29-Oct-15

What is inventory ?

Logistics Concepts & Planning

Unit 5 - Topic : Inventory Decisions

Idle stock of items stored to meet future demand

Stock of raw materials, in-process, finished,
packaging materials, tools, spares etc
Buffer stock between each stage of supply chain
Resources of economic value can be converted to
cash

Inventory- Introduction
Inventory refers to the stock of materials of any kind
stored for future use, mainly in the production
process.
Semi-finished goods, which are awaiting use in the
next process, or finished goods, which are waiting
for sale, are also included in this broad category.
But these are practically idle resources.
Thus inventories are materials / resources of any
kind having some economic value, either awaiting
conversion or use in future.

Introduction

Inventory management can be defined as the

sum total of those related activities essential for
the procurement, storage, sale, disposal or use
of material.

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29-Oct-15

Role of Inventory in Competitive Strategy

If a companys competitive strategy requires a very
high level of responsiveness, a company can use
inventory to achieve this responsiveness by locating
large amounts of inventory close to the customer.
A company can also use inventory to make it more
efficient by optimizing inventory through centralized
stocking.

Types of Inventory
Raw material
Purchased but not processed

Work
Work--in
in--process
Undergone some change but not completed
A function of cycle time for a product

Maintenance/repair/operating (MRO)
Necessary to keep machinery and processes
productive

Finished goods

Role of Inventory in Competitive Strategy

The latter strategy would support a competitive
strategy of being a low-cost producer.
The trade-off implied in the inventory driver is
between the responsiveness that results from more
inventories and the efficiency that results from fewer
inventories.

Functions of Inventory
Decoupling the manufacturing process
Storing resources
Managing irregular supply & demand
Taking advantage of quantity discounts
Avoiding stock out and shortages

Completed product awaiting shipment

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29-Oct-15

Inventory Cost

Procurement cost/ Ordering cost

Procurement cost is the total cost incurred during the ordering of
an item.
When an order is placed, the company has to incur certain costs at
the time of order.
These costs are not connected with the quantity ordered but
primarily with physical activities required to process the order

Costs of Inventories

Procurement
Cost

Inventory
Carrying Cost

Out-of-Stock
Cost

Incremental
Cost

These costs include :

- costs like handling and transportation costs,
- stationery costs,
- costs incurred for inviting quotations and tenders etc.
The more is the frequency of order , the more are these costs.

Carrying cost./ Holding Cost

The cost of carrying the inventory is the real out of
pocket cost associated with having inventory on hand,
such as :
- warehouse charges, insurance,taxes, lighting, losses
due to handling,cost of storage, spoilage, breakage etc,
and
- another important component of carrying cost is the
amount of interest lost due to the investment
If the production quantity is large, the inventory
carrying cost will be high as more inventory will have to
be carried over in the store.

Storage Costs.
Inventory holding costs may be divided into storage space costs
and material handling costs.
Inventory can be placed in four potential types of facilities:
company storages, public storages, rented storages, and
inventory in shipping areas.
Storage space costs include public, plant, rented, and company owned
warehouses

The costs for company-owned storages and the associated

material handling equipment are fixed and are not part of the
inventory carrying costs.

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29-Oct-15

Out of stock costs

Incurred when a customer places an order and the order cannot be
filled from the inventory to which it is normally assigned.

Cost are divided into :

Lost sales costs
- Cost of profit would have made if the sale had occured
- Higher substitute in market, higher is cost .Cost is intangible.

Back-order costs.
- Customer shall wait for his order to be filled so that sale is not lost but
only delayed.Cost is measurable and tangible.
- Eg: Non-availability of raw material.

Incremental cost
The final cost factor involved in making inventory decisions is incremental
cost

Incremental costs arise due to any change in the actual cost, actual
expenditure or profit that occurs as a result of an inventory management
decision.

For example, if the increase in total inventory unit volume causes increase
in the relevant costs from Rs.120,000 to Rs.150,000, then the incremental
cost of the decision to stock more units is Rs.30,000.
Paying for overtime, hiring and training cost for more employees,
temporary help and obtaining additional computer terminals due to an
increase in the order volume are included in the incremental costs.

Continue..

Need to hold Inventory

1. To keep down productions costs
Often it is costly to set up machines so production runs need to be
as long as possible to achieve low unit costs. It is essential,
however, to balance these costs with the costs of holding stock.

2. To accommodate variations in demand

The demand for a product is never wholly regular so it will vary in
the short term, by season, etc, To avoid stock-outs, therefore,some
level of safety stock must be held.

3. To take account of variable supply leads

Additional safety stock is held to cover any delivery delays from suppliers.

4. Buying costs
There is an administrative cost associated with raising an order, and to
minimize this cost it is necessary to hold additional inventory. It is
essential to balance these elements of administration and stock-holding,
and for this the economic order quantity (EOQ) is used.

3. To account for seasonal fluctuations

These may be for demand reasons whereby products are popular
at peak times only. To cater for this while maintaining an even level
of production, stocks need to be built up through the rest of the
year. Supply variations may also occur because goods are produced
only at a certain time of the year.

5. To take advantage of quantity discounts

Some products are offered at a cheaper unit cost if they are bought in
bulk.

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29-Oct-15

Continue..
7. To allow for price
fluctuations/speculations

The price of primary products can fluctuate for a variety of

reasons, so some companies buy in large quantities to cater for
this.

8. To help the production and distribution

operations run more smoothly
Here, stock is held to decouple the two different activities.

Continue..
10. To minimize production delays caused
by lack of spare parts
This is important not just for regular maintenance, but especially
for breakdown of expensive plant and machinery. Thus spares are
held to minimize plant shutdowns.

11. Work in progress

This facilities the production process by providing semi-finished
stocks between different processes.

9. To Provide Customers with immediate

service
It is essential in some highly competitive markets for companies to
provide goods as soon as they are required.

Types of Inventory
Inventory in Pipeline (in transit) - inventory in transit between
echelons of the supply channel.

Types of Inventory
Inventory for hedging against the variability and uncertainty in
demand - this extra measure of inventory or safety stock, is in addition
to the regular stock that is needed to met average demand and average
lead-time conditions.

Inventory due to speculation Raw materials such as copper, gold

and silver are purchased as much for price speculation as they are to meet
operating requirements.

Inventory of perishable in nature or of risk of obsoleteness where the products are of high value, perishable or easily stolen, special
precautions must be taken to minimize the amount of such stock

Regular or cyclical inventory- inventories necessary to meet the

average demand during the time between successive replenishments.

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29-Oct-15

Nature of Demand (Types of Demand Patterns)

Nature of Demand (Types of Demand Patterns)

The nature of demand over time plays a significant role in

determining how we treat the control of inventory levels.

Lumpy or erratic demand pattern demand may be perpetual but

there are periods of little or no demand followed by periods of high
demand.. Items in inventory are typically a mixture of lumpy and
perpetual demand items.(Eg: Construction equipments)

Perpetual Demand many products have a selling life that is

sufficiently long to be considered infinite for planning purposes. Even
though brands turnover at the rate of 20% per yr, a life cycle of 3 to 5 yrs
can be long enough to justify treating them as perpetual demand
pattern.(Eg: Canned drinks)

Terminating demand pattern- products whose demand terminates at

some predictable time in the future, which is usually longer than 1 yr.
Inventory planning here involves maintaining inventories to just meet
demand requirements, but some reordering within the limited time
horizon is allowed. (Eg: Pharmacy Products)

Seasonal Demand- inventories that are held to meet such a demand

pattern usually cannot be sold off without deep price discounting. (Eg:
Christmas trees )

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