inventory planning, control & valuation

Prepared by Hazem Abdel-Al 1

Inventory Planning, Control

& Valuation


What is an Inventory ?

Inventory

the stock of any item or resource used in an organization: raw materials, finished products, component parts, supplies and work-in-process.

An inventory system

policies and controls for monitoring levels of inventory Information system that records transactions and enables

analysis of stock requirements and levels/quantities, costs etc


Why hold inventory / stock?

Provide flexibility minimum delay in supplying customers

a good range

Protect against uncertainties

Enable economic purchasing

Anticipate changes in demand or supply Buffers to feed processes and enable efficient

scheduling

Strategic stock holdings


Inventory Types

Raw-materials.

Work-in-progress or in-transit

Finished-goods In the warehouse, awaiting shipment, in delivery vehicles,

in tanks, on shelves, in the stores

Strategic inventory

Scrap & re-work


The Nature of Inventory Planning

Inventory do not give revenues without operations.

Organizations resources are limited there for investments in inventory should be optimized ( Economic ).

Why to manage inventory ?

To ensure a continues operation activities (non-stop).


Costs of Inventory

Ordering costs Offering prices, purchase order & office, shipping and/or set up

Holding / Carrying Costs tied up capital (item value), staff & equipment, obsolescence,

perish ability, shrinkage, insurance & security, (rent/lease), audit, taxes.

Cost of being out of stock, cancelling an order

Scrap and re-working

Shortage Costs .


Inventory Costs

Item cost

Carrying costs Capital costs

Storage costs

Risk costs Obsolescence Damage Pilferage Deterioration


Inventory Costs (cont)

Ordering costs Production control costs

Setup and teardown costs

Lost capacity costs

Purchase order costs

Stockout costs

Capacity-associated costs


Material-Flows ProcessF

rom

Su

pp

lier

sT

o C

usto

mer

Production Processes

Inventory in transit

Stores warehouse

Finishedgoods

WIP

WIP

Work inprocess


Stock : Input (Flow in), Storage (Holding) and Flow out (Usage)

Supply Rate

Inventory Level

Rate of Demand (Usage)

Stock Level


Economic Order Quantity (EOQ)

In trying to minimize inventory costs a company must find the order quantity which spreads the ordering or set-up costs over as many units as possible without incurring excess holding costs.

The EOQ model attempts to determine the amount of units to purchase which will minimize the total costs associated with ordering and holding inventory



How to calculate EOQ ?

Tabular Approach /Trial and Error. (waste time) Graphic Approach /By using charts. Formula Approach /Mathematically .


EOQ Aim = Cost Minimization

Cost

Ordering Costs

HoldingCosts

Qeoq Order Quantity (Q)

Total Cost

Holding + Ordering costs = total cost curve.

Find Qeoq inventory order point to minimize total costs.



EOQ Assumptions Demand is known and constant. Lead time is known and constant. Order and holding costs are averaged across all

transactions. Single product line No quantity discounts - stable unit cost No stock-outs allowed Items ordered/produced in a lot or batch Batch received all at once Holding cost is linear based on average stock level Fixed order + set up cost


Calculate EOQ

Qeoq = 2DS

H =

2(Annual/Period Demand) (Order cost) Holding Cost

Exercise EOQ and reorder point?•Annual demand = 12,000 units•Days/year in average daily demand = 365•Cost to place an order = £500•Holding cost /unit p.a. = £12 ( 20% Cost per unit)•Lead time = 7 days•Cost per unit = £60

Exercise EOQ and reorder point?•Annual demand = 12,000 units•Days/year in average daily demand = 365•Cost to place an order = £500•Holding cost /unit p.a. = £12 ( 20% Cost per unit)•Lead time = 7 days•Cost per unit = £60

(total unit cost * %storage)=


EOQ Solution

Q = 2DS

H =

2(12,000 )(500)

0.2 * 60 = 1000 units eoq

Number of orders = Annual Demand / EOQ

= 12000 / 1000 = 12 orders per year.

Orders Cost = 12 * 500 = 6000 £

Total Holding Cost = 0.2*60*1000

2

= 6000. £

There for Total Inventory Cost = 6000 + 6000 = 12000 £


EOQ Table – minimum TVc

Item £ 3 Holding cost % = 25%

No. of Quantity Order Average Holding Total

orders Ordered cost stock cost cost1 1200 10 600 450 4602 600 20 300 225 2453 400 30 200 150 1804 300 40 150 113 1536 200 60 100 75 1358 150 80 75 56 136

10 120 100 60 45 14512 100 120 50 38 158

Avg.stock x item £ x hc % Oc + Hc


Cost Estimation & Model Sensitivity

In practical way it’s difficult to estimate the variables in the EOQ model such as the holding cost.

Example:

In practical way it’s difficult to estimate the variables in the EOQ model such as the holding cost.

Example:

Daily demandDemand

during period

(240 days)EOQ

Total cost of inventory

40 Min 9600 units 894.4 units 10,733 £

60 Max 1440 units 1095.4 units 10,800 £

Not that much in sensitivity

Not that much in sensitivity


Extensions of the EOQ model Extensions of the EOQ model

1. EOQ with Order Size Restrictions .

2. EOQ with Storage limitations .

3. EOQ with quantity discount .

1. EOQ with Order Size Restrictions .

2. EOQ with Storage limitations .

3. EOQ with quantity discount .



1. EOQ with Order Size Restrictions .1. EOQ with Order Size Restrictions .

Example:

AICO ltd Demand Expected next year : 5000 units.

Supplier packages only contains 400 unit for each.

EOQ = 1000 unit when ordering cost 10$ & holding cost per unit 0.1$

Example:




We have two options : 800 unit or 1200 unit . We have two options : 800 unit or 1200 unit .

Option Ordering Cost Holding Cost Total Cost

800 unit 62.5 $ 40 $ 102.50 $

1200 unit 41.7 $ 60 $ 101.70 $



2. EOQ with Storage limitations .2. EOQ with Storage limitations .

Example:




Example:






3. EOQ with quantity discount .3. EOQ with quantity discount .


The Reorder Point (ROP)

Reorder point ROP = D * L D = Avg daily demand (constant) L = Lead time (constant)

when to place an order in units?

Annual Demand = 10,000 unitsDays per year considered in average daily demand = 365Cost to place an order = £10Holding cost per unit per year = 10% of cost per unitLead time = 10 daysCost per unit = £15

Annual Demand = 10,000 unitsDays per year considered in average daily demand = 365Cost to place an order = £10Holding cost per unit per year = 10% of cost per unitLead time = 10 daysCost per unit = £15


EOQ and ROP example

365.148 (366 units)=1.50

2(10,000)(10)=H

2DS=Q

eoq

D =10,000 units/year

365 days

= 27.397 units/day

If lead time = 10 days, Reorder point = 27.39 * 10 days

= 273.97 = 274 units

Place order for 366 units. When 274 left, place next order for 366.


Order Quantities & Reorder Points

R = Reorder pointL = Lead time

LL

q

R

Time

No. of unitson hand

safety orbuffer level

Average stock q/2Average stock q/2

q


Order Quantities & Reorder Points

200

400

0

Days 10 20 30 40 50 60

Inventory

Orderplaced

Orderarrival

Orderplaced Average

cycleinventory

A. Order quantity of 400 units

Orderarrival


Safety Stock and Re-order Levels

Reserve - buffer - cushion against uncertain demand (usage) & lead time.

A basis for a "2-bin" system

Application to JIT?

EOQ assumes certain demand & lead time. If uncertain, then:

ROL =

Average usage in lead time + safety stock

(Avg. lead time x Avg. daily usage)


How Much Safety Stock? Cost vs. safety level

Depends on:Uncertainty: demand & lead time

cost of

being out of stock

carrying inventory

increasingly better service

Service level policy

% confidence of not hitting a stock-out situation


Order Point with Safety StockU

nit

s

Days

Safety Stock

Actual leadtime is 3 days!

(at day 21)

2200

2000

OrderPoint

400

200

0 18 21

Dip into safety stock


End of Part OneEnd of Part One

inventory planning, control & valuation

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