Piggyback and fishyback are forms of what logistics element

Operation Methods In Value Chain Mgmt

CHAPTER 7 Managing Inventories

age1image814002384 age1image814002800

MGMT 400 Operations Methods in Value Chain Management

age2image814392688 age2image814404672

Learning Objectives

1. Define the different types and roles of inventory

2. Explain the financial impact of inventory

3. Explain and compute measures of inventory performance

4. Describe practical techniques for inventory planning and management

5. Explain how inventory impacts and must be managed across the entire supply chain

age2image814473536 age2image814449216

7

–

2

age3image814371408 age3image814367232

Chapter 7: Lists and Groupings

age3image814514000

Types of Inventory

1. Raw Materials

2. Component Parts

3. Work in Process (WIP)

4. Finished Goods

5. Maintenance, Repair and Operating

Supplies (MRO)

6. Transit

Roles of Inventory

1. Balancing Supply and Demand

2. Buffering Uncertainty in Demand or

Supply

3. Enabling Economies of Buying

4. Enabling Geographic Specialization

Costs Relayed to Inventory 1. Product Costs 2. Holding (Carrying) Costs 3. Order and Setup Costs 4. Stockout Costs (Shortage)

Measures of Inventory Performance 1. Inventory Turnover 2. Days of Supply 3. Service Level

age3image814563968 age3image814564240 age3image814564576 age3image814564976 age3image814565248

7

–

3

age4image814640208 age4image814636976 age4image814637200

Definitions

• Inventory is the supply of items held by a firm to meet demand

• Inventory specific to manufacturing (items contributing or becoming a firm’s output) :

– Raw materials – Component parts – Work-in-Process – Finished products

• Inventory in all types of organizations: – MRO inventory (maintenance, repair, operating

supplies) –Transit Inventory

age4image814684656 age4image814685136 age4image814685408

7

–

4

age5image805200480 age5image805238112

Types of Inventory

• Inventory: supply of items held to meet demand

age5image805243792 age5image805201440

Suppliers

age5image805232832 age5image805193760 age5image805229584 age5image805194176 age5image805198240 age5image805253104 age5image805277472 age5image805282464 age5image805282736 age5image805230368 age5image805283744 age5image805284016

Raw Material

Components Work in

Process (WIP)

Transportation

MRO Maintenance, repair & operating supplies

age5image805217456 age5image805218256 age5image805265024 age5image805266032 age5image805182960 age5image805286704 age5image805286912 age5image805287120 age5image805287920

Finished Goods (FGI)

age5image779688912 age5image779680768 age5image779678048

: Transit Inventory

age5image779310208

Distribution

age5image779277088 age5image779694592 age5image779386848

Customers

age5image779723632

7

–

5

age6image805151280 age6image805080576

Types of Inventory

Which type of inventory could the following products be? Examples?

– Oranges • Finished product (orchards)

• Raw material inventory (orange juice manufacturer)

• Work-in-process (company that sells ready-make fruit salads for grocery stores)

• Maybe MRO in an office environment as part of “office supplies”?

– Computer Processor • Component part (Dell, Playstation production, etc.)

• Finished products (Intel, AMD) • MRO at a school

age6image805094144 age6image805094560 age6image805094976 age6image805095264

7

–

6

Roles of Inventory

1. Balancing Supply and Demand

2. Buffering Uncertainty in Demand of Supply

3. Enabling Economies of Buying

4. Enabling Geographic Specialization

age7image797397808

age7image797398080 age7image797398672

Roles of Inventory

• Balancing (timing of) supply and demand: decouples differences in supply and demand requirements

• Buffers against uncertainties: variation in supply and demand are managed with safety (buffer) stock

• Economies of Buying: price discounts or reduced shipping costs

• Geographic Specialization: supply and demand locations vary

age7image797425616 age7image797425904

7

–

7

Roles of Inventory

1. Balancing Supply and Demand

2. Buffering Uncertainty in Demand of Supply

3. Enabling Economies of Buying

4. Enabling Geographic Specialization

age8image797570480

age8image797570752 age8image797571344

Roles of Inventory

• Balancing (Timing of) Supply and Demand

–In most cases, it is beneficial to produce batches of products before demand realizes. (Exception?)

–Customers expect many products to be available at the time they decide to purchaseavailability of product

–Seasonality of demand or supply:

• Customers may be interested in products only at certain time of year, but production runs all year.

• Some products can only be produced at certain times of year, but are demand all year long (agriculture).

age8image797616736 age8image797617024 age8image797617440 age8image797617728

7

–

8

Roles of Inventory

1. Balancing Supply and Demand

2. Buffering Uncertainty in Demand of Supply

3. Enabling Economies of Buying

4. Enabling Geographic Specialization

age9image797753072

age9image797753344 age9image797753936

Roles of Inventory

• Buffers against uncertainties: variation in supply and demand are managed with safety (buffer) stock

Demand:

–Typically, it is impossible to know exact future demand. –If demand is higher than inventory, customers cannot make

the purchase.shortage costs (explained later)

Supply:

–Uncertainty concerning how long until replenishments arrive

–Without safety stock, your operations might have to be stopped if replenishment is delayed.

age9image797793792

safety (or buffer) stock is extra inventory held to guard against uncertainty in supply or demand

age9image797803312

7

–

9

Roles of Inventory

1. Balancing Supply and Demand

2. Buffering Uncertainty in Demand of Supply

3. Enabling Economies of Buying

4. Enabling Geographic Specialization

age10image797914688

age10image797914960 age10image797915552

Roles of Inventory

• Economies of buying: price discounts or reduced shipping costs

–Economies of Scale at the supplier lead to a decreasing price per unit as purchase volume increases.

–Economies of Scale lead to lower unit transportation costs as shipment size increases.

–Speculative buying

• Buy large amounts when prices are low in anticipation of price increases (jet fuel, heating oil, silicon,...)

age10image797334048 age10image797334336

7

–

10

Roles of Inventory

1. Balancing Supply and Demand

2. Buffering Uncertainty in Demand of Supply

3. Enabling Economies of Buying

4. Enabling Geographic Specialization

age11image779982224

age11image779982496 age11image779983088

Roles of Inventory

• Geographic Specialization: supply and demand locations vary

–Demand for most products exists virtually everywhere.

–Production locations are typically few, so larger quantities have to be produced, shipped, and stored.

age11image780004464 age11image780004752 age11image780005168

7

–

11

Costs Related to Inventory

1. Product Costs 2. Holding Costs 3. Order and Setup 4. Stockout Costs

age12image779835632

age12image779835968

Financial Impact of Inventory

• Product Costs: amount paid to suppliers for the products that are purchased

• Holding (Carrying) Costs – Usually stated as a percentage of the value of the inventory

– Capital costs

• Cost of the capital or opportunity cost

– Storage costs

• Storage and warehouse management, cost of space, workers, and equipment

– Risk costs

• Obsolescence, deterioration, spoilage, shrinkage • Taxes and insurance • Material handling, tracking, damage, and management

7

age12image779881152

–

12

Costs Related to Inventory 1. Product Costs 2. Holding Costs 3. Order and Setup

4. Stockout Costs

age13image779598384

age13image779598720 age13image779599312

Holding (Carrying) Costs

Annual inventory holding costs can be estimated as a percentage of inventory value:

–Cost of Money 6% - 12% –Taxes 2% - 6% –Insurance 1% - 3% –Warehouse & Handling Expenses 2% - 5% –Clerical & Inventory Control 3% - 6% –Obsolescence 6% - 12%

–Deterioration & Pilferage 3% - 6%

Annual holding costs can easily be 25% of the total value of inventory

age13image779633440 age13image779633792

7

–

13

Costs Related to Inventory 1. Product Costs 2. Holding Costs 3. Order and Setup

4. Stockout Costs

age14image779506336

age14image779506672

Financial Impact of Inventory

• Ordering and Set-up Costs –Purchased items: placing and receiving orders –Make items: set-up or change-over between items

Cheetos Snack Production

age14image779457216 age14image779457696 age14image779457984 age14image779458272

7

–

14

Costs Related to Inventory 1. Product Costs 2. Holding Costs 3. Order and Setup

4. Stockout Costs

age15image779374368

age15image779374704

Financial Impact of Inventory

• Stockout (Shortage) Costs –Lost sales or customer loyalty –Schedule disruptions for downstream partners –Expediting/backorder costs

Japan Tsunami 2011

age15image779363888 age15image779364368

Empty Store Shelves

age15image779366752

7

–

15

age16image798864416 age16image798855024

Measures of Inventory Performance

• Inventory turnover: ratio between average inventory on-hand and level of sales

Three definitions = Cost of goods sold / Average inventory at cost

= Net sales / Average inventory at selling price = Unit sales / Average inventory in units

With an annual cost of goods sold of $500M and average inventory of $80M.

Inventory turns = $500/$80 = 6.25 turns per year

age16image798909872 age16image798910288

The number of times average inventory is sold and replaced annually

age16image798917088

7

–

16

age17image798973728 age17image798975392

Measures of Inventory Performance

• Advantages of high inventory turnover – “Fresh” inventory from high sales – Less risk of obsolescence or need to mark down – Reduced total inventory holding costs – Lower asset investment and higher productivity

• Dangers of high inventory turnover – Lower sales if desired inventory is not available

(stockouts)

– Increased costs from missing quantity requirements (loss of economies of scale)

age17image798756368

– Increased ordering costs 7

age17image798759712

–

17

age18image798713792 age18image798718400

Measures of Inventory Performance

• Days of Supply: length of time operations can be supported with inventory on-hand

– Based on demand forecasts or input requirement forecasts (depending on type of operations)

– More meaningful for specific items than overall inventory holdings

age18image798556576

Days of Supply = Current Inventory / Daily demand

age18image798562112

Average Days of Supply = Average Inventory / Daily Demand

If current inventory is 2,000 and daily demand is 25/day:

Days of Supply = 2,000/25 = 80 days

7

age18image798578128

–

18

age19image737950560 age19image737935536

Measures of Inventory Performance

• Service level measures the ability to meet customer demand without a stockout.

– Different ways to measure service level

• 1: Percentage of customers whose order you can satisfy without delay using your inventory

• 2: Percentage of demand volume you can deliver without delay using your inventory

• Example:

– Assume you have 100 bottles of beer in stock. 99 customers arrive and order 1 bottle each. Then the 100th customer arrives and orders 101 bottles of beer, but you only have 1 left.

age19image738015312 age19image738015856 age19image738016128

• Service level (type 1): 99/100 = 99% • Service level (type 2): 100/200 = 50%

7

age19image738024288

–

19

age20image738096560 age20image738093152

Managing Inventory

• Basic decisions involve:

– How much to order

• How much inventory should be held? • Too much inventory very high holding costs • Too little inventory very high stockout costs

– When to order

– Where in the organization / supply chain should inventory be held?

• Important Tools

– Inventory item classification – Information systems and accurate inventory records

7

age20image738145456 age20image738146000

–

20

age21image798672560 age21image798668944

Managing Inventory

Managing inventory involves managing: • Cycle stocks

– Average inventory needed to meet demand between the times the firm orders more inventory

• Safety (or buffer) stocks • Inventory locations • Inventory information systems

age21image798534160 age21image798534576

7

–

21

age22image798434032 age22image798431040

Managing Inventory: Cycle Stocks

• Primary driver of cycle stock size is the order quantity

• Lower optimal order quantity is achieved with:

–Lower ordering or setup costs –Reducing quantity discounts with always lowest price

• How can ordering or setup costs be reduced?

–Online ordering –Automated payments –Decreasing setup time

• Lowering order costs will lower the order quantity, which will lead to decline in cycle stock

7

age22image798485104 age22image798485520 age22image798485936 age22image798486144 age22image798487216

–

22

age23image798356384 age23image798352112

Managing Inventory: Safety Stocks

• Safety stock is required because of uncertainty and variability, so reducing variability would reduce required safety stock levels

• Variability and uncertainty can be reduced through:

– Better forecasting (Chapter 12) – Reduced lead (shipping) times – Better supplier relationships – Changes in transportation method

age23image798201328 age23image798201744 age23image798202016 age23image798202288 age23image798202704

7

–

23

age24image738081024 age24image738073456 age24image738073680 age24image738091408

Item Classification

• ABC analysis: ranking of inventory by importance allows firms to focus on critical inventory items.

–Determine the percentage of the total usage or sales (or other criteria of importance) by each item and rank the items from highest to lowest percentage

• Different policies for different items:

–Safety stock policy

• A items have higher safety stock levels than B items • Little or even no safety stock for C items

–Purchasing policy

• More purchasing effort warranted for A items than B or C items

–Inventory audits

age24image803723984

• More frequent inventory check for A items than B or C items

7

–

ABC Analysis

age24image803733312

–

24

age25image797262336 age25image797259504

Managing Inventory: Locations

Where a firm locates inventory impacts the cost and amount of required inventory

• Distribution centers can reduce the total inventory level

– While providing fast reliable service to stores and downstream locations

– Also allows for offering of more products without accumulating too much inventory

• Transshipment and inventory sharing policies can reduce overall inventory

– Can quickly get parts from other locations

age25image796995904 age25image796996320 age25image796996736 age25image796997024

7

–

25

age26image797063088

Inventory Information Systems and Accuracy

• Inventory information systems provide data for inventory analysis and require unique product identifiers.

• Finished Products:

–Use the UPC (Universal Product Code) barcode in North America

• Raw Materials and Components:

–No standardized systems developed yet, part number vary between companies

–Part Number: unique identifier used by a specific firm

age26image797110496 age26image797110784

7

–

26

age27image797187648

Inventory Information Systems and Accuracy

• Inventory Record Accuracy

· – Human errors or accidents can lead to costly inaccuracies of inventory levels

· – Cycle Counting: inventory is physically counted (audited) on a routine schedule

• ABC analysis used to determine audit cycles • Cycle through products so that “a little is checked every day”

· – Point-of-sale scanning (UPC barcodes) and RFID tags can increase accuracy

age27image796958640

Any system is only as good as the data that it contains!!

age27image796965088

7

–

27

age28image800853296

Managing Inventory Across the Supply Chain

• Inventory Value:

–As an item moves in the supply chain, value is constantly being added to it

• Finished good has a value that is much greater than the sum of its individual parts

–Items are more expensive to stock further downstream in the supply chain (or conversely, less expensive to stock upstream)

• Bullwhip Effect:

–Variation increases upstream in the supply chain (from consumer to manufacturers)

age28image800907360

7

–

28

age29image800955984 age29image800953040

Bullwhip Effect

age29image800963568 age29image800964112

Increasing Variability of Orders up the Supply Chain

7

age29image800969824

–

29

age30image801007568

Managing Inventory Across the Supply Chain

• Vendor-managed Inventory (VMI) : the vendor is responsible for managing inventory for the customer

–Vendor monitors and replenishes inventory balances –Customer saves holding costs –Vendor has higher visibility of inventory usage

• Collaborative planning, forecasting and replenishment (CPFR)

–Supply chain partners sharing information to jointly develop their production, distribution, and replenishment plans

age30image801066256

7

–

30

age31image801092864 age31image801018080

Managing Inventories Summary

1. Multiple types and roles of inventory

2. Inventory is an asset, and has multiple costs

3. Multiple performance metrics such as inventory turns, days of supply, and service level

4. An inventory policy determines how much and when to order

5. Lowering order costs will reduce cycle stock

6. Reducing variability/uncertainty will reduce safety stock

7. Bullwhip effect describes increasing upstream variation for supply chain partners

age31image800737280 age31image800737824

7

–

31

age1image779700416 age1image779736640 age1image779736864

CHAPTER 11 Logistics Management

age1image779740528 age1image779740944

MGMT 400 Operations Methods in Value Chain Management

age1image779746160

11

–

1

age2image798375536 age2image798371856

Learning Objectives

1. Explain logistics and major managerial decisions made by logistics managers

2. Describe impact of consolidation on cost

3. Describe carrier mode selection process

4. Explain roles and activities of warehousing and distribution

5. Explain importance of packaging and materials handling

6. Explain network design decisions

7. Describe benefits of integrated service providers

age2image798427136 age2image798427488