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Inventory Management

Check List

Inventory Key Concepts:

Inventory are those stocks or items used to support production (raw materials and work-in-process items), supporting activities (maintenance, repair and operating supplies), and customer service (finished goods and spare parts).

Inventory functions are anticipation, hedge, cycle (lot size), functions (safety stock, buffer, or reserve), transportation (pipeline) and service parts.

Why do you keep inventory?

What is the true cost of inventory holding?

How much money can you add to the bottom line with good inventory management?

How do you reduce you exposure to obsolete and excess inventory?

How much are back orders causing you in lost sales and customer perception?

What are Service levels?

A desired measure (usually expressed as a percentage) of satisfying demand through inventory or by the current production schedule in time to satisfy customers requested delivery dates and quantities.

What Types of Inventory are there?

There are many was to examine inventories.

Inventories include raw materials, purchased items or extracted materials that are converted via the manufacturing process into components and products.

Work-in-process: a product or products in various stages of completion throughout the plant.

Subassemblies: An assembly that is used at a higher level to build another assembly

Finished goods: Items ready for sale to a customer

MRO: maintenance, repair and operation supplies.

Function of inventory:

Safety stocks: In general, a quantity of stock planned to be in inventory to protect against fluctuations in demand or supply.

Cycle stocks:

Deplete gradually as customer orders are received and is replenished cyclically when supplier orders are received. The other is a cushion of protection against uncertainty in the demand or lead time variance in supply.

Pipeline stock:

inventory to fill the transportation network and distribution systems including the flow through intermediate stocking point.

Promotional products:

product that is subject to wide fluctuations in sales because it is usually sold at a reduced price or with some other sales incentive.

Elements of inventory:

Over time, demand and the ability to service demand (replenish inventory) can vary. Forecasts may not be precise due to uncertainties, so, a reserve of stock (safety stock) may be necessary to reduce inventory shortages (stock-outs). Inventory levels above the safety stock and normal demand are considered excess inventory.

Inventory Holding:

Reasons for holding inventory?
variations in supplier lead time
quantity discounts
price changes
scarcities of materials
manufactured parts:
cover period between production runs
allow flexibility in production scheduling
variations in product demand (safety stock)
economies of scale

Inventory Costs:

Cost of inventory production and holding:
purchase order/setup costs
cost of replenishing inventory through changes in the production run for a different item includes labour and other associated costs

What are carrying costs?
cost of capital
insurance costs
costs of space, staff
inventory handling

Opportunity costs:

restriction of other investments that could have been made with the same money in other parts of your business
stock-out costs:
lost sale
halted production

Objectives of Inventory Management:

minimise costs
minimise working capital investment
minimise inventory carrying costs
minimise scrap and rework
provide the highest level of customer service possible for the investment.

Inventory management tasks

make decisions about:
safety stock
replenishment production runs
excess stock

Inventory must be managed differently for:

Independent demand: influenced by market conditions
Dependent demand: derived from the production of parent items.

ABC Inventory management methodologies:

ABC analysis (Parato) of inventory
select a criterion (sales / usage) based on importance
rank inventory items on criterion
calculate cumulative sales and/or usage for all items
assign items into A, B, C groups
assign inventory levels and warehouse locations for each item.

ABC classification, where items are not of equal importance:

A-items: few items (ex. 20 %) which have a high rate of usage and/or high unit cost and account for 80 % of total value of usage in the inventory

B-items: number of items (ex. 30 %) which in total account for 15 % of total value of usage

C-items: great many items (ex. 50 %) with low individual usage and/or low unit value which in total account for only 5 % of total value of usage

ABC and inventory control efforts:

A-items: very careful management and careful estimates of future usage.
B-items: routine management and routine effort in forecasting demand.
C-items: little effort in forecasting demand, however be careful for strategic items (safety stock).

Inventory Management Systems:

Inventory management systems include:
two-bin replenishment system
used for low value , non-critical items (i.e.... class C items)
relies on visual inspection of declining inventory
one bin contains enough material to meet needs between the time one order is received and another is placed
second bin (also called the "reserve bin") contains enough material to meet needs between placing an order and receiving the materials
if production taps into the reserve bin, additional materials must be ordered immediately
reorder point system: amount ordered when inventory declines to a predetermined level (ROP)

when to order (reorder point)
how much to order (order quantity)
periodic review systems:
after predetermined fixed passages of time, orders are placed for variable amounts

how much to order (order quantity)
how long between orders (reorder time

Materials Requirements Planning (MRP):

assumes variable demand throughout production
calculates component requirements based on the Master Production Schedule (MPS), Bill of Material and inventory data
materials are purchased only when the MPS has them scheduled for use
materials are pushed through a plant

MRP II systems share information with other functional departments, outside the operations area (i.e., purchasing, sales, cost accounting). These systems plan the use of company resources, including scheduling raw materials, vendors, production, equipment and processes

JIT: A different approach to reordering:

activities add no value are waste, material only is supplied when it is requested from the next step in the production process (pull system) these requests are called kanban.

How Much to Order:

Economic Order Quantity (EOQ):
lot size that minimizes total annual inventory holding and ordering costs


annual demand is constant
forecast is perfect (no random error)
costs are constant and linear
lead time is known and constant.

Economic Order Quantity (EOQ): variations
quantity discounts: product cost is function of the order quantity
variations in demand: safety stock
variations in lead time: safety stock.

When to Order:

Reorder point (R.O.P.)
Min - Max
Time Based

Safety Stock:

Level of safety stock with a set service level requires tracking of historical sales to find:

standard deviation
establish % service level
find Z-score from distribution table
SS = (Z-score) * Standard Deviation

Excess Inventory:

Reasons for excess inventory include:
engineering changes
technical obsolescence
lack of market demand.

Inventory Counting Methods:

Cycle counting:
a few experienced people count continuously throughout the year
timely detection of errors
fewer mistakes in item identification
minimal loss of production time
systematic improvement of record accuracy.

End of year:

many inexperienced people count inventory in a short hectic period once per year
no correction or cause of errors
many mistakes in item identification
plant and warehouse shutdown for inventory
no improvement of inventory accuracy.

Suggestions - A step action plan:

Find out why you have inventories
Analyse the present situation
Do an ABC-analysis
Define the inventory levels
Define the inventory system
Define key performance indicators
Introduce key performance follow-up reports

Rationalise Products:
Print and analyse lists of slow-moving Class C items
Monthly evaluation
Action plans

Reduce Excess:
try to move the order de coupling point to an early stage in the supply chain to reduce inventory holding (carrying) cost
ABC - item management
shorten replenishment cycles.

Key Performance indicators:

Inventory turnover:
Stock coverage
stockholding x 52 weeks / annual usage
Customer satisfaction:
comparison of % of demand actually satisfied with defined service level
number of back orders



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