Chapter 5: Inventory Management PDF

Inventory refers to the stock of materials, goods, or assets held by an organization for future use, sales, or processing. It plays a crucial role in systems involving supply, manufacturing, and distribution and is common in various sectors like businesses, hospitals, farms, and governments. In simp...

Inventory refers to the stock of materials, goods, or assets held by an organization for future use, sales, or processing. It plays a crucial role in systems involving supply, manufacturing, and distribution and is common in various sectors like businesses, hospitals, farms, and governments. In simple terms, inventory includes: - Materials or goods on hand at a specific time. - A detailed list of physical assets. - The quantity of items available. - The value of stock held (in financial terms). From a logistics perspective, inventory consists of raw materials, in-process items, finished goods, packaging, tools, equipment, and spare parts stored to meet future demand or distribution needs. Why do we carry inventories? - ► For meeting production requirements ► Supporting operational requirements ► Customer service considerations and Hedge against future expectations. Characteristics of Inventory 1. Irreversible Investment: Once funds are used to purchase inventory, they cannot be repurposed for other uses, making inventory investments risky. Risks include theft, obsolescence, and depreciation. 2. Risk Varies by Role in the Supply Chain: Manufacturer: Faces long-term risks, starting from raw materials to finished goods. Risks also include transferring inventory to warehouses near wholesalers and retailers. While the product range may be narrow, the risk is deeper and lasts longer. Wholesaler: Handles multiple product lines, buys in bulk, and sells in smaller, assorted lots to retailers. Risks increase with more product lines and seasonal items, as they require stocking well in advance of sales. … The Need for Inventory and Its Control Inventory is essential for manufacturing organizations to support production and operations while meeting economic and customer demands. Key reasons include: 1. Meeting Production Needs:*Ensures raw materials, components, and parts are available to maintain continuous production. 2. Operational Support :Provides spare parts, lubricants, and maintenance supplies needed for smooth operations and repairs. 3. Customer Service: Helps maintain stock for after-sales support, improving customer satisfaction and competitive advantage. 4. Speculation: Allows holding large inventories for potential benefits, though not critical for industrial purposes. 5. Precaution:Addresses uncertainties in demand and supply, reducing delays and extra costs. Importance of Inventory Management Inventory management is crucial in supply chain operations due to the following factors: 1. Resource Optimization: Limited resources like finance and space encourage reducing inventory levels to maintain profit margins. 2. Modern Practices: Concepts like Just-in-Time (JIT) and lean manufacturing minimize the need for inventory as a safety buffer. 3. Improved ROI: Companies focus on core business investments, as inventory and working capital provide lower returns. 4. Role of IT: Advanced information technology helps manage inventory efficiently, reducing stock levels through better data and planning. Types of Inventory a) Raw materials and production inventories: Raw materials and other supplies, parts and components, which enter into the product during the production process and usually form part of the product. b) In-process inventories; Semi-finished, work-in-progress and partly finished products formed at various stages of production. c) MRO inventories: Maintenance, repairs and operating supplies consumed during production process and usually not a part of the product itself (e.g.: oils and lubricants, machinery and plant spares, tools and fixtures etc.) d) Finished goods inventories: Completed products ready for sale. e) Movement or transit inventories: Arise, as there is time involved while moving stocks from one place to another. f) Let-size inventories: Large quantities than necessary are stocked to keep costs of buying, receiving, inspection and handling low. g) Fluctuation inventories: Maintained as a cushion against unpredictable fluctuations in demand. h) Anticipation inventories: Inventories carried to meet predicable changes in demand. Inventory Control Inventory control is the process of implementing inventory management policies through specific procedures. It can be carried out in two ways: 1. Perpetual Control: Inventory is reviewed daily to determine replenishment needs. This method requires accurate tracking of all stock-keeping units and computer assistance for proper management. 2. Periodic Review: Inventory is reviewed at regular intervals, such as weekly or monthly, to assess stock levels and replenishment needs. Types of Selective Inventory Control Techniques: 1. ABC Analysis: - Items are classified based on usage value: - A items: Few in number but account for 60-70% of inventory cost. - B items: Moderate in number and cost 20-30% of inventory. - C items: Numerous but contribute less than 10% to inventory cost. 2.VED Analysis: - Items are classified as Vital, Essential, or Desirable based on their importance for operations. - High-value, critical items are reviewed continuously and ordered in small quantities, while low-value, less critical items are reviewed periodically and ordered in bulk. 3. SAP Analysis: - Categorizes items as Scarce, Available, or Plenty to guide procurement decisions based on supply limitations or potential obsolescence. 4. FSN Analysis: - Categorizes items as Fast, Slow, or Normal movers based on consumption patterns, helping determine procurement priorities. 5. SDE Classification: - Classifies items by availability: - S items: Scarce and require imports. - D items: Difficult to obtain. - E items: Easily available. Inventory Planning Models (A)EOQ (Economic Order Quantity) is a fundamental inventory management formula used to determine the optimal quantity of stock to order. The goal is to minimize the total inventory costs, which include: 1. Ordering Costs: Costs associated with placing an order, such as administrative expenses or shipping fees. 2. Holding Costs: Costs related to storing inventory, including storage space, insurance, depreciation, and obsolescence. EOQ Formula: Where:  D = Demand (units required per year)  S = Ordering cost per order  H = Holding cost per unit per year Assumptions of EOQ: 1. Demand is constant and predictable. 2. Lead time (time between placing and receiving an order) is fixed. 3. Ordering and holding costs are constant. 4. No stockouts (inventory shortages) are allowed. 5. Each order is received in a single delivery. Benefits of Using EOQ:  Helps avoid overstocking and understocking.  Reduces overall inventory costs.  Simplifies inventory management decisions. (B) Materials Requirement Planning (MRP) - MRP is a system that schedules production and raw material purchases based on finished goods requirements. It takes into account: - Production schedule - Structure of the production system - Current inventory levels - Lot sizing for operations. - The goal is to ensure that materials are available for production at the right time. (C) Distribution Requirement Planning (DRP):* - DRP is an advanced planning method that coordinates inventory across multiple distribution stages. Unlike MRP, which is driven by production schedules, DRP is based on customer demand. - DRP considers factors like: - Demand patterns - Safety stock levels  - Order quantities - Re-order points - Average performance cycle length. - Benefits of DRP: - Improved customer service and on-time deliveries - Efficient marketing for high-demand items - Reduced inventory levels and carrying costs - Less warehouse space needed - Lower customer freight costs - Better budgeting through scenario-based planning. Just-In-Time (JIT) is a production and inventory management strategy aimed at reducing waste and improving efficiency by producing or acquiring goods only when they are needed in the production process. The key principle is to align production schedules with customer demand, minimizing excess inventory and reducing storage costs. 1. Inventory Reduction: JIT minimizes inventory levels, reducing storage and holding costs. 2. Demand-Driven Production: Products are manufactured or procured only when there is a demand for them, often based on customer orders or forecasts. 3. Waste Minimization: Focuses on eliminating waste in all forms (e.g., excess materials, time, and labor) to improve overall efficiency. 4. Continuous Improvement: JIT encourages ongoing improvements in processes, quality, and supplier relationships. Benefits of JIT:  Lower Inventory Costs  Reduced Waste  Improved Product Quality  Faster Response to Customer Needs