INVENTORY MODEL

Presented by:
Jacky Boy E. Atienza

An INVENTORY is a stock of
goods that is held for the
purpose of future production or
sales.

REASONS CARRYING
INVENTORY
SMOOTH PRODUCTION. The demand
for an item fluctuates widely due to a
number of factors such as seasonality and
production schedules.

PRODUCTION AVAILABILITY. Most
retail goods and many industrial goods
are carried in inventory to ensure prompt
delivery to customers.
ADVANTAGE OF PRODUCING OR
BUYING IN LARGE QUANTITIES.
Most production runs involve machine
setup time and production time.

HEDGE AGAINST LONG OR
UNCERTAIN LEAD TIMES. The time
between ordering and receiving goods is
known as Lead Time. Firms do not want
to stop manufacturing or selling goods
during lead time; so it is necessary to
carry inventory.
IMPORTANCE OF
EFFECTIVE INVENTORY
MANAGEMENT
WHEN TO ORDER?
WHERE TO ORDER
FROM?
HOW MUCH TO ORDER?
WHAT ARE THE PROPER
LOGISTICS?
TWO BASIC INVENTORY COST
CARRYING COST. The cost occurred
by a business for holding items in
inventory. It is also called holding
cost.
Product obsolescence
Deferred profit on investment
Depreciation taxes, insurance
Interest on the investment in
inventory
Direct Storage Cost
ORDERING COST. The cost a
business incurs when it makes an
order to replenish its inventory.

Transportation costs
Salaries of Employees
Cost of unloading the order
Cost of processing an order
All supplies used in ordering
OPTIMAL EOQ




where := per unit carrying cost

(Total Cost curve is lowest and Total
Ordering Cost Equals Total
Carrying Cost)

2
O
C
C D
Q
C
=
C
C

AVERAGE INVENTORY

where
Q:= amount of inventory, size of the order

ORDERS PER YEAR

where
D:= demand per year


2
Q
=
D
Q
=
TOTAL ANNUAL
ORDERING COST

where := Cost per order

TOTAL ANNUAL
INVENTORY COST


O
D
C
Q
=
O
C
2
C O
Q D
C C
Q
= +
OPTIMAL EOQ (with Replenishment)




(Total Cost is Lowest and Carrying Cost
and Ordering Cost Curve Intersect)

TOTAL ANNUAL
INVENTORY
COST

*
1
* 2
O C
D Q d
C C
Q r
| |
= +
|
\ .
*
2
1
O
C
C D
Q
d
C
r
=
| |

|
\ .
REORDER POINT (R):



where L := Lead time,
D: = Demand per day

NUMBER OF DAYS TO
RECEIVE AN ORDER

where r := daily rate of replenishment
* Q
r
=
365
D
R L =
DAILY DEMAND RATE (d):





DEMAND DURING
THE ORDER RECEIPT
365
D
d =
Q
d
r
=

MAXIMUM INVENTORY
LEVEL

AVERAGE INVENTORY
LEVEL


TOTAL CARRYING
COST
*
*
Q
Q d
r
=
*
1
2
Q d
r
| |
=
|
\ .
*
1
2
C
Q d
C
r
| |
=
|
\ .
Adding Shortage Cost to the EOQ
(Q**) Model
[Optimal Q** is no longer where all
costs intersect]






2
**
O S C
C S
C D C C
Q
C C
| |
+
=
|
\ .
SHORTAGE LEVEL:




OPTIMAL TIME BETWEEN ORDERS (t)
or OPTIMAL REORDER SCHEDULE

**
C
C S
C
S Q
C C
| |
=
|
+
\ .
planning period
t
optimal number of orders

=


TOTAL
SHORTAGE COST



TOTAL
CARRYING COST



2
2 **
S
S
C
Q
=
2
( ** )
2 **
C
Q S
C
Q

=

TOTAL
ORDERING COST


TOTAL ANNUAL INVENTORY COST




2 2
( ** )
2 ** 2 ** **
S C O
S Q S D
C C C
Q Q Q

= + +
**
O
D
C
Q
=
Hb. 1.
The Alpha Company uses 12,000 valves
per year. Each valve costs Php50. The
Materials Department estimates that it
costs Php1,700 to order a shipment of
valves and the Accounting Department
estimates the carrying cost is 15% of the
valve of inventory. (a) Determine the
EOQ, (b) total annual inventory cost of
the policy, (c) optimal number of orders
per year, and (d) the time between each
order.
2. Using the previous example with slight
change in the replenish rate from
infinite to a uniform 500 valves per day
to restate, the Alpha Company uses
12,000 valves per year. Each valve costs
Php50. The Production Engineering
Department estimates setup costs at
Php1,700; and the Accounting
Department estimates the carrying cost
is 15% of the value of inventory.
(a) Determine the ordering cost; and
(b) the minimum total inventory cost.
3. Computer Village stocks and sells a
particular brand of personal computer. It
costs the store Php25,000 each time it
places an order with the manufacturer
for the personal computers. The annual
cost of carrying the PCs in inventory is
Php9,000. The store manager estimates
that the annual demand for the PCs will
be 1,500.
(a) Determine the optimal order quantity.
(b) Determine the total minimum
inventory cost.
(c) Assume the shortages are allowed and
the shortage cost is Php32,000 per unit
per year. Compute the optimal order
quantity and the total minimum
inventory cost.