Documente Academic
Documente Profesional
Documente Cultură
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Min
Formulating Facility NW Regional Location Problem
August 2010 63
Capacitated allocation IPP model- phase II
Result of Solver for regional location problem
August 2010 64
Solution by Excell-solver
Phase III- Desired Location
to reduce response time and transportation
Gravity model
August 2010 65
Ton-km Center Solution
x,y: Warehouse Coordinates
x
n
, y
n
: Coordinates of delivery
location n
d
n
: Distance to delivery
location n
D
n
: Annual tonnage to
delivery location n
F
n
= Transportation cost per
ton-km
=
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+ =
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n n
n
k
n n
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k
n n
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k
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n
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d
F
D
d
F
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d
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d
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1
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2
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Excell solution for Desired location- Gravity Model
August 2010 66
Phase IV- Site Selection & Capacity Allocation
Based on results of phase III for desired location sites,
decisions are taken to select nearby sites for
warehouses, assembly/ cross-docking or manufacturing.
Transportation model is again used with new data for
selected desired sites to allocate demand and supply to
these sites. Phase III and IV decisions must consider the
response time requirements.
Difference between phase II and IV models is that phase II
model uses variable production and regional transport
costs. It also consider fixed/ overhead costs of
production to decide plant locations, but Phase IV model
uses only transportation/ distribution costs for allocating
demands to supply facilities.
August 2010 67
Phase IV- Site Selection & Capacity Allocation
Based on results of phase III for desired location sites,
decisions are taken to select nearby sites for
warehouses, assembly/ cross-docking or manufacturing.
Transportation model is again used with new data for
selected desired sites to allocate demand and supply to
these sites. Phase III and IV decisions must consider the
response time requirements.
Difference between phase II and IV models is that phase II
model uses variable production and regional transport
costs. It also consider fixed/ overhead costs of
production to decide plant locations, but Phase IV model
uses only transportation/ distribution costs for allocating
demands to supply facilities.
August 2010 68
Phase IV Capacity Allocation
August 2010 69
Flexibility in SC Network
Flexibility in SC network plays an important role to mitigate different
risks and uncertainties. Three broad categories are:
New-product flexibility
Product-mix flexibility
Volume flexibility
Jordan and Graves make an important observation that the marginal
benefits derived from flexibility decreases with increase in flexibility.
Thus some flexibility is very valuable, too much is not worth to its costs.
Lim also observes that smaller chains contain impact of supply
disruptions more effectively than one long chain.
August 2010 70
Factory, Products
Dedicated NW Full flexible NW
Chained NW,
one long chain
Short Chained
(Contained NW )
Facility Location - Generalized model- Notations
D
j
=Annual demand from customer j, m= number of demand points indexed by j
W
e
= ware house capacity at site e, t= number of warehouses indexed by e
K
i
= factory capacity at site i, n= number of factories indexed by i
S
h
= supply capacity at supplier site h, l= number of suppliers indexed by h
F
i
= fixed cost of locating plant at site i, f
e
= fixed cost of locating ware house at site e
c
hi
= cost of shipping a unit from h to i x
hi
= quantity shipped from h to i
c
ie
= cost to produce & ship a unit i to e x
ie
= quantity shipped from i to e
c
ej
= cost of shipping a unit from e to j x
ej
= quantity shipped from e to j
y
i
= 1 if factory is located at site i else 0 y
e
= 1 if warehouse is located at site e else 0
Suppliers=l Plants=n warehouses=t Markets=m
h=1 to l i=1 to n e= 1 to t j= 1 to m
August 2010 71
Part II, logistics and SCM
August 2010 72 Prof. S. N. Varma
Outsourcing and strategic alliance
Outline
Difference between bid
purchase(ReqForQt, CBE) and JIT
purchase
Role and benefits of outsourcing and
purchases
Risk of outsourcing
Impact of internet on outsourcing
Procurement strategy
For bid purchasing, component/ products
should be standardized to the extend
possible, drawings must be freezed,
detailed bid documents must be prepared,
and many suppliers should take part which
require extended advertising. JIT
purchasing, on the contrary rely on long
relationship with few suppliers, few
documents for the process of coordination
and pricing, supplier evaluation process
and standing orders for flexible volumes to
adjust to forecasts and demands.
August 2010 73 Prof. S. N. Varma
Role of outsourcing and purchase
Outsourcing is becoming an important
strategy for conventional as well as JIT
manufacturers for reducing cost of product
from 90s. It is specially useful for rapidly
changing technology and obsolescence in
products. Some of the motivations for
outsourcing are:
1. Economies of scale- suppliers aggregate
demands for this economy
2. Risk pooling- demand uncertainty
transferred to supplier who pool risk
3. Reduce capital Investment of buyer,
supplier share it with many buyers
4. Focus on core competency
5. Increased flexibility - ability to better
react to customer demands
- ability to reduce product
development time
-ability to gain access to new
technologies
August 2010 74 Prof. S. N. Varma
Risk of outsourcing
IBM had outsourced chip to Intel and Disk
Operating System (DOS) to Microsoft and
lost major opportunities
Two substantial risks are:
1. Loss of competitive knowledge and
insights to cross functional team
2. Conflictive objectives. Transferring
demand uncertainty is difficult in case of
decreasing demands. Design changes
have also to be coordinated.
Fine and Whitney classify reasons for
outsourcing into two category:
1. Dependency on capacity- the buying firm
has knowledge and skill to produce
component but still it outsource for cost
reduction
2. Dependency on knowledge- buying firm do
not have core competency
August 2010 75 Prof. S. N. Varma
Two types of products:
Two types of products:
1. Modular Product - components are
independent of each other
- components are
interchangeable
- standard interfaces are
used
- a component can be
changed independently
- customer preference determine
product configuration
2. Integral Product - cant be made from off
the shelf components
- components perform
multiple functions
- designed as single system,
top-down design
- evaluated as single system
performance
In real life very few products are truly
modular or integral. However most
products can be put between the
continuum of truly modular product like a
Computer and integral product like an
airplane
August 2010 76 Prof. S. N. Varma
Framework for make/Buy decisions
Type of Product Dependency on
knowledge and
capacity
Independent for
knowledge,
dependency for
capacity
Independent for
knowledge and
capacity
Modular Outsourcing is
Risky
Outsourcing is an
opportunity
Opportunity to
reduce cost
through
outsourcing
Integral Outsourcing is
very Risky
Outsourcing is
option
Keep production
Internal
August 2010 77 Prof. S. N. Varma
Cost and risk tradeoff in purchasing
A portfolio approach based on cost-risk
trade off can use three types of
approaches for purchasing
1. Base commitment level- for a minimum
volume at an agreed low cost
2. Flexible Option level-buyer pays small
cost upfront in return for a commitment to
get supply up to a level paying additional
for more. In this case total cost is higher
than the base commitment level cost.
3. Spot purchasing- normally for additional
supplies and competition.
August 2010 78 Prof. S. N. Varma
Quantity
Option Levels
High Inventory
Risk to
supplier
Do not Apply
Low Price and
Shortage Risk
to Buyer
Inventory Risk
to buyer
Low High
Quantity Base Commitment level
August 2010 Prof. S. N. Varma 79
12
Inventory
Management
12-81
Learning Objectives
Define the term inventory and list the major
reasons for holding inventories; and list the
main requirements for effective inventory
management.
Discuss the nature and importance of service
inventories
Discuss periodic and perpetual review
systems.
Discuss the objectives of inventory
management.
Describe the A-B-C approach and explain how
it is useful.
12-82
Learning Objectives
Describe the basic EOQ model and its
assumptions and solve typical problems.
Describe the economic production
quantity model and solve typical
problems.
Describe the quantity discount model
and solve typical problems.
Describe reorder point models and solve
typical problems.
Describe situations in which the single-
period model would be appropriate, and
solve typical problems.
12-83
Independent Demand
A
B(4) C(2)
D(2) E(1) D(3)
F(2)
Dependent Demand
Independent demand is uncertain.
Dependent demand is certain.
Inventory: a stock or store of goods
Inventory
12-84
Inventory Models
Independent demand finished goods,
items that are ready to be sold
E.g. a computer
Dependent demand components of
finished products
E.g. parts that make up the computer
12-85
Types of Inventories
Raw materials & purchased parts
Partially completed goods called
work in progress
Finished-goods inventories
(manufacturing firms)
or merchandise
(retail stores)
12-86
Types of Inventories (Contd)
Replacement parts, tools, & supplies
Goods-in-transit to warehouses or
customers
12-87
Functions of Inventory
To meet anticipated demand
To smooth production requirements
To decouple operations
To protect against stock-outs
12-88
Functions of Inventory (Contd)
To take advantage of order cycles
To help hedge against price increases
To permit operations
To take advantage of quantity
discounts
12-89
Objective of Inventory Control
To achieve satisfactory levels of
customer service while keeping
inventory costs within reasonable
bounds
Level of customer service
Costs of ordering and carrying inventory
Inventory turnover is the ratio of
average cost of goods sold to
average inventory investment.
12-90
A system to keep track of inventory
A reliable forecast of demand
Knowledge of lead times
Reasonable estimates of
Holding costs
Ordering costs
Shortage costs
A classification system
Effective Inventory Management
12-91
Inventory Counting Systems
Periodic System
Physical count of items made at periodic
intervals
Perpetual Inventory System
System that keeps track
of removals from inventory
continuously, thus
monitoring
current levels of
each item
12-92
Inventory Counting Systems
(Contd)
Two-Bin System - Two containers of
inventory; reorder when the first is
empty
Universal Bar Code - Bar code
printed on a label that has
information about the item
to which it is attached
0
214800 232087768
12-93
Lead time: time interval between
ordering and receiving the order
Holding (carrying) costs: cost to carry
an item in inventory for a length of time,
usually a year
Ordering costs: costs of ordering and
receiving inventory
Shortage costs: costs when demand
exceeds supply
Key Inventory Terms
12-94
ABC Classification System
Classifying inventory according to some
measure of importance and allocating
control efforts accordingly.
A - very important
B - mod. important
C - least important
Figure 12.1
Annual
$ value
of items
A
B
C
High
Low
Low
High
Percentage of Items
12-95
Cycle Counting
A physical count of items in inventory
Cycle counting management
How much accuracy is needed?
When should cycle counting be performed?
Who should do it?
12-96
Economic order quantity (EOQ) model
The order size that minimizes total annual
cost
Economic production model
Quantity discount model
Economic Order Quantity Models
12-97
Only one product is involved
Annual demand requirements known
Demand is even throughout the year
Lead time does not vary
Each order is received in a single
delivery
There are no quantity discounts
Assumptions of EOQ Model
12-98
The Inventory Cycle
Figure 12.2
Profile of Inventory Level Over Time
Quantity
on hand
Q
Receive
order
Place
order
Receive
order
Place
order
Receive
order
Lead time
Reorder
point
Usage
rate
Time
12-99
Total Cost
Annual
carrying
cost
Annual
ordering
cost
Total cost = +
TC =
Q
2
H
D
Q
S
+
12-100
Cost Minimization Goal
Order Quantity
(Q)
The Total-Cost Curve is U-Shaped
Ordering Costs
Q
O
A
n
n
u
a
l
C
o
s
t
(optimal order quantity)
TC
Q
H
D
Q
S = +
2
Figure 12.4C
12-101
Deriving the EOQ
Using calculus, we take the derivative of
the total cost function and set the
derivative (slope) equal to zero and solve
for Q.
Q =
2DS
H
=
2( Annual Demand )(Order or Setup Cost )
Annual Holding Cost
OPT
12-102
Minimum Total Cost
The total cost curve reaches its
minimum where the carrying and
ordering costs are equal.
Q
2
H
D
Q
S
=
12-103
Production done in batches or lots
Capacity to produce a part exceeds the
parts usage or demand rate
Assumptions of EPQ are similar to EOQ
except orders are received
incrementally during production
Economic Production Quantity (EPQ)
12-104
Only one item is involved
Annual demand is known
Usage rate is constant
Usage occurs continually
Production rate is constant
Lead time does not vary
No quantity discounts
Economic Production Quantity
Assumptions
12-105
Economic Run Size
Q
DS
H
p
p u
0
2
=
12-106
Total Costs with Purchasing Cost
Annual
carrying
cost
Purchasing
cost
TC = +
Q
2
H
D
Q
S
TC =
+
+
Annual
ordering
cost
PD +
12-107
Total Costs with PD
C
o
s
t
EOQ
TC with PD
TC without PD
PD
0
Quantity
Adding Purchasing cost
doesnt change EOQ
Figure 12.7
12-108
Total Cost with Constant Carrying
Costs
OC
EOQ
Quantity
T
o
t
a
l
C
o
s
t
TC
a
TC
c
TC
b
Decreasing
Price
CC
a,b,c
Figure 12.9
12-109
When to Reorder with EOQ
Ordering
Reorder Point - When the quantity on
hand of an item drops to this amount,
the item is reordered
Safety Stock - Stock that is held in
excess of expected demand due to
variable demand rate and/or lead time.
Service Level - Probability that demand
will not exceed supply during lead time.
12-110
Determinants of the Reorder
Point
The rate of demand
The lead time
Demand and/or lead time variability
Stockout risk (safety stock)
12-111
Safety Stock
LT
Time
Expected demand
during lead time
Maximum probable demand
during lead time
ROP
Q
u
a
n
t
i
t
y
Safety stock
Figure 12.12
Safety stock reduces risk of
stockout during lead time
12-112
Reorder Point
ROP
Risk of
a stockout
Service level
Probability of
no stockout
Expected
demand
Safety
stock
0 z
Quantity
z-scale
Figure 12.13
The ROP based on a normal
Distribution of lead time demand
12-113
Orders are placed at fixed time intervals
Order quantity for next interval?
Suppliers might encourage fixed
intervals
May require only periodic checks of
inventory levels
Risk of stockout
Fill rate the percentage of demand
filled by the stock on hand
Fixed-Order-Interval Model
12-114
Tight control of inventory items
Items from same supplier may yield
savings in:
Ordering
Packing
Shipping costs
May be practical when inventories
cannot be closely monitored
Fixed-Interval Benefits
12-115
Requires a larger safety stock
Increases carrying cost
Costs of periodic reviews
Fixed-Interval Disadvantages
12-116
Single period model: model for ordering
of perishables and other items with
limited useful lives
Shortage cost: generally the unrealized
profits per unit
Excess cost: difference between
purchase cost and salvage value of
items left over at the end of a period
Single Period Model
12-117
Continuous stocking levels
Identifies optimal stocking levels
Optimal stocking level balances unit
shortage and excess cost
Discrete stocking levels
Service levels are discrete rather than
continuous
Desired service level is equaled or
exceeded
Single Period Model
12-118
Optimal Stocking Level
Service Level
So
Quantity
Ce Cs
Balance point
Service level =
Cs
Cs + Ce
Cs = Shortage cost per unit
Ce = Excess cost per unit
12-119
Example 15
Ce = $0.20 per unit
Cs = $0.60 per unit
Service level = Cs/(Cs+Ce) = .6/(.6+.2)
Service level = .75
Service Level = 75%
Quantity
Ce Cs
Stockout risk = 1.00 0.75 = 0.25
12-120
Too much inventory
Tends to hide problems
Easier to live with problems than to
eliminate them
Costly to maintain
Wise strategy
Reduce lot sizes
Reduce safety stock
Operations Strategy
Considerations in Inventory Systems
Type of customer demand
Planning time horizon
Replenishment lead time
Constraints and relevant costs
Relevant Inventory Costs
Ordering costs
Receiving and inspections costs
Holding or carrying costs
Shortage costs
Inventory Management Questions
What should be the order quantity (Q)?
When should an order be placed, called a
reorder point (ROP)?
How much safety stock (SS) should be
maintained?
Inventory Models
Economic Order Quantity (EOQ)
Special Inventory Models
With Quantity Discounts
Planned Shortages
Demand Uncertainty - Safety Stocks
Inventory Control Systems
Continuous-Review (Q,r)
Periodic-Review (order-up-to)
Single Period Inventory Model
Inventory Levels For EOQ Model
0
U
n
i
t
s
o
n
H
a
n
d
Q
Q
D
Time
Annual Costs For EOQ Model
0
100
200
300
400
500
600
700
800
900
A
n
n
u
a
l
C
o
s
t
,
$
Order Quantity, Q
Holding Cost
Ordering Cost
Total Cost
EOQ Formula
Notation
D = demand in units per year
H = holding cost in dollars/unit/year
S = cost of placing an order in dollars
Q = order quantity in units
Total Annual Cost for Purchase Lots
EOQ
TCp S D Q H Q = + ( / ) ( / ) 2
EOQ
DS
H
=
2
Annual Costs for Quantity Discount Model
0 100 200 300 400 500 600 700
22,000
21000
20000
2000
1000
C = $20.00 C = $19.50 C = $18.75
Order quantity, Q
Inventory Levels For Planned Shortages
Model
Q
Q-K
0
-K
T1 T2
TIME
T
Formulas for Special Models
Quantity Discount Total Cost Model
Model with Planned Shortages
TC CD S D Q I CQ
qd
= + + ( / ) ( / ) 2
TC S
D
Q
H
Q K
Q
B
K
Q
b
= +
+
( )
2 2
2 2
Q
DS
H
H B
B
*
=
+
|
\
|
.
|
2
K Q
H
H B
* *
=
+
|
\
|
.
|
Values for Q* and K* as A
Function of Backorder Cost
B Q* K* Inventory Levels
B
0< < B
B 0
2DS
H
2DS
H
H B
B
+
|
\
|
.
|
undefined
Q
H
H B
*
+
Q*
0
0
0
0
Demand During Lead Time Example
+
+ + =
u=3
o =15 .
u=3 u=3
u=3
o =15 . o =15 .
o
L
= 3
d
L
=12 ROP
s s
Four Days Lead Time
Demand During Lead time
o =15 .
Safety Stock (SS)
Demand During Lead Time (LT) has
Normal Distribution with
-
-
SS with r% service level
Reorder Point
Mean d LT
L
( ) ( ) = u
Std Dev LT
L
. .( ) o o =
SS z LT
r
= o
ROP SS d
L
= +
Continuous Review System (Q,r)
Average lead time usage, d
L
Reorder point, ROP
Safety stock, SS
Inventory on hand
EOQ
EOQ
d
1
d
2
d
3
Amount used during first lead time
First lead
time, LT
1
Order 1 placed
LT
2 LT
3
Order 2 placed Order 3 placed
Shipment 1 received
Shipment 2 received Shipment 3 received
Time
Periodic Review System
(order-up-to)
RP RP RP
Review period
First order quantity, Q1
d
1
Q
2
Q
3
d
2
d
3
Target inventory level, TIL
Amount used during
first lead time
Safety stock, SS
First lead time, LT
1
LT
2
LT
3
Order 1 placed Order 2 placed Order 3 placed
Shipment 1 received Shipment 2 received Shipment 3 received
Time
Inventory on Hand
Inventory Control Systems
Continuous Review System
Periodic Review System
EOQ
DS
H
ROP SS LT
SS z LT
r
=
= +
=
2
u
o
RP EOQ
TIL SS RP LT
SS z RP LT
r
=
= + +
= +
/
( )
u
u
o
ABC Classification of Inventory Items
0
10
20
30
40
50
60
70
80
90
100
110
P
e
r
c
e
n
t
a
g
e
o
f
d
o
l
l
a
r
v
o
l
u
m
e
Percentage of inventory items (SKUs)
A B
C
Inventory Items Listed in Descending
Order of Dollar Volume
Monthly Percent of
Unit cost Sales Dollar Dollar Percent of
Inventory Item ($) (units) Volume ($) Volume SKUs Class
Computers 3000 50 150,000 74 20 A
Entertainment center 2500 30 75,000
Television sets 400 60 24,000
Refrigerators 1000 15 15,000 16 30 B
Monitors 200 50 10,000
Stereos 150 60 9,000
Cameras 200 40 8,000
Software 50 100 5,000 10 50 C
Computer disks 5 1000 5,000
CDs 20 200 4,000
Totals 305,000 100 100
Single Period Inventory Model
Newsvendor Problem Example
D = newspapers demanded
p(D) = probability of demand
Q = newspapers stocked
P = selling price of newspaper, $10
C = cost of newspaper, $4
S = salvage value of newspaper, $2
C
u
= unit contribution: P-C = $6
C
o
= unit loss: C-S = $2
Single Period Inventory Model Expected
Value Analysis
Stock Q
p(D) D 6 7 8 9 10
.028 2 4 2 0 -2 -4
.055 3 12 10 8 6 4
.083 4 20 18 16 14 12
.111 5 28 26 24 22 20
.139 6 36 34 32 30 28
.167 7 36 42 40 38 36
.139 8 36 42 48 46 44
.111 9 36 42 48 54 52
.083 10 36 42 48 54 60
.055 11 36 42 48 54 60
.028 12 36 42 48 54 60
Expected Profit $31.54 $34.43 $35.77 $35.99 $35.33
Single Period Inventory Model Incremental
Analysis
E (revenue on last sale) E (loss on last sale)
P ( revenue) (unit revenue) P (loss) (unit loss)
P D Q C P D Q C
u o
( ) ( ) > > <
>
>
| | 1 < > < P D Q C P D Q C
u o
( ) ( )
P D Q
C
C C
u
u o
( ) < s
+
(Critical Fractile)
where:
C
u
= unit contribution from newspaper sale ( opportunity cost of underestimating demand)
C
o
= unit loss from not selling newspaper (cost of overestimating demand)
D = demand
Q = newspaper stocked
Critical fractile for the newsvendor problem
0 1 2 3 4 5 6 7 8 9 10 11 12 13 14
P
r
o
b
a
b
i
l
i
t
y
Newspaper demand, Q
P(D<Q)
(C
o
applies)
P(D>Q)
(C
u
applies)
0.722
Retail Discounting Model
S = current selling price
D = discount price
P = profit margin on cost (% markup as decimal)
Y = average number of years to sell entire stock of dogs at
current price (total years to clear stock divided by 2)
N = inventory turns (number of times stock turns in one year)
Loss per item = Gain from revenue
S D = D(PNY)
) 1 ( PNY
S
D
+
=
Topics for Discussion
Discuss the functions of inventory for different
organizations in the supply chain.
How would one find values for inventory costs?
How can information technology create a competitive
advantage through inventory management?
How valid are the assumptions for the EOQ model?
How is a service level determined for inventory items?
What inventory model would apply to service capacity
such as seats on an aircraft?
Interactive Exercise
The class engages in an estimation of the cost
of a 12-ounce serving of Coke in various
situations (e.g., supermarket, convenience
store, fast-food restaurant, sit-down restaurant,
and ballpark). What explains the differences?
Role of Inventory in Services
Decoupling inventories
Seasonal inventories
Speculative inventories
Cyclical inventories
In-transit inventories
Safety stocks