19 -1

CHAPTER

Inventory
Management
 19 -2

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

Inventory
Inventory Costs
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.
 19 -4

Traditional
Traditional Reasons
Reasons for
for Carrying
Carrying Inventory
Inventory
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.
 19 -5

The
The Appropriate
Appropriate Inventory
Inventory Policy
Policy
Two Basic Questions Must be Addressed
 How much should be ordered or
produced?
 When should the order be placed or
the setup be performed?
 19 -6

The
The Traditional
Traditional Inventory
Inventory Model
Model
Total Costs = Ordering costs + Carrying costs
TC = PD/Q + CQ/2
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
 19 -7

The
The Traditional
Traditional Inventory
Inventory Model
Model
Economic order
=  2PD/C
quantity (EOQ)

D = 10,000 units
Q = 1,000 units
P = $25 per order
C = $2 per unit
 19 -8

The
The Traditional
Traditional Inventory
Inventory Model
Model

EOQ =  ($2 x $25 x 10,000)/2

EOQ =  250,000
EOQ = 500 units
 19 -9

Reorder
Reorder Point
Point
Demand
DemandisisCertain
Certain

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.
 19 -10

Reorder
Reorder Point
Point
Demand
DemandisisCertain
Certain
Inventory (units)
(EOQ) 500

400

300
(ROP) 200

100

2 4 6 8 10 12 14 16 18 20
Days
 19 -11

Reorder
Reorder Point
Point
Safety
SafetyStock
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
 19 -12

Reorder
Reorder Point
Point
Safety
SafetyStock
Stock

ROP = (Average rate of usage x Lead time) +

Safety stock
ROP = (50 x 4) + 40
ROP = 240 units
 19 -13

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
 19 -14

A Manufacturing Example


2PD
EOQ =
C

2 x 80,000 x 2,500
=
 5

=
 400,000,000

= 20,000 blades
 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
 19 -16

Traditional
Traditional Inventory
Inventory Systems
Systems
 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
 19 -17

Traditional
Traditional Manufacturing
Manufacturing Layout
Layout

Product A A A 
Lathes Abrasive Welding
Product B B Grinders B Equipment

Department. 1 Department 2 Department 3

Each
Each process
process passes
passes
through
through departments
departments Finished Product A
that
that specialize
specialize in
in one
one
process.
process. Finished Product B
 19 -18

JIT
JIT Inventory
Inventory Systems
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

JIT
JIT Inventory
Inventory Systems
Systems

JIT
JIT has
has two
two strategic
strategic objectives:
objectives:
 To increase profits
 To improve a
firm’s competitive
positions
 19 -20

JIT
JIT Manufacturing
Manufacturing Layout
Layout
Cell A Cell B

Grinder Grinder
 
Lathe Welding Lathe Welding

Product Finished Product Finished

A Product B Product
 19 -21

JIT And Inventory Management

Setup and Carrying Costs: The JIT Approach
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
 19 -22

JIT And Inventory Management

Due Date Performance: The JIT Solution
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
 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
 19 -24

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

 A production Kanban

 A vendor Kanban
 19 -25

Withdrawal
Withdrawal Kanban
Kanban

Item No.___________________
15670T07 _____________
Processing Process

Item Name_________________
Circuit Board _____________
CB Assembly

Computer Type_____________
TR6547 PC _____________
Box Capacity_______________
8 Subsequent Process
_____________
C
Box Type__________________ Final Assembly
_____________
 19 -26

Production
Production Kanban
Kanban

Item No.___________________
15670T07 _____________
Process

Item Name_________________
Circuit Board _____________
CB Assembly

Computer Type_____________
TR6547 PC

Box Capacity_______________
8

C
Box Type__________________
 19 -27

Vendor
Vendor Kanban
Kanban

Item No.___________________
15670T08 Name of Receiving Co.

Item Name_________________
Computer Casing _____________
Electro PC

Box Capacity_______________
8 Receiving Gate
Box Type__________________
C 75

Time to Deliver 8:30 A.M., 12:30 P.M., 2:30 P.M.

Name of Supplier Garry Supply

 19 -28

Kanban
Kanban Process
Process
(7)
Lot with P-Kanban Withdrawal (1)
Store
CD Assembly
(5) Attach
(6) Signal (1) Remove
W-Kanban
Remove W-Kanban
(4) P-Kanban Attach to
CB Stores Post
Attach to Post

(2), (3)
Production
Ordering Post Withdrawal Post

Final Assembly
 19 -29

JIT’s
JIT’s Limitations
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.
 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
 19 -31

Theory
Theory of
of Constraints
Constraints
Three Measures of Organizational Performance
 Throughput

 Inventory

 Operating expenses
 19 -32

Theory
Theory of
of Constraints
Constraints
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.
 19 -33

Drum-Buffer-Rope
Drum-Buffer-Rope System
System
Materials

Initial Process Process C

Rope
Process A Final Process

Process B
Finished Goods
Time Buffer

Drummer
Process
 19 -34

Drum-Buffer-Rope
Drum-Buffer-Rope System
System
Material for 12 Parts per Day
Confer
Confer (Part X: 6 and Part Y: 6)
Company
Company
Grinding
Rope Process
Time Buffer
12 Units 12 Units
Part X DRUMMER Part Y
Drilling
Process
Finished Goods
6 Units Part X per Day
Polishing
6 Units Part Y per Day Process
 19 -35

Chapter Nineteen

The
The End
End
19 -36