Symptoms of Poor Inventory Management1. Increasing number of back orders2. Increasing investment in inventory with backorders

remaining constant3. High customer turnover rate4. Increasing number of orders cancelled5. Periodic lack of sufficient storage space6. Wide variance in turnover of major inventory items in

distribution centers7. Deteriorating relationship with intermediaries, as typified

by dealer cancellations and declining orders.8. Large quantities of obsolete items.

Methods/Techniques of Inventory Reduction

1. Multiechelon inventory planning, ABC analysis2. Lead time analysis3. Elimination of low turnover & or obsolete item4. Analysis of pack sizes and discount structure5. Examination of procedures for returned goods6. Encouragement/Automation of product substitute7. Installation of formal reorder review systems8. Measurement of fill rates by skus9. Analysis of Customer demand characteristics10. Development of formal sales plan and demand forecast by predetermined

logic11. Reengineering inventory management.

Stt

Stock out Costs.

Stock out costs occur when seller is unable to satisfy demand with available inventory. One of possible events occur

1.Customer waits until the product is available

2.The customer back orders the product

3.The Seller looses a sale

4.The seller losses a customer

Determining stock out cost

5.Identify a stock out's potential consequences I.e. back order, lost sale, Lost customer

6.Calculate each result’s expense or loss of profit and then to estimate the cost of single stock out.

7.Assume that 70% of stock out results in back order and a back order results in extra handling cost. Say 20% result in lost sales for item

and this loss equals to $20 in lost profit margin; and 10% result in lost customer, or a loss of say $200.

Calculate the overall impact,

70% of $6.00 = $4.20

20% of $20.00 = $4.00

10% of $200.00 = $20.00

Total $28.20

Estimated cost per stock out.

Since $ 28.20 is the average dollar amount the firm can save by averting a stock out, the firm should carry additional inventory to protect against stock outs only as long as carrying additional inventory costs less than $ 28.20.

Assumptions

• Inventory transfers between stocking locations at the same level are not common practice

• Lead times do not vary, and thus inventory concentration is not affected by inbound supply uncertainty

• .• Customer service level, as measured by inventory availability, is

constant regardless of the number of stocking locations.

• Demand at each location is normally distributed..

Elements of Inventory Carrying Cost

Capital Costs

Inventory Carrying

Costs

InventoryService Costs

Storagespace Costs

Inventoryrisk costs

Plant Warehouses

Taxes

Public Warehouses

Insurance

Rented Warehouses

Inventory Investment

Obsolescence

Company Owned WH

Damage

Shrinkage

Relocation Costs

A B C Analysis

ItemCode

Annual Sales$

% of Annual Sales Cumulative Sales % of Items Classificationcategory

64R 6800 68% 68% 10.0% A

89Q 1200 12 80 20 A

68j 500 5 85 30 B

37S 400 4 89 40 B

12G 200 2 91 50 B

35B 200 2 93 60 B

61P 200 2 95 70 B

94L 200 2 97 80 C

11T 150 1.5 98.5 90 C

20G 150 1.5 100 100 C

$10,000 100% 100%

QR1. QR is effective for synchronizing product flow with

information flow.2. Vendor commits to meet criteria as lead time, service

levels & fill rates, EDI communication & possibly vendor managed inventory.

3. Retailer commits to provide accurate timely demand information

4. Performance criteria applied is precise.

Elements of Q.R.

• Shorter, compressed time horizon• Real time information available by S.K.U.• Seamless, integrated logistic network that depend on

rapid incoming transporting, strategic cross docking, and effective store receipt and distribution system

• Partnership relationship between manufacturers and retailers, including sharing of processes and information.

• Redesign of manufacturing operations and processes to reduce lot sizes and changeover times, enhance flexibility and responsiveness and coordinate MPS with forecasts and actual customer orders.

• Commitment to TQM, process improvement and ‘Service response logistics’.

Elements of QUICK RESPONSE

Information

Time Horizon

Logistics

ManufacturingOperations

Philosophical/Cultural Change

SupplierManufacturerRelationship

Structure of U.S. Textile / Apparel Industry

Fibre

Fabric

Apparel

Retail

Consumer

Synthetics (75% highly concentrated10 firms contribute 90% market

More fragmented• 6000 firms• 12 firms provide 25% market

Extremely fragmented• 15,000 firms

Increasing concentration – Major categories• Department stores• Mass merchandisers• Mail order• Chains• Specialty stores

Increasing sophisticationVariety expectedWide choice

REVENUE LOSSES IN THE APPAREL PIPELINE (% RETAIL SALES)

Fibre&textile

Apparel Retail Total

Forced markedown

0.6% 4% 10% 14.6%

stockouts 0.1% .4% 3.5% 4%

Inventory@15%c

1.0% 2.5% 2.9% 6.4%

total 1.7% 6.9% 16.4% 25%

Q R System

Present

RetailApparelTextile

Fibre

Quick Very quick

21 W

46 W

66 W

Wee

ks

inve

nto

ry

Inventories

RWL/LV/PT-17

Efficient Consumer Response

• Report for the US Food Marketing Institute States:Today’s supply chain consists of a series of individual components, each pushing product to the next player in the supply chain.Each transaction adds substantial costs: selling expense, buying expense, purchasing ordering, order processing, order assembly, shipping, receiving, checking, put away, invoicing, paying,deducting, reconciling and more. Further, receivables average several weeks for each transaction. Very little, if any of these costs add value to the ultimate product or service the consumer receives.

Efficient Consumer Response

• The spirit of ECR has been captured by Birds Eye Wall’s,a Unilever frozen food company in the United Kingdom. It defines ECR as ‘the process which facilitates the true working together to achieve ultimate consumer satisfaction, maximizing business efficiency for mutual benefit’.

• The objective of ECR as defined by ECR Europe Conference in 1996, is “ to fulfill consumer wishes better, faster and at least cost.”Means Reduce Inventory thereby permitting price reductions or higher margins and secondly strengthen brand propositions that are compatible between manufacturer and retailer in order to meet consumer needs, thereby stimulating category growth and increasing revenue.

• The power of ECR lies in cooperation and the sharing of information and expertise between trading partners towards a common goal of increased consumer satisfaction.

• ECR is a tool for integrating separate aspects of supply chain to deliver increased value to the consumer

• ECR takes a process view, defining four core processes that span all supply chain players

• Research conducted by Anderson Consulting for ECR in 1997 found that most ECR related initiatives had centered around working together to reduce costs

Retailer

Wholesaler

Manufacturer

Supplier

IntroduceProduct

PromoteProduct

MerchandiseProducts

ReplenishProducts

Demand management

Supply management

IntegratedSuppliers

SynchronizedProduction

ContinuousReplenishment

AutomatedStore ordering

Reliable operations Crossdocking

ElectronicData

Interchange

Electronic Funds

Transfer

Item codingAnd databasemaintenance

ECR Improvement concepts

Improvement Concepts

• Demand Management: which covers those activities focused on improving the product offering to consumers

• Supply management: which covers several initiatives designed to improve the flow of product through the supply chain

• • Enabling Technologies: which are activities that act as enablers for

the other ECR improvement concepts, many of which are related to electronic commerce

For ECR to be successful. Seven basic capabilities are required from manufacturing and retail firms.

• Integrated EDI• Continuous Replacement• Computer assisted ordering• Flow through distribution• Activity based costing• Category Management – to optimize design, promotion, stocking

etc.• Flexible manufacturing – to match production with actual

demand.

Vision of the ECR System

Timely, accurate, paperless information flow

Anatomy of ECR

Consumer purchasesProduct ‘A’ from a Supermarket. The transaction is recordedby the stores scanner.

The scanner forwards the Transaction record to an Instore computer. The product‘A’ manufacturer whose computersInterface with the retailer’s, notes The transaction & automaticallyReorders a replacement unit of JIT basis.

Smooth, continuous product flow matched to consumption

An automatic orderingsystem allows the Product ‘A’ supplierto match production withdemand using productmovement information& forecasting

Because production is tied directly into demand,retailers become increasingly freed from the needfor excess inventory, thus opening the door for increased cross docking & direct store delivery.

The retailer’s in store computer acknowledgesreceipt of the shipment and automatically issues a computer generated payment or electronic fund transfer payment, eliminatingthe need for paper invoices & streamlining the accounting process.

Supplier DistributorRetailer

StoreConsumerhousehold

ECR – Broad Operations

Integrated EDI

Continuous Replenishment

Computer OrderingABCFlexible Mfg.

ManufacturingBusinessStrategy

Retail BusinessStrategy

Replenishment

Promotion

Store Assortment

Product Introduction

Replenishment

Promotion

Store Assortment

Product Introduction

Change Management

Open Communication

Before ECR

Supplier Warehouse 38 days

Distributor Warehouse(Forward buy 9 days)turn inventory 31 days

40 days

Retail store 26 days

Consumerpurchase

Packing Line

104 days

After ECR

Supplier Warehouse

27 days

Distributor Warehouse

12 days

Retail store 26 days

Consumerpurchase

Packing Line

61 days RWL/LV/PT-17

Cost Structure of Dry Grocery Supply ChainReducing prices by 10.8%

100 = Average consumer price in present dry grocery system

42.7

9.7

4.1

8.1

5.0

18.3

12.1

100

40.8

8.2

3.0

6.2

4.8

16.4

9.8

89.2Operating ProfitStore operationsAdministrative

LogisticsSelling buyingMarketing

Cost of Goods

Present ECR

Bull Whip EffectThe Supply Chain

External Demand

Retailer

Wholesaler

Distributor

Factory

Order LT

Order LT

Order LT

Delivery LT

Delivery LT

Delivery LT

Production LT

BULLWHIP EFFECT

1. Information reduces inventory in supply chain 2. Information enables make better forecasts, accounting for promotions

and market changes3. Information results in coordination of manufacturing and distribution

systems strategies.4. Information enables retailers to better serve their customers by offering

tools for locating desired items.5. Information enables retailers to react and adapt to supply problems more

rapidly.6. Information enables lead time reduction.

Increase in variability as we travel up in S.C. is referred to as “Bullwhip Effect”

Variability of orders placed by customers

Variability of orders placed by retailers

variability of orders placed by Distributors

wholesaler is forced to carry more inventory as safety stock.

Factory DistributorWholesaler RetailerCustomer

Order

Time Factors -

Demand forecastingLead timeBatch orderingPrice fluctuations, inflated order.

RWL/LV/PT-17

Order Point = L x AVG + Z. STD x L = Lead TimeAVG = Average demandSTD = Standard deviationt = period

L

Yt = µt.L + Z.Root L .St µt = average daily demand St = Standard deviation of daily demandt = period

L

Retailer uses moving average technique

p

pDi t

t1

ti

p

t)(Di pt

1t

ti2

S

P = observationsRWL/LV/PT-17

2

2

P

2L

P

2L1

Var(D)

Var(Q)

12

10

8

6

4

2

0

5 10 15 20 25 30

Var

iabi

lity

P P - is largeL - smallVariability - Low

1.4 (D)Var

(Q)Var

L1 + L2 + L3 = 6 periods RWL/LV/PT-17

Summary of Impact on Promotion Timing

Factor• High forward buying

• High ability to steal market share

• High ability to grow overall market• High margin

• Low margin

• High holding costs• High costs of changing inventory

Impact on timing of promotion• Favours promotion during low demand

periods.• Favours promotion during peak

demand periods.• Favours promotion during peak

demand periods.• Favours promotion during peak

demand periods.• Favour promotion during low demand

periods.• -----” ----------• -----”-----------

Directions for Replacement Logistics

Direction Objectives Key Programs

Continuousreplenishment(CRP)inventorysystems.

Bring supply more inline with the rhythmof demand

Automatic system thatenables distributors tostock and reordergoods based on actualconsumer sales.

Flow throughdistributionsystems.

Space utilizationhandling activities,time and costs

Increase product flow Reduce inventory

timely, coordinatedtransport and materialhandling.

Pipelinelogisticsorganizations

Institutionalize keyproduct flowprocesses, cultivatetotal pipe line view'and coordinateoperations.

New role andresponsibilities thatremove barriers tocommunication,coordination,accountability, provideincentives.

Pipelineperformancemeasures

Objectives formanagementcontrol of andmotivatingappropriatedecision making.

Precise criteria, accuratedecision rules, consistentprocedures that supportobjectives

RWL/LV/PT-17

Guidelines for performance Improvement

1. Maintain inventory at four-month level during current year. Reduce to three months level over the course of next two years.

2. Establish & maintain a customer service level of 92% product availability for all regular line items & have such items ready for shipment within five days of receipt of order.

3. Develop procedures to maintain logistics operating expenses at 3.5% of sales during current year.

4. Reduce transportation expenses, including private fleet, to 2.5% of sales during current year, & reduce them to 2.4% next year.

5. Reduce freight shipment damage rate to 1% of total sales.

6. Maintain employee turnover rate at 12% per year.

7. Achieve and/or exceed overall satisfaction objectives.

Discounts

Supply Chain Management

• Quantity discount results in Improved coordination in supply chain & extraction of surplus through price discrimination.

• Lot size based quantity discounts are justified only for commodity products for which price is fixed by market.

• Lot size based quantity discount results in SC coordination, decrease SC costs but increase cycle inventory.

• Lot size based quantity discounts are not optimal for the SC for the products for which firm has a market power. Volume based discounts can be used to achieve coordination in SC & maximize SC profit..

• For products, for which demand increases, when price declines, it is better to offer volume based discounts because supply chain profit increases.

• Short Term Discounting• Trade Promotions: It is done for a short period

by offering discounted price to induce sales, shift inventory from manufacturer to retailers & to customers and also to defend brand against competition.

• They lead to significant increase in lot size, cycle inventory and generally reduce SC profit unless trade promotions reduces demand fluctuations.

• The Supply chain profit is lower if each stage of the supply chain independently makes its pricing decisions with the objective of maximizing its own profit. A coordinated solution results in higher profit. Price Determination to maximize profits at the manufacture may also be a reason to offer quantity discounts within a supply chain. Discounts related to price discrimination will also be volume based and not lot size based.

• Faced with a short term discounts, it is optimal for retailers to pass through only a fraction of the discount to the customer, keeping the rest for themselves. Simultaneously, it is optimal for the retailer to increase the purchase lot size and forward buy or future periods. This leads to an increase of cycle inventory in the supply chain as the result of a trade promotion without a significant increase in customer demand.

• Product Fill Rate-It is a fraction of product demand that is satisfied from product in inventory. It is equivalent to the probability that the product demand is supplied from available inventory.

• Order Fill Rate- It is the fraction of orders that are filled from available inventory.

• Cycle Service Level: It is the fraction of replenishment cycles that end with all the customer demand being met.

• Both fill rate and cycle service level increase as the safety inventory is increased.

• For the same safety inventory, an increase in lot size increases the fill rate but not cycle service level.

• Inventory lot size has no impact on cycle service level but increases fill rate.

• This is because increase in lot size results in fewer replenishment cycles.

• The cycle service level is equal to the probability of not having a stockout in a replenishment cycle.

• Product Substitution: • Manufacture driven- When the product is not

available so substituted by another product that can satisfy purpose.

• Customer driven- If the product is not available, customer decides to buy another which can satisfy him.

• Component Commonality- Component inventories are held in SC. PC contains several components. When SC produces large variety of products, component inventories can become very large.