INVENTORY MANAGEMENT to meet overly high requirements

during certain seasonal periods.

Learning Objectives – After completing 4. To ___________________ components

this topic, you should be able to: of the production-distribution system.
 ________________ inventories
1. Define inventory. are stocked between successive
2. Identify types of inventory. operations to maintain continuity of
3. List some reasons why organizations succeeding operations in case of
have inventory. disruptions in preceding operations.
4. Discuss the concerns and objective of  Raw materials and supplies
inventory management. inventories serve as buffer between
5. List the two basic inventory decisions. the suppliers and the firm.
6. List the requirements for effective  Work-in-process inventories serve as
inventory management. buffer between successive
7. Discuss the relevant inventory costs. workstations.
8. Discuss the two general types of  Finished goods inventories serve as
inventory systems and do the buffer between the firm and its
computations related to each type. customers.
5. To permit ____________________.
INVENTORY – a stock or store of goods.
 ________________ inventories
exist throughout the production-
TYPES OF INVENTORIES distribution system due to the fact that
production operations take time; i.e.,
1. Raw materials and purchased parts they are not instantaneous.
2. Work-in-process or partially completed
goods 6. As a result of taking advantage of
3. Finished goods (manufacturing firms) or ____________ _____________.
merchandise (retail stores)  To minimize purchasing and
4. Replacement parts, tools, and supplies transportation costs, a firm may buy in
5. Goods-in-transit to warehouses or quantities that exceed immediate
customers requirements. This necessitates
storing the excess for later use.
WHY ORGANIZATIONS HAVE INVENTORY  Similarly, it is usually economical to
produce in larger rather than small
1. To meet anticipated _______________. quantities. Again, the excess output
 _________________ stocks are must be stored for later use.
held to satisfy expected average
7. As a result of hedging against
demand.
_____________ _____________ or
2. To protect against ________________. taking advantage of _____________
 _________________ stocks, _____________.
which are stocks in excess of average  Occasionally, a firm may suspect that
demand to compensate for variability a substantial price increase is about
in demand and lead time, can reduce to occur and, thus, purchase larger-
the risk of shortages. than-normal amounts to avoid the
increase.
3. To smooth ____________________
requirements. MGMT. 6 HANDOUTS/allareola
 ________________ inventories THE 2 CONCERNS OF INVENTORY
are stored during off-season periods MANAGEMENT
 5. A _________Cclassification
1. ____________________ of the stock system______ __________ for
when needed – to maximize level of prioritizing inventory items.
customer service
2. _________________ of ordering and
carrying the inventory – to minimize
inventory costs

THE 4 RELEVANT INVENTORY COSTS

THE OBJECTIVE OF INVENTORY
MANAGEMENT 1. Cost of the item or _______________
costs
 To achieve satisfactory levels of  The sum paid to the supplier for the
customer service while keeping inventory item received.
costs within reasonable bounds; i.e., try  The direct manufacturing cost.
to achieve a balance between the two  Irrelevant if the item unit cost is
concerns. constant for all quantities ordered.
 Relevant if item unit cost varies with
quantity ordered, e.g., quantity
THE 2 BASIC INVENTORY DECISIONS discounts.
1. _______________ _______________ 2. Ordering or setup or______________
(size) – How much to order costs
2. _____________ _____________  The costs incurred by placing an
(timing) – When to order order for and receiving the item or
incurred as setup costs when item is
manufactured.
REQUIREMENTS FOR EFFECTIVE  Include cost of postage, phone calls
INVENTORY MANAGEMENT to vendors, labor costs in purchasing
and accounting, receiving costs,
1. A system to _____keep track____ record keeping and purchase order
___________ of the inventory on hand supplies.
and on order
2. A reliable ___demand forecast____ 3. Carrying or holding or ____________
that includes an indication of possible costs
forecast error.  The costs associated with having the
3. Knowledge of ___LEAD TIME_____ inventory on hand.
________ and lead time variability.  Include insurance, warehouse rental,
Lead time. Time interval.betweeen heating and lighting, taxes, losses
placing order and receiving item due to pilferage, spoilage, or
4. Reasonable estimates of inventory breakage.
PROCUREMENT COST.(ORDERING.  Opportunity cost – for having capital
SET UP COST) (HOLDING OR tied up in inventory.
CARRYING COST)
______________ 4. Stockout or _______________ costs
____________,  The costs associated with demand
when stocks have been depleted.
_____________ ____________,
 Lost sales
and ___________ ____________.
– actual unmade sales
– lost customer goodwill
 Backorder costs
 – money spent to reorder goods
– money spent to notify customers
when goods arrive
– loss of goodwill

MGMT. 6 HANDOUTS/allareola
EOQ
ASSUMPTIONS OF THE BASIC EOQ MODEL

1. There is only one item involved.

2. Annual demand (usage) is known.
3. Demand (usage) rate is uniform.
4. The item unit cost does not vary with the
order size (no quantity discounts).
5. Each order is received in a single delivery.
6. Lead time is known and does not vary.
7. Ordering or setup cost is the same
regardless of the amount ordered.
8. Inventory holding cost is based on average
inventory level.
9. All demands for the item will be satisfied (no
stockout; no backorder).

SYMBOLS USED IN THE BASIC EOQ MODEL

TC = Total annual inventory cost

D = Annual demand, units
C = Cost per unit of the item, P/unit
Q = Quantity to be ordered (the optimum
amount is the economic order quantity,
EOQ)
S = Setup or ordering cost, P/order
H = Annual holding or carrying cost per unit of
average inventory, P /unit;
(Often, holding cost is expressed as
percentage of the item unit cost, such that
H = i C, where i is the percent carrying
cost).
L = Lead time, days
R = Reorder point, units

INVENTORY COSTS vs. ORDER QUANTITY

D Q
T .C.  S  H
Q 2
Q
HoldingCost  H
2
Annual cost