Session 1 - Inventory Policies
1.1 types and classification of inventory in manufacturing and service environments.
1.2 influence of aggregate-level inventory policies affecting and reflecting trade offs among customer service, production efficiency, and inventory obj.
1.3 adoption or selection of item inventory policies consistent with inventory investment goals.
1.1 types and classifications of inventories
1.1.1 Types of manufacturing inventory:
-Raw materials
-WIP
-FG and distribution inventories (product sold as a completed item.
-Maintenance, repair and operating supplies (MRO)
The first 3 are based on the flow of materials from suppliers through manufacturing and into the distribution system.
WIP:
high level in traditional intermittent job shop and batch.
lower level in lean JIT.
in production layouts (continuous flow and cellular) and methods facilitate a continuous one-piece flow of material from raw to Finished Product that is synchronized with customer demand or pull rate.
MRO supplies support general operations and maintenance.
Subclassifications of manufacturing inventory
Excess: product that exceeds the amount necessary to achieve the desired throughput rate at a constraint or to achieve the desired due date performance.
Inactive
Obsolete: is not used or sold at full Value because the products are no longer produced or supported. Disposing of the inventory means that its costs cannot be recovered through revenues, which means lost revenue and reduced profit. Obsolete parts are removed from inventory by engineering change orders.
Scrap: is outside of specifications and is not practical to rework. Scrap can be a result of the nature of the materials and manufacturing process. A scrap factor should be built into determining material requirements.
Distressed: product that are damaged or close to their expiration date and cannot be sold at full price
Hedge: is a form of inventory buildup to buffer vs some event that may not happen.
Buffer
Inventory buffers
Service inventory
Goods and services
Hard and perishable inventory: 2 types of hard goods are: a) Raw material transformation, such as restaurant meals, custom clothing, and baked goods. b) Materials that are not transformed during the service transaction, such as goods bought from a retail store, automobile parts installed by an automotive repair shop, or replacement parts used in a surgical transplant operation.
Service inventory management and costs
1.2 aggregate inventory policies
The 2 types of inventory policies are:
-Aggregate-level policies are associated with the impact of inventory management on the overall financial performance of the company.
-Item-level policies are associated with materials and operations planning and execution.
1.2.1 Resolving sales and operational conflicts
a. Business strategy choices
In any manufacturing organization, different functions have different and following objs:
High customer service levels - high product variety and quality, and shorter lead times and production flexibility to respond to customer orders
Efficient plant operations - long production runs to minimize changeovers and reduce per-unit production costs; high raw material inventory levels at low costs.
Minimum inventory investment - low levels of inventory and high inventory turns (or turnover).
b. Priority and capacity planning choices
c. Resolving conflicts: in lean and theory of constraints, production approaches enable more than one objective to be achieved by increasing supply chain velocity through a number of methods, including:
-Eliminating wasteful movements and procedures in the production process and fostering a culture of employee empowerment.
-Ensuring a continuous flow of production from raw material to FP by buffering critically constrained resources to maintain full utilization.
-Establishing supplier relationships and supply management practices that synchronize delivery of raw materials to the point of use at time of production.
1.2.2 Inventory Valuation
MRO supplies are expenses and not assets!
Cost accumulation methods:
Project cost
Job order
Process costing
Cost of Goods Sold (Cost of Sales)
Types of inventory valuation (accounting methods)
Average cost
Standard cost
Actual cost
Transfer cost and price
FIFO: during an increasing costing period, FIFO tends to keep the total inventory value on the balance sheet close to the current market value and would charge the cost of goods sold at the older, lower, cost value. Do exercises!
LIFO: during an increasing costing period, LIFO tends to understate the total inventory value on the balance sheet and would charge the cost of goods sold at values close to the current market value. Do exercises!
1.2.3 Inventory performance metrics
Aggregate inventory metrics:
NB. High inventory turns and low days of supply are desirable because they indicate lower levels of inventory relative to sales per period (annual, monthly,...)
-Inventory turns: annual cost of goods sold / average inventory in dollars
-Days of supply = inventory on hand / average daily usage where average daily usage = annual sales / number of days in one year. Definition: It measures the relationship bw usage (sales) and inventory.
-Cash-to-cash cycle: days' supply of inventory + accounts receivable days - accounts payable days. Definition: It is the number of days bw paying for the raw materials and getting paid for the product.
Customer service metrics: operational and customer satisfaction metrics
1.3 item inventory policies
This section describes 2 important inventory policies and techniques in DSP in different production environment: lot sizing and safety stock.
1.3.1 lot sizing
1.3.1.1 Lot sizing decision factors
Order quantities constraints and modifiers:
-Order qty constraints provide upper (to control inventory investment costs) and lower (to prevent numerous orders for low-cost items) order qty limits.
-order qty modifiers enable necessary adjustments to quantities that might be outside the order constraints.
Order quantities in production and service environments
Costs associated with order-quantity decisions:
-inventory carrying cost (annual basis: opportunity costs + storage costs + risk costs). Usually expressed as a percentage of average inventory for a chosen period.
-ordering cost
1.3.1.2 Lot sizing techniques (Arnold cap. 10 - order quantities):
a. EOQ: based on
-Demand relatively constant and known
-Item is produced or purchased in lots or batches, not continuously.
-Ordering and inventory carrying costs are constant and known
-Replenishment occurs all at once.
! EOQ formula:
Q units = radice quadrata di 2AS/ic
Q in $ = radice quadrata di 2AS/i
A = annual usage in units
S= ordering cost in $ per order (cost per order)
i= annual carrying cost rate as a decimal or a percentage
c= unit cost in $
Average inventory = Q/2
# of order placed per year = annual demand / order quantity = A / Q
Annual ordering cost = A/Q x S
Annual inventory carrying cost = Q / 2 x c x i
Total annual cost = annual ordering cost + annual carrying cost
b. Order n Periods supply: rather than ordering a fixed quantity, inventory management can order enough to satisfy future demand for a given period of time. The number of periods is calculated by POQ system/formula:
POQ uses the EOQ formula to calculate an economic time bw orders = EOQ / average weekly usage (1 year = 52 weeks).
!Planned order receipt calculation = sum of the net requirements over the POQ!
It is better for lumpy demand because it looks forward to see what is actually needed.
c. FOQ rules specify the number of units to be ordered each time an order is placed for an individual item or SKU. The disadvantage is that it doesn't minimize the costs involved.
d. L4L rule says:
to order exactly what is needed and when from suppliers and the factory. It is equal to the net requirement per period.
Order quantities change as requirements change.
No unused lot-size inventory is created.
Examples of the use of L4L are as follows:
-In planning and fulfilling time-phased requirements for dependent demand items, as in MRP, and for indipendent items in master production scheduling.
-when ordering components (A items) that are expensive to inventory.
-perishable items
-in lean/JIT environment, where inventory is considered waste.
1.3.1.3 Safety stock:
a. Meaning of customer service
b. safety stock methods:
-statistical (independent demand items):
From Arnold p.311 - Safety stock (SS) value can be derived from the sigma (std deviation). MAD can be converted into a std deviation/sigma.
SS is calculated by:
1.determining the sigma in physical units: calculate demand deviation (actual - forecast) for each period + square each deviation + sum each squared dev + divide the sum by the number of periods + square root the result of the division to get the sigma.
2.deciding on a customer level
3.using a safety factor table to locate the safety factor for the desired service level.
4.multiplying the sigma by the safety factor.
-time period safety stock = forecast monthly usage x safety stock time period
It is useful for items with frequent deliveries, such as daily to weekly. It provides a buffer vs delays in receipts.
-fixed safety stock: in case a new part is being phased in /a part is being phased out.
>in case a new part is being phased in: It is necessary for the planner to obtain adequate history on a new part before calculating a statistical SS. Until that time, the planner can establish a fixed SS high enough to provide the target service level.
>In case a part is being phased out: the planner should set the fixed SS to zero and manually check usage vs stock balances.
c. Approaches to Safety Stock
...
Session 2 - Inventory Planning
2.1 order review methods:
-Differentiate bw the "order point" and "periodic review" methods.
-Describe the best order review methods for dependent demand.
2.2 aggregate and disaggregate planning
2.3 impact of lean production concepts:
-Explain the logic of reducing work in process (WIP) to shorten production lead time.
-Description of 4 lean production tools that increase supply chain velocity
2.4 accuracy, handling, and storage:
-Apply ABC classification to cycle counting.
-Describe the advantages of the 3 major inventory location systems (fixed, random, zone).
2.1 order review methods (syn: ordering systems)
They help determine purchase order and work order schedules and quantities applicable to the types of inventory.
The methods are:
-Order point (syn: reorder point) - independent demand
-Periodic review - independent demand
-MRP - dependent demand
-Visual review - independent and dependent demand
-Kanban - dependent demand
2.1.1 Indipendent demand - Order point system @ Arnold p. 318
OP = DDLT + SS
When to use:
-Primarily for independent demand items (FG and MRO).
-For dependent demand items (raw materials) when demand is stable and continuous.
-Not for high value class A items because of inventory costs.
-For limiting lot sizes due to truckload and storage capacity at the receiving warehouse.
2.1.2 Independent demand - periodic review system (PRS) @ Arnold p.320
It is a form of Indipendent demand management in which inventory levels are reviewed and an order is placed at specific intervals. Order quantities may vary, but typically replace items consumed during the time period.
Formula
Q = T - I
T = D (R + L) + SS
I = inventory on hand
T = target (maximum) Inventory level
D = Demand per Unit of time
L = lead time duration
R = review period duration
PRS is advantageous in the following situations:
-Receiving deliveries of many different items from one source at one time is economical. E.g. Regional distribution center may order a truckload once a week from a central warehouse.
-tracking and posting transactions of many small issues from inventory is expensive. Supermarket and retailers are in this category.
-it is safe to assume that sufficient inventory has been ordered to last until the next review interval.
-items have a limited shelf life, such as farm produce, chemicals, and food products
-ordering costs are low; ordering once a week or month is not a cost issue. This occurs when many different items are ordered from one source.
- in retail settings stocked with many different items from a central warehouse location because it consolidates deliveries and reduces shipping and handling costs.
2.1.3 Vendor-Managed (VMI) and Consignment Inventory
Used to replenish both independent and dependent demand.
VMI differs from consignment in these respects:
-the customer shares visibility of its demand, such as promotions and point-of-sales rates, with the supplier through various information-sharing technologies.
-the customer's information is an input to the planning process used by the supplier, which assumes the entire role for planning and replenishment.
-often the supplier owns the goods until the customer uses them.
-ownership of the item is negotiable and depends on the business reqs and contractual agreements bw the two parties.
Consignment inventory occurs when a supplier provides a customer with inventory for use but retains ownership of the product until it is used or sold. The supplier or the customer periodically inventories the consigned product and the supplier bills the customer and replenishes the consigned inventory. Alternatively the customer pays periodically based on usage.
2.1.4 Dependent Demand - MRP
MRP calculates:
-the gross and net requirements for each component in the end item
-The planned order release and receipt dates considering available inventory balances. As purchases of raw materials and sub-assemblies and manufacture of components and sub-assemblies in the factory.
NB. In make to order environment the order for the end item can be directly scheduled by MRP as orders are received.
2.1.4 Service Requirement Planning
2.1.5 Visual Review also called min-max system (low value items)
It assumes that minimum and maximum levels have been established. When the minimum level is reached, inventory is replenished to the maximum level.
The minimum could be determined by the order point formula.
The maximum might be determined by shelf space or economic order considerations.
2.1.5 Kanban (pull system in lean/JIT environment vs work order in push system)
2.2 Aggregate and Disaggregate Planning
2.2.1 Manufacturing Planning and Control
It is the system used by manufacturing to recognize the demand for products, plan the resources required to produce them, and execute and control production.
It includes the following:
-Top-down planning approach in which planning and execution activities are formally related to the organization's strategic goals.
-Layered approach to planning:
>Business planning: long term planning in dollars.
>Sales and operations planning (output is production plan). Aggregate planning: medium- to long term planning at the product family level.
>Master scheduling (output is MPS). Disaggregate planning: short- to medium-term planning at the end item level.
>Material requirement planning
>Capacity planning
-cross-functional coordination of different roles, such as manufacturing, marketing, finance, engineering, HR, distribution, quality, and materials management throughout the MPC process.
-closed loop system plans at all levels, including production activity control, continually adjusted to ensure consistency among them in response to internal and external events before, during, and after production.
2.2.2 MRP II for Service
-aggregate service planning and resource requirements planning
-master service scheduling
-RCCP: bills of capacity and bills of labor
-Service reqs planning (SRP) and CRP
-shop floor control
-Uncertainty of service lead times and resource requirements.
Conclusion from discussion of aggregate and disaggregate planning in service and manufacturing: planning and control at the disaggregate level, such as detailed scheduling and planning, need to be based on decisions and trade offs at the aggregate level. Tradeoffs may be among sales, operations, and finance with respect to customer service, costs of producing or delivering a good or service, and inventory.
2.2.3 Impact of Lean Production Concepts on inventory levels and implications for DSP.
Lean manufacturing main concept is the elimination of the waste: it is possible with the reduction of production lead time.
Long lead times (Michael George in Lean Six Sigma 2002):
-Cause high variation in LT
-Create extra costs of overtime, scrap, rework, and capital invested in inventory and equipment.
-Create hidden costs: manufacturing overhead caused by excessive plant size, expeditors, stockrooms, and personnel.
-reduce the rate of quality improvements
Principles to Shorter Production Lead Times:
-Put a maximum cap on the amount of WIP to predict lead time.
-Maintain supply chain velocity by maintaining an even flow of WIP, and ensuring that WIP is related to current demand.
-Release material into the line in amounts consistent with appropriate batch size to prevent excess WIP.
Implementing the 4 steps to reduce WIP and therefore LT:
1. Use a pull system:
-The factory produces only what the customer or distributor uses.
-Each workstation makes only enough to replenish what the next workstation is using.
-Each process replenishes only what the next process is using.
2. Determine the strategic (finished goods) buffer:
It needs to account for transportation time, safety stock, and seasonality and promotions.
It puts a cap on the amount of WIP in the system and enables you to start continuous improvement initiatives to reduce lead times through setup and batch size reduction.
3. Increase flexibility to deal with product line complexity: ability to change volumes and product mix quickly using flexible machinery, cross-trained employees, and quick changeovers.
4. Implement synchronous flow:
-The basic pull system is asynchronous because it has no timing associated with operations in the product routing.
Adopting a synchronous pull system, through the use of takt time to control the velocity of flow through the production process, will reduce overall lead time.
-this requires knowing and standardizing operation times, which will enable completion of an assembly produced at one workstation to trigger production of an assembly at the next workstation.
-it also assumes that through process improvements, organizations can implement batch sizes that are consistent with the desired rate of flow.
-the trigger can be recognized by MRP application sw, which can then release the assembly to the next station.
Lean Production Tools
5 principles of Lean:
-Value
-Value stream
-Flow
-Pull
-Perfection
4 Major Lean Improvement Tools:
-Value stream mapping
-Pull system
-Setup reduction
-Total productive maintenance
1. Value stream mapping is a technique used to visualize the flow of the value stream.
A value stream map is a graphical representation of the process steps from raw material to finished goods (or delivery of service to the customer). It is a multiple process levels. The upper portion of the map contains the information flow, the middle portion contains the material flow and the lower portion contains the process data and timeline.
Use of the value stream mapping technique can result in improved inventories, cycle times, and throughput.
2. Setup time reduction (important to increase operations velocity and throughput)
Steps to reduce setup time:
Step1: separate external and internal setup
Step2: convert internal setup to external.
Step3: streamline internal setup.
Step4: eliminate adjustment
3. Total Productive Maintenance (TPM) and downtime reduction
Implement the Employee empowerment from lean/JIT
Downtime Reduction is the most important objective of TPM. It has the following negative effects:
Causes delays in downstream operations
Reduces process speed
Requires more inventory buffers
Allows less room for unexpected machine problems
Affects quality because problematic machines can produce statistically out of control products.
2.3 Accuracy, Handling, and Storage
2.3.1 Inventory Accuracy
2.3.1.1 Inventory Record Accuracy: the 3 important types of information that must be accurate are:
-Part description or part number
-Qty
-Location
The accuracy of this information is critical to ensure the following:
-Accurate, effective priority planning system - Sales and operations planning, master scheduling, and MRP.
-High levels of customer service
-Effective and efficient operations
2.3.1.2 Verification of Inventory Accuracy
2.3.1.3 costs of inaccuracy
Lost sales
Excess production
Low productivity
Excessive expediting
High inventory levels
Shortages
Missed schedules
Late delivery
Excess freight costs
High levels of obsolescence
2.3.1.4 accuracy goals:
100 % inventory accuracy
100 % of the parts
100 % of the time
It is common practice to establish tolerances, such as + or - n %, for individual items based on various criteria. These criteria include the following:
-value of the item - tolerance for A items will be less than B and C items.
-critical nature of the item
-ability to stop production
-lead time
-difficulty of precise measurement
2.3.1.5 types of inventory accuracy methods
Cycle Count vs Periodic Inventory
-Periodic Inventories are performed at a recurring interval, such as the annual taking of physical inventory.
All items are counted in a short period, often requiring shutdown of operations and the use of many personnel with diverse experience (inexperienced people).
Results:
-No correction or detection do causes of errors
-Many mistakes in item identification
-Plant and warehouse shut down for inventory
-One-time improvement of record accuracy.
-cycle counting occurs continuously, as experienced and trained employees count a few items daily. The emphasis is on finding and fixing the root causes of errors as well as correcting the data.
Results:
-timely detection (root cause analysis) and correction of errors.
-fewer mistakes in item identification.
-minimal loss of production time
-systematic improvement of record accuracy
2.3.1.5.1 Cycle Counting
Objectives of a cycle accounting program are:
-Detect discrepancies bw physical and record balances
-Trace the causes of errors and correct them.
a. Sources of Problems:
Poor design of forms
Carelessness
Inaccurate supplier receipts
Inadequate storage space
Timing for cutoff of transactions
Untrained personnel
Poor document control
Items not identified properly
Lack of discipline/accountability
b. Triggers as criteria to follow in determining when and what to count:
ABC classification
When a reorder is indicated
When a replenishment lot is received
When the record indicates a zero balance.
When a record balance becomes negative.
After a set number of transactions.
Application of ABC Analysis and classification
Identify those items (approximately 20 %) that account for approximately 80% of the cost of goods as A, the next 15 % of items as B, and the bottom 5 % as C.
ABC Classification for APICS
Category A 10-20 % items 50-70% of total value
Category B 20 % items 20% of total value
Category C 60-70 % items 10-30% of total value
Procedure of the ABC inventory control classification:
1. Determine the annual usage for each item.
2. Multiply the annual usage of each item by its cost to get its total value
3. List the items according to their annual money usage.
4. Calculate the percent of the total value (value/total value x 100)
5. Calculate the percent of total qty (Annual usage/Total Annual Usage x 100)
6. Compute the cumulative percentage of items.
7. Examine the annual usage distribution and group the items into A, B, C groups based on percentage of annual usage.
Use of ABC classification:
-Cycle counting frequency: Counters should verify A items more frequently than B or C items.
-Customer service: order qty and safety stock levels are established depending on the economics and criticality of each item. From an accounting perspective, the focus is dollar accuracy. A items take longer to procure if there is an unplanned stockout.
-Engineering priorities: value engineering efforts are better spent on items with high cost or usage.
-Replenishment system: it might be more economical to control some C items with a simple two-bin system of replenishment and employing more sophisticated methods for A and B items.
-Investment decisions:
A items represent a larger investment in inventory.
More analysis is used when making decisions about order qty and safety stock for them.
The primary focus when considering how to improve inventory turns is always on A items first.
Cycle Count Program:
-Processes and Procedures
-Education and Training
-Accountability and Responsability
2.3.1.6 Storage and Location of Inventory Items
Bins
Bin Location Codes
Inventory Location System:
-Fixed Location System: each bin is designated to hold a particular item number. Bins are assigned based on physical dimension or other characteristics of the item.
-Random Location System: random location schemes, which are feasible when a computer is employed or when the quantity of items is minimal, never associate a bin with a specific item number. Instead, bins are assigned each time a shipment arrives.
-Zone Location System: a zone location scheme is a compromise. Some examples are:
>Materials that are deemed suitable for outdoor storage can always be assigned to a storage lot or yard, with random placement within that zone.
>zone assignments can be based on other physical characteristics as well, such as flammability, dimension, value (precious metals), risk of pilferage, or whether items are fast, medium or slow moving.
2.3.1.7 Identification, Tracking, and Handling of Inventory
-Automated Storage and Retrieval Systems
These systems generally use random location methods, although they may also use fixed methods in some applications.
AS/RS has 2 basic components: 1. Racking and 2. The storage and retrieval machine. The latter is often controlled by application sw that stocks, keeps and picks based on integration with systems for sales order, receiving and put away, and inventory mngmnt.
-Bar Coding and RFID Tagging
Bar coding facilitates timely and accurate input of data to a computer system, reducing errors.
-Pipeline Visibility
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