Inventory PlanningQUANTITATIVE APPROACH

Overview

Brief History Problem Statement Types of Inventory Terms

Service Level Z-score Safety Stock Reorder Point Lot Sizing

Order Point System Workflow

Brief History

At present there are 3 major Material Planning Systems. Order point system – 1940s (WW2)

Simple to understand. Focus is on individual items Relies on guesses and assumptions Heavy dependency on forecasting

Material Requirements Planning (MRP) – 1960s Better fit for manufacturing. BOM Analysis with shop floor orders Focus is on end products and parts relationships Requires study System struggles in today’s environment, uses forecast and customer orders

Brief History

Question: If history does not predict future performance, why bother forecasting with historical data?

Answer: The industry has no better option, until now.

Demand Driven MRP (DDMRP) / Actively Synchronized Replenishment (ASR) – 2000s

Developed for today’s manufacturing environment Industry is largely not aware of this technique Requires software and computer knowledge (not widely available) Need for forecast is very low

Problem Statement

The future is DDMRP.

But we can only do Order Point System now.

Problem Statement

Inventory Control is a balance between: Too much inventory leads to too much capital Too little inventory leads to too many stock outs / back orders

Problem Statement

Without Inventory Control, we have: Needed parts will stock out (fast moving) Not needed parts will pile up (slow moving)

Types of Inventory

There are 3 types of inventory 1. Finished Goods

Each item is loosely or not related to each other 2. Raw Materials

Each item is STRONGLY related via Bill of Materials (BOM) 3. Work in Progress (WIP)

Materials are in Transition Most information assumes Finished Goods, in Retail environment We have ALL three but calculate inventory like retail store

We are not retail store, but no choice right now

Order Point System

This is a simple system and requires two decisions 1. When to order (reorder point) 2. How much to order (lot size)

Experts maybe needed to adjust the system and give insight into future events.

Reorder points and forecasts must be revisited every month or quarter

This system, if perfectly executed, will still create stock outs because it only looks in the past to guess about the future.

Terms - Service Level

What % of orders to be filled? 50% = No Inventory

Management, like coin flip 100% = impossible. We have a

budget This number is specific to a

business

Measuring Service Level

Terms – Z Score

This is the bell curve. We assume demand follows bell curve. Alternative is Poisson distribution This is statistics, will not go into

details here..

Service level = cumulative % Convert to Z score in excel

normsinv()

Terms – Safety Stock

Safety Stock is used to protect against forecast errors, up to service level.

There are a few ways to calculate safety stock. Is demand variable or is lead time

variable or both? Is demand and lead time

correlated? For us; Equation for Safety Stock,

for variable demand and non-correlation

Terms – Safety Stock

SS = Safety Stock Z = Z score (normal bell distribution)

See diagram = Standard Deviation of Demand

Terms – Reorder Point

This level says WHEN to order. Reorder point covers average demand (demand during lead time)

Safety stock covers forecast error

Lead Time also means delay in ordering !! Must not issue PO too late.

Terms – Lot Sizing

How much to order?

Fixed Order Quantity (FOQ) Order same quantity, but different time (Reorder Point) Similar to Minimum Order Quantity (MOQ) This number is calculated to cover N Periods (ie 3 months)

Work Flow

Every Day or Week Check inventory reorder points and issue purchase orders as

necessary Every Month

Calculate forecast errors and publish adjustments Bring the forecast current with new data

Every Quarter Reorder points reviewed and adjusted Slower and faster moving inventory reported