1. Outline for Managing Inventory
Global Company Profile: Green Gear Cycling
Functions of Inventory
 Types of Inventory
Inventory Management
 ABC Analysis
 Record Accuracy
 Control of Service Inventory
Inventory Models
 Independent versus Dependent Demand
 Holding, Ordering, and Setup Costs

2. What is Inventory?
Parts and materials
Available capacity
© 1995
Corel Corp.
Human resources
© 1984-1994 T/Maker Co. © 1984-1994 T/Maker Co.
© 1995 Corel Corp.

3. Green Gear Cycling
Bike Friday - a bike in a suitcase
Mass customization
 fast throughput
 low inventory
 work cells
 generalized machine (reduce setups)
Balance between inventory holding cost and
availability
Aggressive attention to reducing cycle time
of whole process

4. The Functions of Inventory
To ”decouple” or separate various parts
of the production process
To provide a stock of goods that will
provide a “selection” for customers
To take advantage of quantity discounts
To hedge against inflation and upward
price changes

5. Inventory Classifications
Inventory
Process Number Demand
Other
stage & Value Type
Raw Material A Items Maintenance
Independent
WIP & Finished B Items Dependent
Dependent
Goods C Items Operating

6. Types of Inventory
Direct Inventory
 Raw material
 Work-in-progress (WIP)
 Finished goods
Indirect Inventory
 Stored capacity
 Maintenance/repair/operating supply

7. The Material Flow Cycle and
WIP
Other Wait Move Queue Setup Run
Input Time Time Time Time Time Output
Cycle Time
Run time: Job is at machine and being worked on
Setup time: Job is at the work station, and the work
station is being "setup."
Queue time: Job is where it should be, but is not
being processed because other work precedes it.
Move time: The time a job spends in transit
Wait time: When one process is finished, but the job
is waiting to be moved to the next work area.
Other: "Just-in-case" inventory.

8. Sources of Waste
JIT “fights” seven types of waste
 Waste of motion --excessive or unnecessary human activity
 Waste of waiting --jobs waiting to be processed
 Waste of inventory --building up unnecessary inventory
stocks
 Waste of conveyance --jobs being unnecessary moved
 Waste of processing --excessive or unnecessary operations
 Waste of overproduction --producing more than demanded
 Waste of correction (defective products) --waste due to
scrap, rework, repair, etc.

9. Independent vs. Dependent
Demand
Independent demand - demand for item
is independent of demand for any other
item
 EOQ Models
Dependent demand - demand for item is
dependent upon the demand for some
other item
 MRP Systems

10. Disadvantages of Inventory
Higher costs
 Ordering (or setup) cost
 Costs of processing, clerks’ wages etc.
 Holding (or carrying) cost
 Building lease, insurance, opportunity, taxes
etc.
Difficult to control
Hides production problems

11. Inventory Tracking
JIT and mass customization requires
knowledge of location of all goods in order
to precisely control the production plan
Requires ERP data, barcode technology, RF
and electronic communications to track
inventory in transit, on the shop floor, and in
the warehouse
In JIT system, warehouse is less a
warehouse than a “pass through facility.”
Inaccurate inventory tracking is worse than
no information

12. Holding Costs Breakdown
(Approximate Ranges)
Category Cost as a
% of Inventory Value
6%
Housing costs
(3 - 10%
Material handling costs 3%
(1 - 3.5%0
Labor and administration 3%
cost (3 - 5%)
Investment costs 11%
(6 - 24%)
Pilferage, scrap, and 3%
obsolescence (2 - 5%)

13. EOQ Model:
Minimize the overall Costs
Cost
e
t Curv
otal Cos Curve
T ost
C
ing
Hold
Ordering & Setup Costs Curve
Optimal Order Quantity
Order Quantity (Q*)

14. Inventory Holding Costs
Obsolescence
Insurance
Extra staffing
Interest
Pilferage
Damage
Warehousing
Etc.

15. Ordering Costs & Setup Costs
Order processing
Clerical support
Clean-up costs
Re-tooling costs
Relocation or adjustment costs

16. Objective:
Why holding cost increase?
Why order cost decrease?
Two underlying inventory question
 How much to order (e.g. finding EOQ)
 When to order (e.g. finding ROP)

17. Underline Decisions Supported
by EOQ Models
Objective: Minimizing the total inventory costs
How much to order (Economic Order Quantity)
When to order? (Reorder Point)
How often should we place orders (Ordering
Period)
Others
 How to Take advantage of quantity discount
 What if the lead time and demand are not constant?
 Heuristics: Fixed Period Systems

18. Basic EOQ Model (Constant
Demand and Lead Time)
Inventory Level
Optimal Average
Order Inventory
Quantity (Q*/2)
(Q*)
Reorder
Point
(ROP)
Time
Lead Time

19. Derive the EOQ: Finding Q*
that Minimizes the Total Costs
Total inventory cost = Order (Setup) cost + Holding cost
D Q
TC = S + H
Q 2
To minimize TC, we set the derivative of TC with
respect to Q* equal to 0
d (TC ) − DS H
= ( 2 )+ = 0
dQ Q 2
Thus,
2DS
Q* =
H

20. EOQ Model Equations: How
much to Order
Optimal Order Quantity 2 ×D ×S
= Q* =
H
Expected Number of Orders = N = D
Q*
Expected Time Between Orders Working Days / Year
=T =
N
D = Demand per year
S = Setup (order) cost per order
H = Holding (carrying) cost

21. Reorder Point: When to
Order?
When there is lead time between order
and delivery, we need to identify the
reorder point to avoid out of stock.
This provides answer for the second
inventory “When to order?”
ROP = (Demand per day)(Lead time for
a new order in days) = d × L
D
d=
Working Days / Year

22. EOQ Example
Electronic Assembler, Inc. has to order 2920 TX5 circuit boards per year. The ordering
cost is $80 per order; and the holding cost per unit per year is $50. The purchase
price is $28. The items can be delivered in 5 days. The company would like to
reduce its inventory costs by determining the optimal number of circuit boards to
obtain per order. The conditions of ordering and inventory handling satisfy the
assumptions of the EOQ model.
Annual demand D = 2,920 units
Daily demand d = 2,920/365=8 units
Holding cost H = $50 per unit per year
Ordering cost S = $80 per order
Purchase price P = $28 per unit
Lead time LT = 5 days
Answer the following questions with detailed calculations and explanation:
1. Optimal quantity per order (EOQ):
2. Annual total relevant costs (optimal):
3. Annual total costs (optimal):
4. Number of orders per year:
5. Inventory cycle time (Nd=365 working days per year):
6. Reorder Point (ROP):

23. Production Order Quantity
Model
Allows partial receipt of material
 Other EOQ assumptions apply
Suited for production environment
 Material produced, used immediately
 Provides production lot size
Lower holding cost than EOQ model

24. POQ Model
Inventory Level
Optimal Average
Order Inventory
Quantity
(Q*)
Reorder
Point
(ROP)
Time
Lead Time

25. POQ Model Inventory Levels
Inventory Level
Production portion of cycle
Demand portion of cycle with no
supply
Supply Supply
Time
Begins Ends

26. POQ Model Inventory Levels
Inventory Level
Inventory level with no demand
Production Max. Inventory
Portion of Cycle Q·(1- d/p)
Q*
Time
Supply Supply Demand portion of cycle
Begins Ends with no supply

27. POQ Model Equations
= Q* = 2*D*S
Optimal Order Quantity
p
H* 1 -
( )
d
p
Maximum inventory level = Q *
( 1 -
d
p )
D
Setup Cost = * S D = Demand per year
Q
S = Setup cost
Holding Cost = 0.5 * H * Q
( )
1-
d
p
H = Holding cost
d = Demand per day
p = Production per day

28. Quantity Discount Model
Answers how much to order &
when to order
Allows quantity discounts
 Reduced price when item is purchased in
larger quantities
 Other EOQ assumptions apply
Trade-off is between lower price &
increased holding cost

29. Quantity Discount Model
How Much to Order?
Total
Cost Discount 1 Discount 2
Initial Price Price Price
or t1
TC f ount Dis coun
sc or
N o Di TC f
t2
c oun
Di s
for
TC
Quantity which would
be ordered
Order
Quantity to Quantity to Quantity
Lowest cost not in earn earn
discount range Discount 1 Discount 2

30. Probabilistic Models
Allow demand and lead time to vary
 Follows normal distribution
 Other EOQ assumptions apply
Consider service level & safety stock
 Service level = 1 - Probability of stockout
 Higher service level means more safety
stock
 More safety stock means higher ROP

31. Probabilistic Models
When to Order?
Frequency Service
Inventory Level
Level P(Stockout)
Optimal
Order
X
Quantity SS
ROP
Reorder
Point
(ROP)
Safety Stock (SS)
Place Receive Time
order Lead Time order

32. ABC Classification: Pareto Principle
(Critical few and trivial many)
% Annual $ Usage Class % $ Vol % Items
100 A 80 15
B 15 30
80
C 5 55
60
40
A
B
20 C
0
0 50 100
% of Inventory Items

33. Heuristics: Fixed Period Model
Orders placed at fixed intervals
 Inventory brought up to target amount
 Amount ordered varies
No continuous inventory count
 Possibility of stockout between intervals
Useful when vendors visit routinely
 Example: P&G representative visits every
2 weeks

34. Heuristics: Fixed Period Model
Inventory Level Target maximum
Time
Period Period Period

35. Implementing JIT via Agile
Inventory Management
Traditional: inventory exists in case
problems arise
JIT objective: Eliminate redundant
inventory
JIT requires
 Small lot sizes
 Low setup time
 Containers for fixed number of parts
JIT inventory: Minimum inventory to
keep system running (lean but agile)

36. Lowering Inventory
Reduces Waste
Work in process inventory level
(hides problems)
Unreliable Capacity
Scrap
Vendors Imbalances

37. Lowering Inventory
Reduces Waste
Reducing inventory reveals
problems so they can be solved.
WIP
Unreliable Capacity
Scrap
Vendors Imbalances

38. To Lower Inventory,
Reduce Lot Sizes
Inventory Level
Average
Lot Size 200 inventory = 40 Average inventory
= 100
Lot Size 80
Average inventory = (Lot size)/2 Time

39. …Which Increases
Inventory Costs
Cost
otal Co s t
T
ost
i ng C
Ho l d
Setup Cost
Smaller Optimal Lot Size
Lot Size Lot Size

40. Unless Setup Costs are
Reduced
Cost
l Cost
Tota Cos
t
Ho l di ng
Setup Cost
New optimal Original
optimal Lot Size
lot size
lot size

41. Steps to Reduce Setup Time
(Honda Assembly Line)
90 min
Initial Setup Time
Separate setup into preparation, and actual
Step 1 setup, doing as much as possible while the
machine/process is running (save 30 minutes)
60 min
Move material closer and improve
Step 2 material handling (save 20
minutes) 45 min
Standardize and
Step 3 improve tooling
(save 15 minutes) 25 min
Use one-touch system to
eliminate adjustments (save 10
Step 4 15 min
minutes)
Step 5 13 min
Training operators and
standardizing work
procedures (save 2 minutes)

42. Reducing Lot Sizes Increases
the Number of Lots
Small lots increase flexibility to meet customer
demands
Strategies for eliminating waste
and for eliminating waiting

43. Freeze Part of the Schedule
JIT Small Lots
A A B B B C A A B B B C
Time
Flexibility between Nissan plant and Dealers
Five day before delivery: 100% flexibility
Four day before: Freeze number of each model
Three day before: Freeze change color
Two day: Freeze major options
One day before: Freeze minor options

44. JIT Scheduling
Involves timing of operations
JIT requires
 Communicating schedules to suppliers
 Level schedules
 Arrange flexible schedule for small lots (jelly
bean scheduling)
 Freeze part of schedule nearest due date
 Kanban techniques

45. Kanban
Japanese word for card
 Pronounced ‘kahn-bahn’ (not ‘can-ban’)
Authorizes production from downstream
operations
 ‘Pulls’ material through plant
May be a card, flag, verbal signal, empty
container, real time message (stock broker,
football player) etc.
Most common example: use fixed-number
containers or work permits to coordinate
actions
 Add or remove containers to change production rate

46. Examples of Kanban