Slide 1Slide 2Slide 3Slide 4Slide 5Slide 6Slide 7Slide 8Slide 9Slide 10Costs Associated with BatchesSlide 12Slide 13Slide 14Slide 15Slide 16What do we learn from the EOQ formula ? How does the ordering policy change if …Slide 18Slide 19Slide 20Slide 21Slide 22Slide 23Slide 24Slide 25Example: say we increase ROP to 140 (and keep order size at Q = 520)Slide 27Slide 28Slide 29Slide 30Slide 31Slide 32Slide 33Comprehensive Financial Evaluation: Inventory Costs of Palü GearSlide 35Slide 36Slide 37Slide 38Slide 39Slide 40Slide 41Palü Gear’s Internet restructuring: comprehensive financial inventory evaluationLearning Objectives: centralization/poolingImproving Supply Chain Performance: 2. Postponement & Commonality (HP Laserjet)Slide 45Tailored Inventories: PostponementSlide 47Postponement and Re-assortment: The Advantage to ForecastingSlide 49Optimal Service Level and Accurate Response to Demand Uncertainty when you can order only once:Optimal Service Level and Accurate Response: with Excel (1) Performance for a given order Q, say Q = 2000Optimal Service Level and Accurate Response : with Excel (2) Performance for all possible QSlide 53Slide 54Slide 55Slide 56Slide 57How do we deal with uncertainty?Supply Chain ManagementManaging the Supply ChainKey to matching demand with supplyCost and Benefits of inventoryEconomies of ScaleInventory management of a retailer: EOQ + ROP Levers for improvementSafety StockHedging against uncertaintyRole of lead timeImproving PerformanceCentralization & Pooling efficienciesPostponementAccurate ResponseWhat is a Supply Chain?What makes a “good” Supply Chain?The Procurementor supply systemThe OperatingSystemThe Distribution SystemRaw Materialsupply pointsMovement/TransportRaw MaterialStorageMovement/TransportMovement/TransportPLANT 1PLANT 2PLANT 3WAREHOUSEWAREHOUSEWAREHOUSEMovement/TransportMARKETSManufacturingFinished GoodsStorageABCCorporate FinanceCISCO SELECTRONCurrent AssetsBS/ 2000 BS/2000Cash &Equivalents4,234 1,475.5Short-term investments1,291 958.6AR2,299 2,146.3Inventories1,232 %11 3,787.3 %44Deferred Income2,054 260.5Total Current Assets11,110 8,628.2Inventories represent about %34 of current assets for a typical company in the US; %90 of working capital.For each dollar of GNP in the trade and manufacturing sector, about 40cents worth of inventory was held.Average logistics cost = 21c/dollar = %10.5 of GNP.45Solectron’s executive officer compensation plan•Base compensation•Bonuses–“The Bonus Plan provides for incentive compensation ... based on certain worldwide, site and individual performance measures. Worldwide and site performance are measured based on targets w.r.t. profit before taxes, inventory turns, days sales outstanding and return on assets. The Compensation Committee believes that these factors are indicative of overall corporate performance and shareholder value.” [compensation committee report FY 96]•Long Term Incentive CompensationSupply Chain MetricsCosts of not Matching Supply and Demand•Cost of overstocking –liquidation–obsolescence–holding •Cost of under-stocking –lost sales and customer goodwill–lost marginWhy hold Inventory?•Economies of scale–Fixed costs of ordering/manufacturing–Quantity discounts–Trade Promotions•Uncertainty–Information Uncertainty–Supply/demand uncertainty•Seasonal Variability•Strategic–Flooding, availabilityCycle/Batch stockSafety stockSeasonal stockStrategic stockCost of Inventory•Physical holding cost(out-of-pocket)•Financial holding cost(opportunity cost)•Low responsiveness–to demand/market changes–to supply/quality changesHolding cost (H)Costs Associated with Batches•Ordering costs (S) –Changeover of production line (Set-up)–Transportation (Delivery)–Receiving•Holding costs (H = r C)–Physical holding cost–Cost of capital (r)–Cost of obsolescencePalü Gear: Retail Inventory ManagementAnnual jacket revenues at a Palü Gear retail store are roughly $1M. Palü jackets sell at an average retail price of $325, which represents a mark-up of 30% above what Palü Gear paid its manufacturer. Being a profit center, each store made its own inventory decisions and was supplied directly from the manufacturer by truck. For each order up to 5000 jackets, the manufacturer charges a flat fee of $2,200 for delivery. To exploit economies of scale, stores typically orders 1500 jackets each time it places an order. (Palü’s cost of capital is approximately 20%.) What order size would you recommend for a Palü store in current supply network?Palü Gear: Evaluation of current policy of ordering 1500 units each time1. What is average inventory I?I = Annual cost to hold one unit H = Annual cost to hold I = 2. How often do we order?Annual throughput R =# of orders per year = Annual order cost =3. What is total cost?TC =Can we do better ?Find the most economical order quantityMethod 1 : EnumerateNumber of units Number ofper order/batch Batches per Annual Annual AnnualQYear: R/Q Setup Cost Holding Cost Total Cost50 62 135,385$ 1,250$ 136,635$ 100 31 67,692$ 2,500$ 70,192$ 150 21 45,128$ 3,750$ 48,878$ 200 15 33,846$ 5,000$ 38,846$ 250 12 27,077$ 6,250$ 33,327$ 300 10 22,564$ 7,500$ 30,064$ 350 9 19,341$ 8,750$ 28,091$ 400 8 16,923$ 10,000$ 26,923$ 450 7 15,043$ 11,250$ 26,293$ 500 6 13,538$ 12,500$ 26,038$ 510 6 13,273$ 12,750$ 26,023$ 520 6 13,018$ 13,000$ 26,018$ 530 6 12,772$ 13,250$ 26,022$ 540 6 12,536$ 13,500$ 26,036$ 550 6 12,308$ 13,750$ 26,058$ 600 5 11,282$ 15,000$ 26,282$ 650 5 10,414$ 16,250$ 26,664$ 700 4 9,670$ 17,500$ 27,170$ 750 4 9,026$ 18,750$ 27,776$ 800 4 8,462$ 20,000$ 28,462$ 850 4 7,964$ 21,250$ 29,214$ 900 3 7,521$ 22,500$ 30,021$ 1000 3 6,769$ 25,000$ 31,769$ $-$20,000$40,000$60,000$80,000$100,000$120,000$140,000$160,0000 100 200 300 400 500 600 700 800 900 1000Order (batch) size QSetup CostHolding CostTotal CostEconomies of Scale: Inventory Build-Up DiagramR: Annual demand rate (units/yr),Q: Number of jackets per