INVENTORY MANAGEMENT

& INVENTORY CONTROL

BY
ALOK SINGH
 What is Inventory?

• Stock of materials
• Stored capacity Types of Inventory

• Raw material
• Work-in-progress
• Maintenance/repa
ir/operating
supply
• Finished goods
(a) Single-stage (b)Two-stage
inventory system inventory system

Stock Sales Central Distribution Local Sales

operation depot distribution operation
point

Suppliers Suppliers
e.g. Local retail store e.g. Automotive parts distributor
(c) Multi-stage inventory
system

Input Stage WIP Stage WIP Stage Finishe

Stock 1 2 3 d goods
stock

Suppliers

e.g. Television manufacturer

 Inventory
Classifications
Inventory

Process Number Demand

stage & Value Type Other

Raw Material / A Items Maintenanc

B Independen e
WIP/ Finished t Dependent
Goods Items Dependent
C Operating
Items
 Inventory Classification
& Measures
ABC Analysis

• Divides in-hand
inventory into 3 classes Class B items - the
– A class, B class, C next 30% or so of
class
medium-value
Class A items - the
items which
• Basis is usually annual $ 20% or so of high-
volume account for around
value items which
– $ volume = Annual 10% of the total
account for around
demand x Unit cost stock value
80% of the total
stock value
• Policies based on ABC
analysis
– Develop class A
suppliers more Class C items -
– Give tighter physical
the remaining 50%
control of A items
– or so of low-value
Forecast A items
more carefully items which
account for around
the last 10% of the
total stock value
Other Inventory Classification & Measures

VED – Vital, essential, desirable (criticality)

SDE – Scarce, difficult, easily (availability)
HML – High, medium, low (cost)
FNSD – Fast, normal, slow, dead (movement)
 VED Analysis

• It is the Analysis for monitoring and control of stores and

spares inventory by classifying them into 3 categories viz.,
Vital, Essential and Desirable. The mechanics of VED
analysis are similar to those of ABC Analysis.
• The VED analysis is done to determine the criticality of an
item and its effect on production and other services. It is
specially used for classification of spare parts. If a part is vital
it is given ‘V’ classification, if it is essential, then it is given
‘E’ classification and if it is not so essential, the part is given
‘D’ classification. For ‘V’ items, a large stock of inventory is
generally maintained, while for ‘D’ items, minimum stock is
enough.
 SDE Analysis
S-D-E analysis is based on the problems of
procurement namely:
• Non-availability
• Scarcity
• Longer lead time
• Geographical location of suppliers, and
• Reliability of suppliers, etc.
 Continue…
S-D-E analysis classifies the items into three groups called “scarce”, “difficult”
and “easy”. The information so developed is then used to decide purchasing
strategies.
• “Scare” classification comprise of items, which are in short supply, imported or
canalized through government agencies. Such items are best to procure limited
number of times a year in lieu of effort and expenditure involved in the
procedure for import.
• “Difficult” classification includes those items, which are available indigenously
but are not easy to procure. Also items, which come from long distance and for
which reliable sources do not exist, fall into this category. Even the items,
which are difficult to manufacture and only one or two manufacturers are
available belong to this group. Suppliers of such items require several weeks of
advance notice.
• “Easy” classification covers those items, which are readily available. Items
produced to commercial standards, items where supply exceeds demand and
others, which are locally available, fall into this group.
 HML Analysis
• H-M-L analysis is similar to ABC analysis except for the
difference that instead of “usage value”, “price” criterion is
used. The items under this analysis are classified into three
groups that are called “high”, “medium” and “low”. To
classify, the items are listed in the descending order of their
unit price. The management for deciding three categories then
fixes the cut-off-lines. For example, the management may
decide that all items of unit price above Rs. 1000/-will of ‘H’
category, those with unit price between Rs. 100/- to Rs.1000/-
will be of ‘M’ category and those having unit price below Rs.
100/- will be of ‘L’ category.
 Continue…
HML analysis helps to -
• Assess storage and security requirements
• To keep control over consumption at the departmental head
level
• Determine the frequency of stock verification
• To evolve buying policies to control purchase
• To delegate authorities to different buyers to make petty cash
purchase
 FNSD Analysis
• Age of inventory indicates duration of inventory in organisation. It shows
moving position of inventory during the year. If age of inventory is minimum
it means, the turnover position of that particular item of inventory is
satisfactory. If the age of any particular item of inventory, it indicates the
slow moving of stock which may be due to lower demand for the product,
inefficiency in shocking policy, excessive stocking etc. The excessive
investment in stocks means, high investment is locked-up in inventory leads
to lower profitability of the firm due to excess carrying costs. FNSD analysis
divides the items into four categories in the descending order of their usage
rate as follows:
• 'F' stands for fast moving items and stocks of such items are consumed in a
short span of time. Stocks of fast moving items must be observed constantly
and replenishment orders be placed in time to avoid stock-out situations.
 Continue…
• 'N' means normal moving items and such items are exhausted over a
period of a war or so. The order levels and quantities for such items
should be on the basis of a new estimate of future demand to minimize
the risks of a surplus stock.
• 'S‘ indicates slow moving items, existing stock of which would last for two
years or more at the current rate of usage but it is still expected to be
used up. Slow moving stock must be reviewed very carefully before any
replenishment orders are placed.
• 'D' stands for dead stock and for its existing stock no further demand can
be foreseen. Dead stock figures in the inventory represents money spent
that cannot be realized but it occupies useful space. Hence, once such
items are identified, efforts must be made to find all alternative uses for
it. Otherwise, it must be disposed off.
 Inventory Costs

 Obsolescence
• Holding costs -  Insurance
associated with holding  Extra staffing
or “carrying” inventory  Interest
over time  Pilferage
 Damage
 Warehousing
• Ordering costs -
associated with costs of
placing order and  Supplies
receiving goods  Forms
 Order
processing
• Setup costs - cost to  Clerical support

prepare a machine or
process for
manufacturing an order Clean-up costs
 Re-tooling costs
 Adjustment
costs
 Inventory Models

• Fixed order-quantity models

– Economic order quantity
– Production order quantity
– Quantity discount

• Probabilistic models

• Fixed order-period models

 Deriving an EOQ Model

• Develop an expression for

EOQ Assumptions
setup or ordering costs
• Develop an expression for • Known and constant
holding cost demand
• Set setup cost equal to • Known and constant
holding cost lead time
• Solve the resulting • Instantaneous receipt of
equation for the best material
order quantity • No quantity discounts
• Only order (setup) cost
and holding cost
• No stock outs
 EOQ Model
How Much to Order?

Total
costs Stock-holding
costs
Costs

Ordering
costs

EOQ Order quantity

 EOQ Model
When To Order?

Inventory Level

Optimal Average
Order Inventory
Quantity (Q*/2)
(Q*)

Reorder
Point
(ROP)

Time
Lead Time
 EOQ Model Equations Total
costs
Stock-holding
costs

Costs
Ordering
costs

2 ×D ×S
Optimal Order Quantity = Q* = EOQ Order quantity

H
D
Expected Number of Orders =N =
Q*

Working Days / Year

Expected Time Between Orders =T =
N
D
d =
Working Days / Year
D = Demand per year
S = Setup (order) cost
ROP =d ×L
per order
H = Holding (carrying)
cost
d = Demand per day
L = Lead time in days
 Production Order
Quantity Model

• Answers how much to order and when to order

• 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

 POQ Model Inventory
Inventory Level Levels
Production portion of
cycle

Demand portion of cycle with no

supply

Time
Supply Supply
Begins Ends
 POQ Model Equations
2*D*
Optimal Order =Q = S

( )
d
Quantity H 1-
* p

Maximum
inventory level
=Q
* ( ) 1-
d
p
D S D = Demand per
Setup = * year
Cost Q
S = Setup cost
Holding
Cost
= 0.5 * H
*Q
( )
1-
d
p
H = Holding cost
d = Demand per
day
p = Production
per day
 POQ Model Inventory
Inventory Level
Levels
Inventory level with no demand

Production Max. Inventory

Portion of Cycle Q·(1- d/p)
Q

Time
Supply Supply Demand portion of
Begins Ends cycle with no supply
 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
 Quantity Discount
Tot
Model
al Discount 1 Discount 2
Cos
t
How Much
Initial Price
to
Price Order?
Price

f or n t co unt
T C u is
D isco for D
No TC 1

C for 2
T unt
i s co
D

Quantity which
would be
ordered
Quantit Quantity Order
Lowest cost not y to to earn Quantity
in discount earn Discoun
Discoun t2
range t1
 Probabilistic Models
• Answer how much & when to order

• Allow demand 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
 Fixed Period Model

• Answers how much to order

• 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

 Fixed Period Model
When to Order?

Inventory Level Target maximum

Time
Period Period Period