costing INVENTORY MANAGEMENT-1.ppt

7/29/2019 costing INVENTORY MANAGEMENT-1.ppt

1/59

INVENTORY MANAGEMENT

BY: Rajeev Sharma


2/59

Inventory Management

It is not easy to deal with customer dissatisfaction ,especially when customer is a 4-year-old Boy. A petulant

toddler demanding the spider man costume for an

upcoming party. If he cannot be transformed into spider

man, he cannot attend the party. He is trying his best to

convince his mother by crying is lungs out and flailing hisarms wildly. The mother looks at her son and turns to

glare at the apologetic sales executive. In face of such

blatant blackmail she has no option but to hop across to

the next mall. The store has lost another customer.


3/59

To keep pace with such demands retail chain outlets

Like Shoppers stop manage a staggering 3,00,000 SKU at each

outlet. Ensuring the availability of each SKU across 21 outlets in

the country is a supply chain challenge. That is why SS has fourRDCs at Delhi Mumbai Bangalore & Kolkota. Over four hundred

vendors supply the DCs. SS has to decide as to how much

inventory the RDC should carry and how much inventory Stores

should carry. They will cannot risk non availability of a product as

it will affect their reputation. On the other hand carrying to muchinventory at Either Distribution centers or the stores multiplies the

Inventory carrying cost and also the problem of obsolescence.

When Asked How it manages the supply Chain?


4/59

Sanjay Badhe The Director of operations replied;

There is no one in India that offers logistics, so we

had to develop our own logistics department. We have

linked every office in the country via leased lines & V-SAT.

Typically SC consist of multiple items and stock points

where each stock point has a customer and a supplier.Given the supply and demand characteristics of

suppliers and customers a decision maker at a stock

point makes essentially two decisions:

1. How much to order2. When to order.


5/59

Every participant in a supply chain , whether retailer,

wholesaler, manufacturer or vendor, prefers to reduce

inventories and yet maintain customer services so as not

to lose customer because of non availability of goods.Huge inventories are drain on resources. As it blocks

money and increase cost of operation.

So reduction of inventory in supply chain is the need of

the day.In the past the zero inventory slogan had attracted a lot

of attention from financial controller of firms for some

time because it gives them a illusion that it was possible

to work with a zero inventory and improve financialperformance.


6/59

Zero inventory was a very popular term in business

literature but as we shall see zero inventory translate into

zero business.

So we have to bring out logic of why a business needsinventory and suggest possible ways of improving

performance in this area.

Please watch out the figures given in next slide !


7/59

S.no Name of the Company ITR -1990 ITR-2006

1. Indian Oil Corporation 8.00 6.50

2. Bharat Petroleum Corp. Ltd. 14.00 8.00

3 HPCL 10.00 8.00

4. SAIL 2.00 3.605. BHEL 2.00 3.50

6. RIL 2.00 6.00

7. Tata motors Ltd. 4.00 8.50

8. Tata Steels Ltd. 2.50 3.50

9 MUL 4.5 12


8/59

Do you realize that

1. Companies are not from same industries

2. While performance of few like HPCL, IOC, BPCL hasdeteriorated but for the other it is getting better.

3. Even though the Sales( Data not given but you can

very well understand the difference of the economy of

the country) of the most of the companies have

substantially improved between 10-15 folds, we are

expecting a notable change in inventory too, which is

not seen

So why not to analyze data in different way


9/59

ITR --- Worst Average Best

Food &Beverages

1.2 4.0 31.0

Chemicals 1.2 8.5 32.5

Textiles 1.9 5.3 45.2

Machinery 1.2 5.5 17.1

Transport 2.1 5.1 78.1

Non Metallic 2.0 5.1 44.1

Metal

products

2.5 5.5 42.5

Please look at this data


10/59

How would you like to express yourself

after watching the data


11/59

Is it evident from the data , The best performer in each

industry segment seems to be working with 10-20 times

higher inventory ratio compare to the worst performer.

This shows that within Indian firms there is a significant

potential for reduction in inventory across the industries.

Of course each of theses firm works with multiple SKUs and

has multiple levels in supply chains. Firms like IOC work withthousand of SKUs and have to keep material at RM WIP and

FG levels. Further it has to carry RM & WIP at multiple

location and carry FG at various levels within the distribution

channel.

Given this complexity it is tempting to view that how thesefirms work with the optimal level of inventory or

The question is How much inventory is good enough?


12/59

Once I had a opportunity to study one pulp making firm

APR ltd. In great detail and I found that this firm used to

carry about 4 months of wood inventory.

Please guess this size of wood as inventory.

Think of KATH GODAM

One you may had seen in Kabhi Kabhi or Silsilae

Please think ?I can make out what you will think if I ask you why such

Inventory size is necessary ?


13/59

One view might be like this huge inventory carried by APR

ltd is unnecessary and therefore carrying inventory at all is a

waste

Or

The other view might be since APR has always carried 4

months of inventory and on an average every firm in thatindustry carries same inventory, then its fine

But let me tell you that each of the extreme does not serve

the purpose


14/59

When we carried out the detail analysis of the

purposes it came to the conclusion that it

should be able to manage its affairs with just18 days of inventory.

Is this not a surprising factor.If yes Then I am going to introduce you to the

concept called as ZERO BASED

INVENTORY BUDGTING


15/59

How it works

Its essentially a bottom up approach to inventorymanagement.

It starts as first step with classification of inventorybased on the use or reason why the organizationneeds to carry inventory.

Then as step two is to identify the driver of eachsuch category of inventory based on the reason

which factor instill variation in the inventory Then as step three carry out an analytical study to

determine the appropriate level of inventory requiredfor each of the identified driver.

Then at last again make a decision at the productlevel regarding inventory size..

Here inventory is controlled through two decisions

1. How much to order 2. When to order


16/59

This exercise helps us to understand the various drivers

that forces firms to maintain the current level of inventory.

This type of analysis helps us to understand and improve

both the turnover ratio and the service.

Based on the assumption that decision maker follows the

policy of continuous improve., Lets specify the type of

inventory.


17/59

1st Cycle Stock :Because of the economies of scaleinvolved in production and transportation it makes senseto produce and transport goods in batches. The is called

as cycle stock. And order point problem as to size andorder no. exist here.

2nd Safety stock : It is a safeguard against theuncertainties of demand and supply.

3rd Decoupling Stock: Since it is not possible to carryout supply chain operation with just one decision maker,the entire supply chain is usually divided into variousdecision making unit, the demarcation of decisionmaking unit take place at both organizational and

departmental boundaries, so it is not uncommon fororganizational to hold large inventories at organizationalas well as departmental level. This becomes decouplinginventories. So that flexibility at each level can be made.


18/59

4th Anticipation Stock : It consist of stock accumulated inadvance of expected peak in sales or to take care of some specialevent that does not occur on regular basis. It is of two types

1. Seasonal Stock

2. Speculation Stock

5th Pipe line stock: Since production and transportation activitiestake certain finite time firms need to carry pipeline or in transitstock. Pipeline stock consist of good usually being worked upon(WIP) or being moved from one location to another in the chain( Intransit Inventory).

6th Dead Stock: It refers to that part of the stock , that remaindormant or non moved over a long period of time . This stock isunlikely to be used in long run or in any part f supply chain.


19/59

Inventory management

Inventory has its forms

A.Raw material

They may be

Basic Raw material

Consumables

Stores & spares Packing material

B. Work in progress

C. Finished goods


20/59

These forms has their existence throughout the

supply chain:

Its stages They are Raw material During Inbound

logistics

They Work in progress during Operations

They Finished goods during Out BoundLogistics


21/59

Closing Stocks or non moved forms of the inventory atevery stage forms Working capital & current Assets ofthe company

After Fixed Assets this is the most costly item in thebalance sheet of the company.

It is Better as the available working capital but is alsodangerous as lot of capital is blocked in this formwhich is not converted into revenue

Hence is a cost to the company in the form of blockedcapital & also the interest & dividend cost which the

company is bearing on the this blocked capital.So with the view to lower down this cost to the company

INVENTORY MANGEMENT is focused


22/59

So inventory management is focused at

lowering down the Cost of capital Invested

and blocked in the inventory by1. Increasing inventory turnover ratio &

operating cycle of the company

2.

Increasing stock to sales ratio3. Maintenance of optimum current asset ratio


23/59


Has three areas

In coming material control or

Purchase control

In Stores control

Issue ( Issuance to production or

retail outlet) Control


24/59


Stage 1 Stage 2 Stage 3

Purchase Stores IssueControl Control Control

Inbound Operation Outbound

Logistics Logistics


25/59

Purchase Control ;Stores Control & Issue

Management

Also called asORDER POINT PROBLEM

Answering 2 queries

1. How much should be the size of the order ?

2. When should the order be placed ?


26/59

Lets Start with Stage 1

To understand this let's know the cost associated with theinventory

1. Ordering Cost: Is the cost of placing an order ( Called asper order cost) (Abv. as OC & o)

This is the cost associated with the purchase of materialand includes the following

1.

Cost of paper work involved i.e. Order processing cost,we mean Procurement order cost, intend, materialrequisition form, purchase order, receive note &various ledger entries etc.

2. Salary of the people involved in the above process

3. Depreciation, rent and opportunity cost of theoffices & assets involved.

2 Carrying Cost ( Also called as Holding cost)


27/59

2. Carrying Cost ( Also called as Holding cost)

Abbreviated as CC & c

This is the cost associated with the Transport & Storage ofmaterial purchased and includes the following

1. Loading of material cost

2. Transport cost , octroi & levies

3. Unloading cost

4. Inspection cost

5. Material handling cost ( in house if any)

6. Storage cost ( In stores rental or depreciation)

7. Cost of damage , maintenance cost, cost of capital tied up ininventory

It can be expressed in two ways:1. Money spent in carrying a unit for duration in the ware house

( say a year , month or week)

2. Percentage of value of the average inventory during the given

period of time


28/59

3. Cost of shortage or out of stock cost

Abbreviated as G & k

This is the cost associated with the stock out conditions of

material and includes the following

1. Loss of potential profit

2. Loss of goodwill on the part of the customer

Abbreviation

OC = Total Ordering cost

o= Ordering cost per order

CC= Total carrying cost

c= Carrying cost per unit per year ( Unit of time)G=Total shortage cost

k= Shortage cost per unit


29/59

So to say what is the total cost of inventory

It is = OC ( Ordering Cost) + CC ( Carrying

cost) + G ( Stock out cost , if any) + Purchaseprice of the material

Now

HOW TO GO FOR ORDER POINTPROBLEM?

Let us understand that there are two methods of Managing


30/59

Let us understand that there are two methods of Managinginventory

1. Independent Demand Inventory management System

2. Dependent Demand Inventory Management SystemHow are they different ?

Suppose we are motor cycle manufacturer . For the next monthdemand forecast says 2000 motorbikes. In a motorbike two

tyres, one speedometer, four side indicators are used.

Therefore company orders 4000 tyres, 2000 speedometer &8000 side indicators to its suppliers. Thus the demand of tyres,speedometer & side indicators id depended upon the demand

of motorbikes Therefore inventory of these items is called ,dependent demand inventory, and the inventory management

system is aptly called as Dependent Demand IMS. On the

other hand demand of motorbikes is determined directly bydemand forecast and is not dependent upon the demand of anyother item, Hence called as independent demand inventory and

the system is called as independent demand IMS


31/59

Tools of IMSFor Dependent Demand IMS

Three tools are available

1. Material requirement Planning System

2. Just in Time System

3. Hybrid MRP-JIT System


32/59

Tools of IMSFor Independent Demand IMS

It has two Variables1. For Manufacturers

2. For Retailers

For Manufacturers

Tool is

EOQ/EBQ ( Economic Ordered/Batch Quantity)

For Manufacturer


33/59

For Retailers

Tool is

At stage OneClassification of Inventory Type

3 Categorize

1.Category A 3.Category C

2.Category B

At Stage Two

Basic EOQ Model PerpetualApplication Inventory

Management


34/59

As far as Basic EOQ models are concerned they are of

Four Types

1. EOQ model with Quantity Discount

2. EOQ model with Differential discounting

3. EOQ model with safety stock

4. EOQ model with intentional Shortage


35/59

Let's start with

Retailers Independent demand IMS

ABC Analysis

In any Retail organization there are large numbers of inventories

to be maintained. It is not practical to have very stringent

inventory control system for each & every item. So with the

modus of having an effective Purchase & stores control weimplement ABC Inventory

Classification model Known as Always Better Control (ABC)

based upon Pareto rule ( 80/20 rule)


36/59

To Implement ABC Following steps involved:1.Categorize the inventory into ABC using Consumption Value.

1.a. Consumption Value = Unit price of an item X no. of units

consumed per annum.1.b. A category will be the one having highest CV i.e. Lowest

Consumption but highest value

B Category will be the one with moderate

C category will be the one having lowest CV i.e Largestinventory & lowest value

2. Inventory Management Policy

2.a. A category is subjected to stringent inventory control, via

using VMI, DOLI, EOQ model to determine reorder level &size And also the proper issuing system to the finaldestination of usage.


37/59

2.b. For Category C Inventory control is meager and perpetual inventorymanagement system is used

Perpetual Inventory management system(PIMS) is the one which supportsregular & periodic review of inventory.

2.c. For Category B it is moderate control.

Some time with the view of doing Lean inventory management

Within ABC category VED ( Vital , essential & desirable factor) is introducedwith the view of further having effective control of inventory on the basis

if its being critical.Where

V (Vital) is the inventory where neither Substitute nor Variation Gap isallowed .

E (Essential) is the inventory which allows either of the one to be changed

D (Desirable ) is the one which can have variation in both of the parameters

e g Suppose customer asks for 150 gm HENKEL made


38/59

e.g. Suppose customer asks for 150 gm HENKEL madeFA Shaving cream ,so non allowance either of theparameter i.e. Neither weight nor make is categorized asVital and is likely to be maintained. Whereas if he allows

Godrej, Or Palmolive Brand variation than is categorizedas Essential & if he asks for weight as well as brandwavier then Desirable category .

A Category B Category A Category

Vital AV BV CV

Essential AE BE CE

Desirable AD BD CD

f f C


39/59

With the view to further lean the store try to go for Certainparameters for each class on the basis of followingparameters

1. Stock to sales ratio

2. GMROI 3. Contribution margin 4. Shrinkage= Difference between book and physical inventory .

SKU Productivity -- To demonstrate the importance andcontribution of best sellers in each class, category, etc.

* SKU Contribution -- To show the relationship between thenumber of SKUs, purchases and sales per class, category,etc.

* SKU Rationalization -- To evaluate the margin performance

of individual SKUs vs. peers in the same class, category,etc.

So that


40/59


Vital AV BV CV

Essential AE BE CE

Desirable AD BD CD

We can take Decision as to how & under which categoryon the basis of1. CV 2. VED 3. All parameters we can minimize thecategory of inventory by shifting them to the three lateralcategory to exercise effective control.


41/59


Vital AV

Essential BE

Desirable CD

Q C3) What is ABC analysis? In case of NANZ LO` BILL shop following data of


42/59

Q. C3) What is ABC analysis? In case of NANZ LO BILL shop following data ofinventory is recorded

S.No. Product Type Price /Unit Qty Consumed Make Type

.01 Shampoo 75.00 1000 Unknown 200 ml

.02 Hand wash 50.00 2500 Unknown 150 ml

.03 Mosquito repellent 5.00 10000 Good knight 50ml

.04 Soap 1.00 25000 Lux Unknown

.05 Tea 10.00 500 TATA 250 gm

.06 Cold drink 1.50 10000 Unknown unknown

.07 Electronics gadgets 150.00 1000 Philips 15 Amp

.08 Watches 250.00 500 Titan electronics

Give ABC effects to this inventory taking into consideration criticalness?

What other factors are considered to lean a stores inventory over & abovethe CV & Critical factors? Please explain the above inventory on thebasis of lean factors?


43/59

ROL

RE ORDER LEVEL

At this level of stock, next order is to be placed with thevendor

Is the stock level of

(Maximum Consumption X Maximum Lead time)

Re Order Quantity Is

The Economic order quantity

( Calculated with the view to minimize Carrying & ordering

cost of the order)


44/59

MINIMUM ORDER LEVELThis much quantity must always be maintained at the store to

prevent out of stock conditionIs the stock level of

ROL ( Normal/Avg. Consumption X Normal/Avg. Lead time)

This is below reorder level justifying the EOQ lead time with

the Normal rate of consumption at normal lead time


45/59

MAXIMUM ORDER LEVELThis is the quantity above which stock is not allowed to exceed

Is the stock level of

ROL + EOQ ( Minimum Consumption X Minimum Lead

Time)

Following factors are considered for this

a. Maximum requirement for production at any moment of

time

b. Storage space available

c. Risk of deterioration, obsolesce, evaporation & Price

Fluctuation


46/59

Average inventory

MIOL + EOQ

Or

(MIOL + MAOL) /2

Or

ROL ( Max/Min/Nor Lead-time X

Max/Min/Nor Consumption) + EOQ


47/59

MAOL

EOQ ( Min Consumption X Min LT)

ROL = EOQ

Avg. Consumption X Avg. LT

MIOL

Danger Level

(Avg. consumption @ Max LT for urgent purchase)


48/59

Example : Given the following

Consumption 25 75 Units/Week

Lead time of vendor 4-6 weeks

EOQ 300 units

ROL = 75 X 6 = 450

MAOL = 450+300-(25X4)= 650

MIOL= 450-(50 X 5)= 200

Avg. Stock Level = (650+200)/2= 425


49/59

MAOL= 650 units

EOQ ( Min Consumption X Min LT)=200 units

ROL = 450 Units

Avg. Consumption X Avg. LT= 250 Units

MIOL=200 Units


50/59

EOQ

PLEASE MOVE TO LINK


51/59

THANKS

Move to EOQ2

S S OC


52/59

SAFETY STOCK

Is required to be considered in some conditions

They Arise

because

In practical situation

Demand of items may fluctuate at any point of time

And also suppliers always need some lead time to

supply the goods


53/59

Lead time can easily be provided to supplier

by placing order before inventory become

zero.e.g.

Lead time is 10 days , so order can be placed 10 days before it becomes

zero. Let the uniform consumption of inventory be 50 units per day

therefore during the 10days of lead time 500 units will be consumed .Hence ROL can be fixed at 500 units.

A

Stock out may occur sometime due to either excessive consumption or

due to undue stretching of lead time

We know stock out is undesirable for the various reasons so to avoid itextra stock is maintained throughout thr year. This is called as Safety

Stock


54/59

Inventory decreases at constant rate

First Order Second Order

Re order level

MAOL

Q

0

I

n

ve

n

t

o

r

y

L

e

v

e

l Lead Time

500 units

Goods Received

L Lead time being provided by fixing a reorder level

10days


55/59


First Order Second Order

Re order level

MAOL

Q

0

I

n

ve

n

t

o

r

y

L

e

v

e

l Lead Time

500 units

Goods Received

LExcessive consumption of inventory during the lead time, leadingto stock out

10days

7 days


56/59


Second Order

Re order level

MAOL

Q

0

I

n

ve

n

t

o

r

y

L

e

v

e

l Lead Time

500 units

Goods Received

L

Safety Stock avoids a stock out caused by excessive consumptionof inventory during lead time

7 days

800 units Safety Stock


57/59


Second Order

Re order level

MAOL

Q

0

I

n

ve

n

t

o

r

y

L

e

v

e

l Lead Time

500 units

Goods Received

LUndue stretching of lead time by the supplier, leading to stock out

800 units Safety Stock

10 days

Stock out

Goods Received


58/59

Inventory decreases at constant rate d

MAOL

Q0

I

n

ve

n

t

o

r

y

L

e

v

e

l

Goods Received

L Model of intentional shortage

t2

t1

(Q-S)

S

t Time

t = Time period for one inventory cyclet1= time fraction during which customer are given inventory items, (Q-S)

t2= time fraction during which back orders are received, S or stock out co

d- is the rate of demand

Q= are the items ordered in one inventory cycle

Retailers intentionally creates shortage of


59/59

Retailers intentionally creates shortage of

expensive items

B`cos CC of expensive items is very high, itmay be so high that the cost of stock out may

be very low comparatively.

three cost are involvedOC ; CC ; Shortage cost

OC= Ao/Q

CC= (Q-S)/2 ctiG = S2k/2Q

costing INVENTORY MANAGEMENT-1.ppt

Documents

Transcript of costing INVENTORY MANAGEMENT-1.ppt