Case Study (Working Capital Management)

Issue of Nike:
In Nikes situation, they ran into some serious software implementation issues which
are bugs, and data errors and resulted in incorrect demand forecast. The predictions the
software made were totally off, so Nike didnt produce enough of certain products that
consumers were interested in buying. Conversely, they overproduced other Stock keeping
Unit (skus) . This erroneous manufacturing plan eventually resulted in lost sales worth
millions of dollars.

Suggestion can be made in an inventory control

The ABC analysis or selective inventory control is an inventory categorization

technique that Nike can used to solve their problem. ABC analysis divides an inventory into
three categories. A is with very tight control and accurate records, B items with less tightly
controlled and good records, and C items with the simplest controls possible and minimal
records.

In 2001, Nike has updated version of their inventory management software and this
idea was to help predict which their product can be a high demand. But this new version that
Nike update have some issues with bugs, and data errors which resulted in incorrect demand
forecast. By using the analysis of ABC Nike needs to choose an appropriate order pattern to
avoid excess capacity. ABC analysis is a method of tiered inventory or supplier valuation that
divides inventory. Nike have to use the ABC analysis to identify the objective for the analysis
and determine success criteria. To collect data on the Nike inventory under analysis is the
most common data, generally available from standard accounting already in place, is annual
spend per item. This can be in terms of raw purchase dollars or weighted cost including all
ordering costs and carrying costs, if those can be readily calculated. Nike should have tight
inventory control, more secured storage areas and better sales forecasts. Reorders should be
frequent, with weekly or even daily reorder. Avoiding stock outis a priority.

ABC analysis is a valuable tool to enable companies dedicated to strategic cost

management to measure the current status for their materials management system. Nikes
situation the simple changes that can yield the largest cost management benefits in the near
and middle term periods.

1. ABC analysis:

The basic work in this always better control analysis is the classification and
identification of different types of inventories, for determining the degree of control required
for each. In many firms it is found that they have stocks which are used at very different
rates. So items are classified under three broad categories A, B and C, on the basis of usage,
bulk, value, size, durability, utility, availability, criticality and should be controlled with due
weightage to differential characteristics.

The items included in group A involve largest investments and the inventory control
should be most severe to these items. C group consists of inventory items which involve
relatively small investments although the number of items remains large. These items deserve
minimum attention of control. In B group that items are included which are neither of A nor
C. This method can be explained by the following exhibit.

Example:
Classification of Inventory Items:

Class No. of Items Value of Items (per

(per cent of cent of total)
total)

A 20 85

30 10

50 5

Total 100 100

 From the figure it can be observed that there are comparatively few items in A but
they constitute a large proportion of the total rupee value; B items are in the intermediate
range and C items are numerous but inexpensive.

The purpose behind the distribution by value analysis is Always Better Control.
Donald G. Hall recommends that different attitudes shall be adopted in inventory
managementaggressive for class A items, active for class B items and loose for class C
items; and that each category should be given the attention as deserves. Recommends for
order of selective control:

A B Items C Items
Items

1. Control Tight Moderat Loose

e

2.Requirement Exact Exact Estimated

s

3. Postings Individu Individu Group

al al

4. Check Close Some Little

5. Expediting Regular Some None

6. Safety Low Medium Large

Stocks

2. Economic order quantity model:

 Nike produce demand forecast, then, they would prepare a manufacturing plan. So,
the basic decision in an economic order quantity (EOQ) procedure is to determine the amount
of stock to be ordered, at a particular time so that the total of ordering and carrying costs may
be reduced to a minimum point. Nike should place optimum orders and neither too large nor
to small. EOQ also is the level of inventory order that minimizes the total cost associated
with inventory. The EOQ model is based on following four assumptions, which are:

(i) A firm has a steady and known demand of D units each period for a particular input.

(ii) The firm consumes the input at a uniform rate.

(iii) The costs of carrying stocks are a constant amount C per unit per period.

(iv) The costs of ordering more inputs are a fixed amount O per order. Orders are delivered
instantly.

A useful formula for calculating the optimum order quantity is:

EOQ = 2DO/ C

Example:

A firm has an annual inventory requirement of 10,000 units. The accounting costs
associated with placing an order with the supplier come to Rs. 200 per order and the carrying
costs of holding stocks are expected to be Rs. 4 per unit.

Hence, D=10,000 units

0=Rs. 200

C=Rs. 4

EOQ = 2 x 10,000 x 200/ 4

= 10,00.000

= 1,000 units

Therefore, 1000 units should be ordered every 37 days.

 In a conclusion, Nike Company should use EOQ model because it is very simple one
and the EOQ analyses the trade-off between order costs and carrying cost to determine the
order quantity that minimizes the total inventory costs.

3. Re-order point:
Nike overproduced other stock keeping units (SKUS). This erroneous manufacturing
plan eventually resulted in lost sales worth millions of dollars. So, after determined EOQ,
Nike Company must know the inventory management about when to place the order for
avoiding the stock-out position.

The reorder point ( ROP is calculated as the lead time the firm needs to place and
receive an order and the firms daily usage of the inventory item. The lead time is the time lag
between raising an order and the goods being delivered.

For example, if the normal daily usage of materials is 100 units and it takes 30 days
for the supplier to deliver the goods, then an order must be sent out when the stock level
reaches 3,000 units. If safety stocks are held then re-order level should be:

Safety stock+ (lead time x daily usage)

Another method of ordering is the two bin and three bin systems. These involve
putting a quantity equal to the re-order level in a separate bag or bin which is sealed or put in
a separate location; the rest of the stock is withdrawn as needed with no record of individual
usage being kept.

Opening the sealed bin, however, gives the indication for a replenishment order. This
method is cheap as it does not entail continuous, monitoring and is easy to understandit has
therefore gained a fair amount of acceptance. There are also other types of system in use
known as the min-max or S-s method. However, an organization will have to take care of
the lead time with sufficient initial stock and then follow it up regularly with EOQ cycles.

Instead, lead time and usage rates are not precise, so Nike Company should hold
safety stock (extra inventory) to prevent stock outs of important items.
4. Just in time system (JIT)

Based on historical sales data of different product, Nike prepare different families of
product. Just-in-time (JIT) is an inventory strategy companies employ to increase efficiency
and decrease waste by receiving goods only as they are needed in the production process,
thereby reducing inventory costs. This method requires producers to forecast demand
accurately.

This inventory supply system represents a shift away from the older just-in-case
strategy, in which producers carried large inventories in case higher demand had to be met.
So, through using JIT system, Nike Company would have only work-in-progress inventory,
then, the objective is to minimize inventory investment. In the addition, JIT system uses no
(or very little) safety stock.