costing inventory management-1.ppt
TRANSCRIPT
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INVENTORY MANAGEMENT
BY: Rajeev Sharma
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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.
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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?
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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.
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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.
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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 !
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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
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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
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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
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How would you like to express yourself
after watching the data
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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?
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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 ?
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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
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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
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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
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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.
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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.
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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.
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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
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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
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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
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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
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Inventory Management
Has three areas
In coming material control or
Purchase control
In Stores control
Issue ( Issuance to production or
retail outlet) Control
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Inventory Management
Stage 1 Stage 2 Stage 3
Purchase Stores IssueControl Control Control
Inbound Operation Outbound
Logistics Logistics
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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 ?
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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)
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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
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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
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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
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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
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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
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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
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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
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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
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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)
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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.
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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
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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
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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
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A Category B Category A Category
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.
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A Category B Category A Category
Vital AV
Essential BE
Desirable CD
Q C3) What is ABC analysis? In case of NANZ LO` BILL shop following data of
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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?
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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)
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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
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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
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Average inventory
MIOL + EOQ
Or
(MIOL + MAOL) /2
Or
ROL ( Max/Min/Nor Lead-time X
Max/Min/Nor Consumption) + EOQ
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MAOL
EOQ ( Min Consumption X Min LT)
ROL = EOQ
Avg. Consumption X Avg. LT
MIOL
Danger Level
(Avg. consumption @ Max LT for urgent purchase)
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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
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MAOL= 650 units
EOQ ( Min Consumption X Min LT)=200 units
ROL = 450 Units
Avg. Consumption X Avg. LT= 250 Units
MIOL=200 Units
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EOQ
PLEASE MOVE TO LINK
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THANKS
Move to EOQ2
S S OC
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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
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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
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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
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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
LExcessive consumption of inventory during the lead time, leadingto stock out
10days
7 days
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Inventory decreases at constant rate
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
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Inventory decreases at constant rate
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
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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
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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