RG

SCM 300 Module 2

Lead Time vs. Lot Size

  • Lead Time: Time between a customer placing an order and receiving it.
  • Lot Size (Order Size, Q): Quantity ordered in a single purchase.
  • Interplay: Long lead times often push firms toward larger lot sizes to avoid stock-outs; large lots raise holding cost and risk.

Inventory: Basics & Considerations

  • Definition: Stock of any item/resource used in an organization—includes goods for sale and items required for daily operations.
  • Types of Inventory
    • Raw Materials / Components
    • Work-in-Process (WIP)
    • Finished Goods
    • Spare or Replacement Parts
    • Capital Equipment & MRO (Maintenance, Repair & Operations)
  • Key Issues to Consider
    • Storage: space, temperature, energy, handling, lease/buy decisions, cost.
    • Transport: vehicles, insulation/heating, fuel, labor, packaging, cost.
    • Shrinkage: pilferage, security, losses, damage, obsolescence.
    • Money: cash tied up, financing, taxes, insurance.
    • Legal: licenses, certifications, regulatory limits.
    • Other limits: quotas, space, security, cash flow.

Inventory Risk vs. Need

  • Balance between having enough inventory to satisfy demand and mitigating risks (loss, cost, obsolescence).

Supply-Chain Risk & Insurance Strategies

  • Risks: loss, damage, theft, machine breakdowns, transportation accidents, labor issues, demand fluctuation, market shifts, environmental/political events, epidemics, crime, technology changes.
  • Insurance Mindset
    • BUY IT risks: theft, late shipment, poor quality.
    • MAKE IT risks: labor shortage, machinery failure, demand spikes.
    • MOVE IT risks: logistics, distance, transit theft.
    • SELL IT risks: retail shrink, high demand, damage.
    • SERVICE IT risks: defects, warranty repairs.

Market Needs & Inventory Strategies

  • Customers expect rapid fulfillment—inventory enables quick response.
  • Cost management via: economies of scale, quantity discounts, manufacturing efficiencies.

Types of Inventory

  • Long-Term Inventory
  • Seasonal Inventory
  • Perishable Inventory
  • Safety Stock
    • Cushion to protect against uncertainty in demand, lead time, or supply.
    • Not intended for regular consumption—acts as insurance.
  • Anticipation Inventory
    • Built to absorb predictable, uneven demand (seasonality, holidays) or capitalize on quantity discounts.
  • Pipeline Inventory
    • Orders already placed but not yet received/paid for; “inventory on its way.”
    • Formula: ext{Pipeline} = dL where d = periodic demand, L = lead time (same units).
    • Example: 5 units/day flowing through a 3-day pipeline ⇒ 5 \times 3 = 15 per SKU; six SKUs ⇒ 90 total units.

Demand Forecasting

Qualitative Methods

  • Solicit opinions from executives, experts, sales force, consumers.
  • Useful when data are irrelevant, lacking, or for new products/markets.
  • Wisdom of crowds: group may outperform individual expert under right conditions.

Quantitative Methods

  • Value: objectivity and repeatability; Limits: quality of data, assumption of continuity.
  • Causal (e.g., linear regression) vs. Time-Series (averages, trends, seasonality).

Simple Moving Average (SMA)

  • Forecast = average of demand over the last n periods.
  • Best for fairly stable demand.
    Example: 4-period SMA for Week 13 → (25{,}396 + 26{,}256 + 29{,}365 + 28{,}227)/4 = 27{,}311 units.

Weighted Moving Average (WMA)

  • Recent periods receive higher weights; \sum w_i = 1.
  • 3-period WMA Example for Period 13 (weights 0.2, 0.3, 0.5):
    26{,}260(0.2) + 28{,}230(0.3) + 31{,}360(0.5) = 29{,}401 units.
  • 4-period WMA Example for Period 10 (weights 0.1,0.2,0.3,0.4):
    26{,}269(0.1)+26{,}452(0.2)+26{,}804(0.3)+25{,}396(0.4)=26{,}116.9 units.

Cost of Inventory

  • Purchase Cost (Item Cost) DC
  • Holding/Carrying Cost: warehouse rent, security, depreciation, obsolescence, handling, insurance, opportunity cost.
  • Ordering Cost: salaries, e-procurement, delivery fees, negotiation, legal analysis.
  • Stock-out (Customer Service) Cost: backorders, lost sales, penalties, customer ill-will.

High Inventory Levels

  • Pros: quantity discounts, fewer stock-outs, fewer orders (lower S), transportation economies.
  • Cons: higher holding cost, handling cost, shrinkage/obsolescence, tied-up capital.

Average Inventory

  • For constant lot size Q under basic EOQ model: \text{Avg Inv} = Q/2.

Total Cost of Inventory & Economic Order Quantity (EOQ)

Total Annual Cost Formula

TC = DC + \frac{Q}{2}H + \frac{D}{Q}S

  • D = annual demand.
  • C = unit cost.
  • H = holding cost per unit per year.
  • S = cost to place a single order.

EOQ Derivation

  • Optimal Q occurs when Annual Holding Cost = Annual Ordering Cost:
    \frac{Q}{2}H = \frac{D}{Q}S
    Q = EOQ = \sqrt{\frac{2DS}{H}}
  • Guarantees lowest TC given constant D,C,H,S and no quantity discounts.

Practice Problem

  • Given: D = 15{,}000 units, C = \$10, H = 0.30C = \$3, S = \$125.
  • EOQ:
    Q = \sqrt{\frac{2(15{,}000)(125)}{3}} \approx 1{,}118 units.
  • Total Cost @ EOQ:
    TC = 150{,}000 + \frac{1{,}118}{2}(3) + \frac{15{,}000}{1{,}118}(125)
    = 150{,}000 + 1{,}677 + 1{,}678 \approx \$153{,}355.
  • Time Between Orders (weeks):
    TBO = \left( \frac{Q}{D} \right) 52 = \left( \frac{1{,}118}{15{,}000} \right) 52 \approx 3.88\text{ weeks}.

EOQ Inputs & Limitations

  • Exact lot size/timing may be infeasible; storage space limits; ignores quantity discounts; assumes constant demand & lead time.

Purchasing Process

  1. Requisition (Material Requisition) – internal communication of need.
  2. Supplier Selection (Request for Quotation) – assess availability, current/new suppliers.
  3. Place Order (Purchase Order) – may involve analysis, negotiation, contracts, reorder systems.
  4. Track Order – monitor delivery status, coordinate space.
  5. Receive Order – inspect, record, shelve.
  • Cost categories: mostly Ordering Cost; some Quality & Handling costs.

Make-or-Buy Decision

  • Make when proprietary tech, no competent supplier, better quality control, idle capacity, need tighter control.
  • Buy when insufficient capacity, lack of expertise, outside supplier superior in cost/quality.

Centralized vs. Decentralized Purchasing

  • Centralized: volume leverage, avoid duplication, specialization, consolidated shipping, common supplier base.
  • Decentralized: better local knowledge, local sourcing relationships, shorter lead times, greater flexibility, less bureaucracy.
  • Hybrid: certain categories centralized, others decentralized.

Choosing a Supplier

  • Start with stakeholder (end-user) needs: cost, quality, speed, flexibility.
  • Plant/warehouse location vs. transportation cost, lead time, inventory needs, shrinkage risk.
  • Technology: tracking, data accuracy, systems compatibility.
  • Commitment to continuous product & service improvement, R&D investment.
  • Ability to scale with growth; evaluation of 2nd/3rd-tier supplier quality.

Supplier Management Tools

Supplier Certification Programs

  • Demonstrate commitment to quality/performance; narrow approved supplier pool; rely on international (ISO) or in-house standards; require ongoing recertification.

Supplier Scorecards

  • Quantify and communicate performance expectations; enable data-driven discussions; foster supplier development.

Supplier-Partnering Hierarchy (Liker & Choi, HBR 2004)

  1. Understand how suppliers work – on-site visits, respect capabilities.
  2. Turn supplier rivalry into opportunity – dual sourcing, compatible philosophies.
  3. Supervise suppliers – monthly scorecards, immediate feedback, senior management involvement.
  4. Develop suppliers’ technical capabilities – build problem-solving skills, common lexicon.
  5. Share information intensively but selectively – structured meetings, accurate data.
  6. Conduct joint improvement activities – exchange best practices, study groups.
  • Goal: deeper relationships enabling co-prosperity, innovation, risk reduction.