to
Post
Withdrawal Post
(2), (3)
(7)
Final Assembly
(1)
Kanban Process
CB Stores
Withdrawal
Store

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JIT’s Limitations
 Time is required to build sound relationships
with suppliers.
 Sharp reductions in inventory buffers may
cause a regimented workflow and high levels
of stress among production workers.
 The absence of inventory to buffer production
interruptions.
 Current sales are placed at risk to achieve
assurance of future sales.

30. 19 -30
JIT And Inventory Management
Discounts and Price Increases: JIT Purchasing
Versus Holding Inventories
Careful vendor selection
Long-term contracts with vendors
Prices are stipulated (usually producing
a significant savings)
Quality is stipulated
The number of orders placed are reduced

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 Throughput
 Inventory
 Operating expenses
Three Measures of Organizational Performance
Theory of Constraints

32. 19 -32
Five Steps to Improve Performance
1. Identify the organization’s constraint(s).
2. Exploit the binding constraint(s).
3. Subordinate everything else to the
decisions made in Step 2.
4. Elevate the binding constraint(s).
5. Repeat the process.
Theory of Constraints

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Materials
Process A
Process B
Drummer
Process
Time Buffer
Finished Goods
Drum-Buffer-Rope System
Process C
Final Process
Rope
Initial Process

34. 19 -34
Drum-Buffer-Rope System
Material for 12 Parts per Day
(Part X: 6 and Part Y: 6)
DRUMMER
Drilling
Process
Grinding
Process
Polishing
Process
Rope
Time
12 Units
Part X
6 Units Part X per Day
6 Units Part Y per Day
Confer
Company
Buffer
12 Units
Part Y
Finished Goods

35. 19 -35
The End
Chapter Nineteen

36. 19 -36