Inventory planning

1. Chapter 12: Inventory planning and...
Study guide
This chapter is relatively unusual in so much as it takes more of a quantitative approach to its
topic. While not avoiding quantitative models where they are appropriate, the general approach
of this book is to deal with operations management from a ‘general management’ point of view.
Here we include some quantitative models of how inventory is managed mainly to demonstrate
that some parts of the inventory decision can be quantified. In practice, most of these decision
models will be embedded within an operation’s routine stock control computer system.
However, whilst working through them remember that it is the underlying principles behind the
models which are more important than the mathematics on which the models are based.
Your learning objectives
This is what you should be able to do after reading Chapter 12 and working through this study
guide.
Understand what is meant by an inventory and why they exist.
Identify some of the advantages and disadvantages of keeping inventory in an
operation.
Understand the basic principles behind the quantitative approaches to deciding how
much inventory to keep.
Be able to describe the limitations of traditional quantitative models of inventory
decision making.
Identify the two main approaches to managing inventory on an on-going basis.
What do we mean by inventory?
The chapter discusses inventory (we use the word interchangeably with the word ‘stock’)
predominantly as accumulations of transformed input resource. In fact, usually as
accumulations of material, parts or products. It does however mention the broader use of the
word inventory or stock to denote the organisation’s ‘stock’ of people, machines, and other
assets. You often hear economists talking of a stock of resources in this way. From here on
however we use the word exclusively to mean an accumulation of materials.

2. Stock is both good and bad
The problem with inventory management is that keeping stock has both advantages and
disadvantages.
The advantages include,
Inventory allows customers to be served quickly and conveniently (otherwise you
would have to make everything as the customer requested it).
Inventory can be used so a company can buy in bulk, which is usually cheaper.
Inventory allows operations to meet unexpected surges in demand.
Inventory is an insurance if there is an unexpected interruption in supply from outside
the operation or within the operation.
Inventory allows different parts of the operation to be ‘decoupled’. This means that they
can operate independently to suit their own constraints and convenience while the
stock of items between them absorbs short-term differences between supply and
demand. In many ways this is the most significant advantage of inventory.
The disadvantages of inventory include,
It is expensive. Keeping inventory means the company has to fund the gap between
paying for the stock to be produced and getting revenue in by selling it. This is known
as working capital. There is also the cost of keeping the stock in warehouses or
containers.
Items can deteriorate while they are being kept. Clearly this is significant for the food
industry whose products have a limited life. However, it is also an issue for any other
company because stock could be accidentally damaged while it is being stored.
Products can become obsolescent while they are being stored. Fashion may change
or commercial rivals may introduce better products.
Stock is confusing. Large piles of inventory around the place need to be managed.
They need to be counted, looked after and so on.
The objectives of inventory planning and control
Generally the operations objectives of managing the company’s inventories include the
following.
Quality – products need to be maintained in as good a condition as possible while they
are being stored. For perishable products this means not storing them for very long.
Speed – inventories must be in the right place to ensure fast response to customer
requests.
Dependability – the right stock must be in the right place at the right time to satisfy
customer demand. There is no point having the wrong products in stock.
Flexibility – stock should be managed to allow the operation to be flexible. For
example, that may mean keeping sufficient stock to allow the operations processes to
switch to producing something else and yet being able to satisfy customers during that
period from existing stock levels.
Cost – if possible the total cost of managing stock levels should be minimised. This is
the objective of the various quantitative models covered in the chapter.
Stock sometimes has unexpected advantages

3. In some organisations stock may increase in value while it is being kept. For example the two
photographs on page 378 give examples of the value-adding characteristic of stock. In the first
one wine is being matured. When it is first harvested the wine is of relatively low value.
Keeping it in special casks under the right conditions enhances its value considerably. Similarly
the computer monitors illustrated are increasing in value in so much as the ones which are
likely to fail early in their life are being identified. They will therefore not be shipped to
customers and fail in use, which could damage the company’s reputation. Another example is
where a company deliberately purchases more stock than it needs because it feels the
availability of the material or the price of the material is likely to change. Of course this is risky.
Many companies have suffered severely by speculative purchasing of this type to avoid price
increases only to see the prices drop.
Inventory Planning Metrics
Chainalytics’ Inventory Planning Metrics can help you create a program to monitor, manage, and reduce
the impact of business variability on your inventory operations. By defining and interpreting key metrics,
you will be able to uncover sub-optimal or underperforming activities and effectively evaluate your
inventory planning performance. Chainalytics’ approach will help you compare actual results to plans and
measure critical elements such as forecast to actual demand, inventory performance to plan, and
replenishment performance to plan. The scope of this service can range from a one-time implementation
of a performance tracking program to a recurring service.
Chainalytics’ Inventory Planning Metrics can help you improve your inventory performance by answering
the following questions:
How should we measure our inventory planning performance?
What activities should we evaluate more thoroughly?
Where does variance occur in my network? Why does it occur?
Where should we focus improvement efforts?
What is the cost penalty of particular decisions, such as changing product flow paths or adding new
stocking locations?
How can I modify operational processes to keep variance to a minimum?
How much of our planning variance is due to controllable factors? How much is due to uncontrollable
factors like service requirements or fuel costs?
Are we interpreting performance measurement results correctly?
How can I identify and capture opportunities to reduce inventory costs?
Which system is best suited for my organization?