INVENTORY MANAGEMENT

Ch 13 Dr. Ferdous Sarwar

 What is Inventory?
2

 Inventory
 A stock or store of goods
 Raw materials, purchased parts, partially finished items
(WIP), and finished goods, as well as spare parts for
machines, tools, and other supplies
 Independent demand items (End Items)
 demand not related to any other item and primarily
influenced by market conditions
 Dependent demand items
 demand for an item is influenced by the demand of
another item
 60 to
30% Current Assets
90%
Working Capital
6.8%
Last 5 years

3
 Inventory
Raw Materials
Components
Work in Process
Finished Goods
Supplies

4
 Incoming Trucks

Goods

Forklifts

Conveyor Belts

Outgoing Trucks

5
 US Business Inventories
6

 According to the US Census Bureau, seasonally adjusted

business inventories stood at $ 1,847,510 Million in
January 2023.
Source: U.S. Census Bureau, Manufacturing and Trade Inventories and Sales, March 15, 2023.
Total
Total Manufacturin Total Retail Total
Month Year Business g Trade Wholesalers
January 2023 1,847,510 547,780 605,893 693,837
 Why do we need inventory?
7

 Economies of batch production

 Unpredictable or unreliable vendors
 buffer for imbalanced production lines
 buffer for machine downtimes
 safety stock against random demands or uncertain lead-times
 hedge against poor quality
 bi-product from production smoothing
 avoid loss of sales or high cost of backorders
 fill logistics pipeline – reduce resupply time
 display goods to potential customers
 Walmart’s
Supply Chain

8
 Walmart’s inventory policy
9

 Efficient replenishment system: Walmart has a sophisticated replenishment system that

enables it to track inventory levels in real-time and automatically reorder products as
needed. This helps the company to avoid stockouts and reduce excess inventory.
 Just-in-time (JIT) inventory management: Walmart uses a JIT inventory system, which
means that products are ordered and received just in time for when they are needed.
This helps the company to reduce inventory carrying costs and minimize the risk of
overstocking.
 Cross-docking: Walmart utilizes cross-docking, a logistics strategy that involves
unloading incoming shipments from suppliers and quickly transferring the products
onto outbound trucks for delivery to stores. This helps the company to reduce inventory
holding costs and speed up the supply chain.
 Vendor-managed inventory (VMI): Walmart has established VMI programs with many of
its suppliers. Under this arrangement, the supplier is responsible for managing the
inventory levels of their products in Walmart's stores. This helps to improve inventory
accuracy and reduce inventory costs for both Walmart and its suppliers.
 The need for inventories can be reduced by
10

 Using standardized parts

 Improved forecasting of demand
 Using preventive maintenance on equipment and machines
 Reducing supplier delivery lead times and delivery reliability
 Utilizing reliable suppliers and improving the relationships in the
supply chain
 Restructuring the supply chain so that the supplier holds the inventory
 Reducing production lead time by using more efficient manufacturing
methods
 Developing simpler product designs with fewer parts.
 Types of Inventory
11

 Raw material
 Material needing further processing
 Components that go into the product as is
 Supplies such as glue, screws, ink, thread
 Dependent demand
 Work in process (WIP)
 Inventory in the production system waiting to be processed or
assembled and may include semi-finished products
 Dependent demand
 Finished goods
 Output of the production process or end items
 Demand is usually independent
 Finished goods from one manufacturing plant may be raw material for
another
12
Conflicting objectives
Area Responsibility Inventory goal Desired
inventory level
Marketing Sell the product Good customer High
service
Production Make the product Efficient lot sizes High

Purchasing Buy required Low unit cost High

material
Finance Provide working Efficient use of Low
capital capital
Warehousing Store the product Efficient use of Low
space
Engineering Design the Avoid low
product obsolescence
 Inventory Metrics
13

 Inventory turnover ratio is a financial ratio that measures the number of

times a company sells and replaces its inventory during a specific period. The
formula for calculating inventory turnover ratio is:
 Inventory turnover ratio = Cost of goods sold / Average inventory
 For example, let's say that a company had a cost of goods sold of $500,000 for
the year and an average inventory of $100,000. Using the formula above, we
can calculate the inventory turnover ratio as follows:
 Inventory turnover ratio = $500,000 / $100,000 = 5
 This means that the company sold and replaced its inventory 5 times during
the year. Generally, a higher inventory turnover ratio indicates that a company
is selling its inventory quickly and efficiently, while a lower ratio may indicate
that a company is holding onto its inventory for too long, which can lead to
excess inventory costs and obsolescence.
 Inventory Metrics
14
 Example
15
 Inventory Management
16

 Management has two basic functions concerning

inventory:
1. Establish a system for tracking items in inventory
2. Make decisions about
 When to order (ROP): By calculating the ROP, a company can
ensure that it maintains sufficient inventory levels to meet
demand while avoiding stockouts and excess inventory costs.
 How much to order (Optimum Lot Size): Optimum lot size refers
to the quantity of inventory or raw materials that a company
should order at one time to minimize the total cost of inventory.

13-16
 By initiating a program that utilizes barcodes and scanners, such as this one by Motorola, hospitals can
control inventory supply areas, as well as keep track of all equipment in use across the enterprise.
Stockroom inventory applications track consumable items such as medication and supplies, while check
in/out applications track shared or re-usable items such as X-rays, lab results, diagnostic tools, and
other medical equipment.
17
 Requirements for Effective
Inventory Management
18

1. A system to keep track of the inventory on hand and on

order.
2. A reliable forecast of demand that includes an indication
of possible forecast error.
3. Knowledge of lead times and lead time variability.
4. Reasonable estimates of inventory holding costs,
ordering costs, and shortage costs.
5. A classification system for inventory items.
 Inventory Counting Systems
19

 Periodic System
 Physical count of items in inventory made at periodic intervals
 Perpetual Inventory System
 System that keeps track of removals from inventory
continuously, thus monitoring current levels of each item
 An order is placed when inventory drops to a
predetermined minimum level
 Two-bin system
 Two containers of inventory; reorder

when the first is empty

 Universal Product Code (UPC) or Bar-code
 Point-of-sale (POS) system

13-19
Inventory costs
 Purchasing costs
 material cost, unit cost Purchase
 Ordering costs option
 fixed cost of preparing and monitoring order
 receiving and handling
 Production cost
 material and variable manufacturing cost Production
 Set-up cost option
 fixed cost to prepare for manufacture
 Holding costs
 opportunity cost
 storage and handling costs
 taxes and insurance
 pilferage, damage, spoilage, obsolescence, etc.
 Backorder and lost sales costs

20
 Representative Holding Costs
21
 Inventory classification system
22

 ABC Analysis:
 Categorizes inventory items based on their relative value

 Highest value items are "A" items, which require close monitoring

and tight control

 Lowest value items are "C" items, which require less attention

 XYZ Analysis:
 Categorizes inventory items based on their demand variability

 Stable and predictable demand items are "X" items

 Items with more volatile demand are "Y" or "Z" items, which

require more attention and planning

 Inventory classification system
23
(continued)
 FSN Analysis:
 Categorizes inventory items based on their consumption patterns

 Fast-moving items are "F" items, which require frequent

replenishment
 Slow-moving items are "S" items, which require less attention

 VED Analysis:
 Categorizes inventory items based on their criticality to operations

 Vital items are "V" items, which require strict control and

management
 Essential items are "E" items, which require close attention

 Desirable items are "D" items, which require less control

 A-B-C Analysis
24

 The A-B-C approach classifies inventory items according to some

measure of importance, usually annual dollar value (i.e., dollar value
per unit multiplied by annual usage rate), and then allocates control
efforts accordingly.
 Three classes of items are used: A (very important), B (moderately
important), and C (least important).
 A-B-C Steps
25

To solve an A-B-C problem, follow these steps:

1. For each item, multiply annual volume by unit price to
get the annual dollar value.
2. Arrange annual dollar values in descending order.
3. The few (10 to 15 percent) with the highest annual
dollar value are A items. The most (about 50 percent)
with the lowest annual dollar value are C items. Those
in between (about 35 percent) are B items.
 Example: A-B-C
26
 Lot Sizing for a Single product (EOQ)
28
 Assumptions of EOQ Model
29

1. Only one product is involved.

2. Annual demand requirements are known.
3. Demand is spread evenly throughout the year
so that the demand rate is reasonably constant.
4. Lead time is known and constant.
5. Each order is received in a single delivery.
6. There are no quantity discounts.
 The Inventory Cycle
30
 Carrying cost, ordering cost, and total cost curve
31
 Costs
32

Q D
Annual carrying cost  2 H Annual ordering cost  Q S

Q D
Total cost  2 H  Q S

Q=Order Quantity in Units

H=Holding Cost per Unit per Year
D=Demand in Units per Year
S=Ordering Cost per Order
 Deriving EOQ
33

 Using calculus, we take the derivative of the total cost

function and set the derivative (slope) equal to zero and
solve for Q.
 The total cost curve reaches its minimum where the
carrying and ordering costs are equal.

2 DS 2(annual demand)(order cost)

QO  
H annual per unit holding cost

13-33
 Example 1: EOQ
34

A local distributor for a national tire company expects to

sell approximately 9,600 steel-belted radial tires of a
certain size and tread design next year. Annual carrying
cost is $16 per tire, and ordering cost is $75. The
distributor operates 288 days a year.
a. What is the EOQ?
b. How many times per year does the store reorder?
c. What is the length of an order cycle?
d. What is the total annual cost if the EOQ quantity is ordered?
 Example 2: EOQ
36
 Solution
37

Demand, D = 12,000 computers per year

d = 1000 computers/month
Unit cost, C = $500
Holding cost fraction, h = 0.2
Fixed cost, S = $4,000/order
Q* = Sqrt[(2)(12000)(4000)/(0.2)(500)] = 980 computers
Cycle inventory = Q/2 = 490
Flow time = Q/2d = 980/(2)(1000) = 0.49 month
Reorder interval, T = 0.98 month
 Solution-continued
38

Annual ordering and holding cost =

= (12000/980)(4000) + (980/2)(0.2)(500) = $97,980
Suppose lot size is reduced to Q=200, which would reduce
flow time:
Annual ordering and holding cost =
= (12000/200)(4000) + (200/2)(0.2)(500) = $250,000
To make it economically feasible to reduce lot size, the fixed
cost associated with each lot would have to be reduced
 Example
39

If desired lot size = Q* = 200 units, what would S have

to be?
D = 12000 units
C = $500
h = 0.2
Use EOQ equation and solve for S:
S = [hC(Q*)2]/2D = [(0.2)(500)(200)2]/(2)(12000) =
$166.67
To reduce optimal lot size by a factor of k, the fixed order cost
must be reduced by a factor of k2
 Key points form EOQ Model
40

 In deciding the optimal lot size, the tradeoff is

between setup (order) cost and holding cost.
 If demand increases by a factor of 4, it is optimal
to increase batch size by a factor of 2 and
produce (order) twice as often. Cycle inventory
(in days of demand) should decrease as demand
increases.
 If lot size is to be reduced, one has to reduce
fixed order cost. To reduce lot size by a factor of
2, order cost has to be reduced by a factor of 4.
 Aggregating Multiple Products in a Single
Order
41

 Suppose there are 4 computer products: Deskpro, Litepro, Medpro,

and Heavpro
 Assume demand for each is 1000 units per month
 If each product is ordered separately:
 Q* = 980 units for each product
 Total cycle inventory = 4(Q/2) = (4)(980)/2 = 1960 units
 Aggregate orders of all four products:
 Combined Q* = 1960 units
 For each product: Q* = 1960/4 = 490
 Cycle inventory for each product is reduced to 490/2 = 245
 Total cycle inventory = 1960/2 = 980 units
 Average flow time, inventory holding costs will be reduced
 Lot Sizing with Multiple
42
Products or Customers
 In practice, the fixed ordering cost is dependent at least in part on the
variety associated with an order of multiple models
 A portion of the cost is related to transportation (independent of

variety)
 A portion of the cost is related to loading and receiving (not

independent of variety)
 Three scenarios:
 Lots are ordered and delivered independently for each product

 Lots are ordered and delivered jointly for all three models

 Lots are ordered and delivered jointly for a selected subset of

models
 Lot Sizing with Multiple Products
43

 Demand per year

 DL = 12,000; DM = 1,200; DH = 120
 Common transportation cost, S = $4,000
 Product specific order cost
 sL = $1,000; sM = $1,000; sH = $1,000
 Holding cost, h = 0.2
 Unit cost
 CL = $500; CM = $500; CH = $500
 Delivery Options
44

 No Aggregation: Each product ordered

separately
 Complete Aggregation: All products delivered on
each truck
 Tailored Aggregation: Selected subsets of
products on each truck
 No Aggregation:
Order Each Product Independently
45

Litepro Medpro Heavypro

Demand per 12,000 1,200 120

year
Fixed cost / $5,000 $5,000 $5,000
order
Optimal 1,095 346 110
order size
Order 11.0 / year 3.5 / year 1.1 / year
frequency
Annual cost $109,544 $34,642 $10,954

Total cost = $155,140

 Aggregation: Order All Products Jointly
46

S* = S + sL + sM + sH = 4000+1000+1000+1000 =
$7000
n* = Sqrt[(DLhCL+ DMhCM+ DHhCH)/2S*]
= 9.75
QL = DL/n* = 12000/9.75 = 1230
QM = DM/n* = 1200/9.75 = 123
QH = DH/n* = 120/9.75 = 12.3
Cycle inventory = Q/2
Average flow time = (Q/2)/(weekly demand)
 Complete Aggregation:
Order All Products Jointly
47

Litepro Medpro Heavypro

Demand per 12,000 1,200 120

year
Order 9.75/year 9.75/year 9.75/year
frequency
Optimal 1,230 123 12.3
order size
Annual $61,512 $6,151 $615
holding cost
Annual order cost = 9.75 × $7,000 = $68,250
Annual total cost = $136,528
 Lessons from aggregation
48

 Aggregation allows firm to lower lot size

without increasing cost
 Complete aggregation is effective if product
specific fixed cost is a small fraction of joint fixed
cost
 Tailored aggregation is effective if product
specific fixed cost is a large fraction of joint fixed
cost
 Application of EOQ
49

 Retail businesses: Retailers that sell products with relatively stable

demand, such as clothing, electronics, or household items, may use the
EOQ model to determine the optimal order quantity and minimize
inventory holding and ordering costs.
 Wholesale distributors: Wholesale distributors that purchase products
in bulk from manufacturers and sell them to retailers may use the EOQ
model to determine the most cost-effective order quantity and ensure
timely delivery to customers.
 Service-based businesses: Service-based businesses, such as
consulting firms or software development companies, that require
office supplies or equipment with predictable demand may use the
EOQ model to optimize their ordering and inventory management
processes.
 Economic Production Quantity (EPQ)
50

Inventory thus builds up at a rate of p - d when production is on, and

inventory is depleted at a rate of d when production is off.
 Assumptions of EPQ Model
51

1. Only one item is involved.

2. Annual demand is known.
3. The usage rate is constant.
4. Usage occurs continuously, but production occurs
periodically.
5. The production rate is constant.
6. Lead time does not vary.
7. There are no quantity discounts.
 Production Order Quantity Model
52

Q = Number of pieces per order p = Daily production rate

H = Holding cost per unit per year d = Daily demand/usage rate
t = Length of the production run in days

Annual inventory Holding cost

= (Average inventory level) x
holding cost per unit per year

Annual inventory
= (Maximum inventory level)/2
level

Maximum Total produced during Total used during

= –
inventory level the production run the production run
= pt – dt
 Production Order Quantity Model
53

Q = Number of pieces per order p = Daily production rate

H = Holding cost per unit per year d = Daily demand/usage rate
t = Length of the production run in days

Maximum Total produced during Total used during

= –
inventory level the production run the production run
= pt – dt
However, Q = total produced = pt ; thus t = Q/p

Maximum Q Q d
inventory level = p –d =Q 1–
p p p

Maximum inventory level Q d

Holding cost = (H) = 1– H
2 2 p
 Production Order Quantity Model
54

Q = Number of pieces per order p = Daily production rate

H = Holding cost per unit per year d = Daily demand/usage rate
D = Annual demand

Setup cost = (D/Q)S

Holding cost = 1/2 HQ[1 - (d/p)]

(D/Q)S = 1/2 HQ[1 - (d/p)]

2DS
Q =
2

H[1 - (d/p)]
2DS
Q* =
H[1 - (d/p)]
 Equations
55

2 DS p
Economic Run Quantity, Q 
p H p d
Q
p
Cycle time 
d
Q
p
Run Time 
p
Q
p
I  ( p  d)
max p
 Example 3: EPQ
56

 A toy manufacturer uses 48,000 rubber wheels per year for its popular
dump truck series. The firm makes its own wheels, which it can
produce at a rate of 800 per day. The toy trucks are assembled
uniformly over the entire year. Carrying cost is $1 per wheel a year.
Setup cost for a production run of wheels is $45. The firm operates
240 days per year.
Determine the
a. Optimal run size.
b. Minimum total annual cost for carrying and setup.
c. Cycle time for the optimal run size.
d. Run time.
57
 When to Reorder
58

 Reorder point
 When the quantity on hand of an item drops to this
amount, the item is reordered.
 Determinants of the reorder point
1. The rate of demand
2. The lead time
3. The extent of demand and/or lead time variability
4. The degree of stockout risk acceptable to
management
 Reorder Point: Under Certainty
59

ROP d LT
where
d Demand rate (units per period, per day, per week)
LT Lead time (in same time units as d )
 Probabilistic Demand
60
 Reorder Point: Under Uncertainty
61

 Demand or lead time uncertainty creates the possibility

that demand will be greater than available supply
 To reduce the likelihood of a stockout, it becomes
necessary to carry safety stock
 Safety stock
 Inventory held in excess of expected demand to reduce the risk
of stockout presented by variability in either lead time or
demand rates.
Expected demand
ROP   Safety Stock
during lead time
 Risk of stockout=1-Service level

Safety stock reduces risk of The ROP based on a normal

stockout during lead time distribution of lead time demand

62
 How Much Safety Stock?
63

 The amount of safety stock that is appropriate

for a given situation depends upon:
1. The average demand rate and average lead time
2. Demand and lead time variability

3. The desired service level

Expected demand
ROP   z dLT
during lead time
where
z Number of standard deviations
 dLT The standard deviation of lead time demand
 Safety Stock Calculation
64

Given the demand distribution during Period of Uncertainty (POU)

1. Decide your tolerance to stockouts
Probability of Stockout = α
2. Service Level = (1- Probability of Stockout) = (1 - α)
3. Find the z-value
a. using Standard Normal Tables or
b. Using Microsoft Excel NORMINV(1 - α, 0, 1)
4. ROP = mean + z × standard deviation
5. Safety Stock = ROP - mean
 Example 8 (Pg. 571)
65

Suppose that the manager of a construction supply house

determined from historical records that demand for sand
during lead time averages 50 tons. In addition, suppose the
manager determined that demand during lead time could
be described by a normal distribution that has a mean of
50 tons and a standard deviation of 5 tons. Answer these
questions, assuming that the manager is willing to accept a
stockout risk of no more than 3 percent:
a. What value of z is appropriate?
b. How much safety stock should be held?
c . What reorder point should be used?
 Solution
66

Expected lead time demand = 50 tons

One-sided Z table
σdLT=5 ton
Risk=3%
a. using a service level of 1 − .03 = .9700, value
of z = +1.88
b. Safety stock = zσdLT = 1.88(5) = 9.40 tons.
c. ROP = Expected lead time demand + Safety
stock = 50 + 9.40 = 59.40 tons
67
 Reorder Point: Demand Uncertainty
68

If only demand is variable,

ROP d LT  z d LT
where
z Number of standard deviations
d Average demand per period (per day, per week)
 d The stdev. of demand per period (same time units as d )
LT Lead time (same time units as d )
Note: If only demand is variable, then  dLT  d LT
 Reorder Point: Demand Uncertainty
69
 Demand Rate Lead Time
Constant Constant
Variable Constant
Constant Variable
Variable Variable

70
 Quantity Discounts
71

 If quantity discounts are offered, the buyer must

weigh the potential benefits of reduced purchase
price and fewer orders that will result from
buying in large quantities against the increase in
carrying costs caused by higher average
inventories.
 TC=Carrying cost+ Ordering cost+ Purchasing
cost=(Q/2)H+(D/Q)S+PD; where P = Unit price
 Quantity Discount Models
72

 All-units discount schedule

 Incremental quantity discount
 Carload discount schedule
 Example 6: All-unit discount
73

 A store stocks toy cars. Recently, the store has

been offered a discount quantity schedule as
shown in the following slide. Furthermore, the
ordering cost is $49 per order, the annual
demand is 5000 race cars, and the inventory
carrying charge as a percentage of cost, I is 20%
or 0.2. What order quantity will minimize the
total cost?
 The quantity discount schedule
74

Discount Discount
Number Discount Quantity Discount (%) Price (P)
1 0 to 999 no discount $5.00
2 1,000 to 1,999 4 $4.80

3 2,000 and over 5 $4.75

 Steps in Analyzing a Quantity Discount
75

1. For each discount, calculate Q*

2. If Q* for a discount doesn’t qualify, choose
the smallest possible order size to get the
discount
3. Compute the total cost for each Q* or
adjusted value from Step 2
4. Select the Q* that gives the lowest total
cost
 Quantity Discount Model
76

Total cost curve for discount 2

Total cost
curve for
discount 1
Total cost $

Total cost curve for discount 3

b
a Q* for discount 2 is below the allowable range at point a
and must be adjusted upward to 1,000 units at point b

1st price 2nd price

break break

0 1,000 2,000
Order quantity
Example 6: Quantity Discount

Calculate Q* for every discount 2DS

Q* =
IP

2(5,000)(49)
Q1* = = 700 cars order
(.2)(5.00)

2(5,000)(49)
Q2* = = 714 cars order
(.2)(4.80)

2(5,000)(49)
Q3* = = 718 cars order
(.2)(4.75)
Quantity Discount

Calculate Q* for every discount 2DS

Q* =
IP

2(5,000)(49)
Q1* = = 700 cars order
(.2)(5.00)

2(5,000)(49)
Q2* = = 714 cars order
(.2)(4.80) 1,000 — adjusted
2(5,000)(49)
Q3* = = 718 cars order
(.2)(4.75) 2,000 — adjusted
 Solution (5000/700)*49 0.5*700*0.2*5

Annual Annual Annual

Disco Annual Unit Order
Product Ordering Holding Total
unt # Demand Price Quantity
Cost Cost Cost

1 5000 $5.00 $25,000 $350 $25,700

700 $350

2 5000 $4.80 $24,000 $480 $24,725

1,000 $245

3 5000 $4.75 $23,750 $950 $24,822.50

2,000 $122.50

Choose the price and quantity that gives the lowest

total cost
Buy 1,000 units at $4.80 per unit
 How Much to Order: FOI Model
80

 Fixed-order-interval (FOI) model

 Orders are placed at fixed time intervals
 Reasons for using the FOI model
 Supplier’s policy may encourage its use
 Grouping orders from the same supplier can produce
savings in shipping costs
 Some circumstances do not lend themselves to
continuously monitoring inventory position
 FOI Model
81

Expected demand
Amount  during protection  Safety  Amount on hand
to Order stock at reorder time
interval
d (OI  LT)  z d OI  LT  A
where
OI Order interval (length of time between orders)
A Amount on hand at reorder time
 Fixed Interval
82
 THE SINGLE-PERIOD MODEL
83

 Shortage cost is simply unrealized profit per unit.

 = =Revenue per unit-Cost per unit
 Excess cost pertains to items left over at the end of the
period.
 = =Original cost per unit-Salvage value per unit
 The goal of the single-period model is to identify the order
quantity, or stocking level, that will minimize the long-run
excess and shortage costs.
 Continuous Stocking Levels
84
 Example
85
86
87
 Discrete Stocking Levels
88
 Example
89
 Measuring Performance
90

 Service level is not a

convenient KPI
 Takes many cycles to
calculate
 Only concerned about lead-
time
 All or nothing
 Fill Rate Definitions
91

 Fill rate: The fraction of demand that is satisfied

or “filled” from inventory
 Example
92
 Example
93
 Fill Rate vs Service Level
94
 RFID in Inventory Management
95

 The RFID (Radio Frequency Identification) chip tags

contain bits of data, such as product serial number.
 Scanners will automatically read the information on an
RFID chip into a database, so the companies can keep
track of sales and inventory.
 In addition, RFID chips will assist in increasing the speed
of communication on a supply chain. The information
between parties will travel faster, which will improve the
responsiveness of buyers and ordering information on the
supply chain.
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 Real-time inventory monitoring: IoT sensors and RFID tags can be used to track
inventory levels in real-time, providing accurate and up-to-date information on stock
levels, location, and movement. This can help companies to optimize their inventory
levels, reduce stockouts, and improve order fulfillment.
 Predictive analytics: AI and machine learning algorithms can be used to analyze data
on historical sales trends, market demand, and other factors, to predict future demand
and optimize inventory levels accordingly. This can help companies to avoid
overstocking and reduce inventory carrying costs, while ensuring that they have enough
inventory to meet customer demand.
 Smart warehousing: Robotics and automation can be used to improve warehouse
efficiency, reducing the time and labor required to move and manage inventory. This can
help companies to improve inventory accuracy, reduce order fulfillment time, and
optimize warehouse space utilization.
 Collaborative supply chain: Industry 4.0 technologies can enable greater collaboration
and communication between supply chain partners, allowing for more efficient and
streamlined inventory management across the entire supply chain. This can help
companies to reduce lead times, improve order accuracy, and optimize inventory levels
across all stages of the supply chain.
 Robots used in the Warehouse

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 Operations Strategy
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 Improving inventory processes can offer significant cost

reduction and customer satisfaction benefits
 Areas that may lead to improvement:
 Record keeping
 Records and data must be accurate and up-to-date
 Variation reduction
 Lead variation
 Forecast errors
 Lean operations
 Supply chain management
 Rules of Inventory Management
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 Balance between inventory holding costs and stockouts: Inventory managers need to balance the
costs of holding inventory (such as storage, insurance, and obsolescence costs) against the cost of
stockouts (such as lost sales, production downtime, and customer dissatisfaction) to determine the
optimal inventory level.
 Use inventory classification systems: Inventory classification systems, such as ABC, XYZ, FSN, and VED
analysis, can help companies categorize inventory items based on specific criteria and determine the
appropriate level of control and attention needed for each category.
 Optimize order quantity: Companies should determine the optimal order quantity for each item
based on factors such as production costs, ordering costs, carrying costs, and demand variability, to
minimize the total cost of inventory.
 Monitor inventory turnover: Companies should monitor their inventory turnover ratio to ensure that
they are not holding excess inventory or experiencing stockouts. A high inventory turnover ratio
indicates that the inventory is being sold quickly, while a low inventory turnover ratio may indicate
excess inventory or slow sales.
 Keep accurate records: It is essential to maintain accurate records of inventory levels, purchases,
sales, and returns to ensure that the inventory management system is working effectively and
efficiently.
 Adopt technology: Companies can use technology, such as inventory management software, barcoding
systems, and RFID tracking, to automate inventory tracking, reduce errors, and improve efficiency.
 By following these inventory management rules, companies can optimize their inventory levels,
improve their cash flow, minimize inventory costs, and provide excellent customer service.
  UPD Manufacturing produces a range of health care appliances for hospital as well as for
home use. The company has experienced a steady demand for its products, which are
highly regarded in the health care field. Recently the company has undertaken a review of
its inventory ordering procedures as part of a larger effort to reduce costs. One of the
company’s products is a blood pressure testing kit. UPD manufactures all of the
components for the kit in-house except for the digital display unit. The display units are
ordered at six-week intervals from the supplier. This ordering system began about five
years ago, because the supplier insisted on it. However, that supplier was bought out by
another supplier about a year ago, and the six-week ordering requirement is no longer in
place. Nonetheless, UPD has continued to use the six-week ordering policy. According to
purchasing manager Tom Chambers, “Unless somebody can give me a reason for
changing, I’m going to stick with what we’ve been doing. I don’t have time to reinvent the
wheel.” Further discussions with Tom revealed a cost of $32 to order and receive a
shipment of display units from the supplier. The company assembles 89 kits a week. Also,
information from Sara James, in Accounting, indicated a weekly carrying cost of $.08 for
each display unit. The supplier has been quite reliable with deliveries; orders are received
five working days after they are faxed to the supplier. Tom indicated that as far as he was
concerned, lead-time variability is virtually nonexistent.
 1.Would using an order interval other than every six weeks reduce costs? If so, what
order interval would be best, and what order size would that involve?
 2. Would you recommend changing to the optimal order interval? Explain.

100
 Case: UPD Manufacturing
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Without demand variability, the fixed order interval order quantity

equation reduces to:
Q = d(LT + OI) – Available (because there is no safety stock)
Since Available = d x LT, the fixed order interval order quantity equation Q
further reduces to the following:
Q = d x OI = (89) (6) = 534 units
Therefore, ordering at six-week intervals requires an order quantity of
534 units.
On the other hand, the optimal order quantity is determined by using the
basic EOQ equation.
 Case: UPD Manufacturing
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The weekly total cost based on optimal order quantity EOQ is given below:

The weekly total cost based on six-week fixed order interval (FOI) order
quantity is given below:

Weekly savings of using EOQ rather than 6-week FOI is 26.69 – 21.35 =
$5.34
The annual savings = (52 weeks) ($5.34 /week) = $277.68
The percentage of savings is approximately 25% (5.34 / 21.35). Therefore if FOI approach is
used with other parts or components as well, the total potential loss may be significant.
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