Inventory Control

Recently, I was checking the news in the web page of the magazine Entrepreneur and I saw this title "Inventory Control. When it comes to inventory, the key is striking a balance between too little and too much." It was interesting to read something about we have been discussing in class.

"One way to protect yourself from such shortfalls is by building a safety margin into basic inventory figures. To figure out the right safety margin for your business, try to think of all the outside factors that could contribute to delays, such as suppliers who tend to be late or goods being shipped in from overseas. Once you have been in business a while, you'll have a better "feel" for delivery times and will find it fairly easy to calculate your safety margin".

"No matter what your business, however, excess inventory is something to be avoided. It costs you money in extra overhead, debt service on loans to purchase the excess inventory, additional personal property tax on unsold inventory and increased insurance costs. In fact, one merchandise consultant estimates that it costs the average retailer anywhere from 20 percent to 30 percent of the original inventory investment just to maintain it. Buying excess inventory also reduces your liquidity-something to be avoided."

When you find yourself with excess inventory, your natural reaction will probably be to reduce the price and sell it quickly. Although this solves the overstocking problem, it also reduces your return on investment. All your financial projections assume that you will receive the full price for your goods. If you slash your prices by 15 percent to 25 percent just to get rid of the excess inventory, you're losing money you had counted on in your business plan.

The final message of the article was in any type of business it is necessary to try to avoid excess inventory establishing a realistic safety margin and order only what you can sell.

Considering a Doomsday View of GM

I have heard a lot of talk in the news about the need for an automotive bailout recently, and I started to think, what would happen if GM went into bankruptcy and the worse predictions came true?

Lets say that GM entered bankruptcy and then demand completely fell off, because people did not want to make a significant investment in a bankrupt car company. Then GM completely folded and so did a number of their suppliers whose only customer was GM. Who would provide service parts to the several million GM vehicles that are currently driving on the roads today?

Every part would have to be analyzed to see if it would be better to stock a large quantity built by the original supplier prior to going out of business, or keep the part machines in production. The expense to keep part machines in production would be small for some parts, like plastic parts, because other suppliers would have the same equipment and would only need to molds to build the GM parts, but what about the others? For example the white body, or frame of the vehicle, that is welded together at the plant. When a customer is in an accident and the frame is severely damaged, then a service part white body is essentially cut up and the replacement frame area is sent to the shop to fix the vehicle. Trying to make these parts without the original equipment would be very costly, but who would operate the original equipment, in this case the equipment is very expensive and can currently only make a profit when it has a high utilization rate. Operating the equipment for service parts may not be feasible, but carrying entire vehicle white bodies does not seem viable either.

This question of service parts would prompt me not to buy a GM vehicle, since I would expect the cost for service parts to increase dramatically if they would be available at all. On the other hand due to the extreme cost of holding service part requirements for the next several years (usually only a couple of months are held)if a company could be very very flexible and somehow produce for all GM makes and models, that company I believe could make a great deal of money in the years following an outright GM closure. Of course if the company were that flexible, I guess it could provide service parts for any company.

Entrepreneur.com

I was looking for some update articles about Operation Management and I run into the magazine Entrepreneur online (Entrepreneur.com). This magazine on its website has a webpage just for Operation Management. The webpage can provide you with interesting information about different topics such as Inventory, Purchasing, Shipping Center and Location. For example, right now there is posted an article about "Tracking Inventory" which I recommend you to read. This is an apart from the article:

" A good inventory tracking system will tell you what merchandise is in stock, what is on order, when it will arrive and what you've sold. With such a system, you can plan purchases intelligently and quickly recognize the fast-moving items you need to reorder and the slow-moving items you should mark down or specially promote."

In brief, If you want to be updated in topics related to Operations Management, Entrepreneur.com would be a good source of valuable information. Take a look at!

Class Blogging Assignment

Being forced into blogging, did not sit well with me at the start of this assignment. However, I am finding more and more interest in attempting to discuss some points that are being raised. However, I am having problems remembering which posts I comment on, and which team had the post to begin with. I believe there are two main flaws with the assignment. Difficulty in monitoring reactions to comments, and the amount of effort needed to monitor past posts.

First, while it is easy to see new posts, it is not easy to see new comments. While I think that there is a way to get notification when a new comment has been posted by subscribing to comments. I have been unsuccessful in finding it. (I did a search in help and it talked about subscribing to the comment by selecting a "subscribe to comment" button on the original post, but I have not seen it. Any help in this matter would be greatly appreciated.)

Second, I do not believe that groups are constantly looking back at their previous posts to see if new comments have been added. As I am sure that I am not the only one who was trying to do the minimum to complete the requirement, looking back at previous posts to check for comments has not been a priority.

If we were to assume that the average student wants to be interested in the work that was assigned, but perhaps due to time constraints is still trying to minimize the amount of effort to do an assignment, I think that if blogging assignment were structured differently the amount of discussion would dramatically increase.

I propose that there be only one blog, it have weekly posts, and the groups would be responsible to enter comments. Since weekly posts are still made, there should be ample variation in post topics to allow for diverse discussion. This would allow for easy monitoring of new comments by all groups. The blog posts could be restricted to talk about a specific topic designated by the professor or the posts could be completely open, I would recommend that the group responsible for a post be required to inform the professor what the post topic will be to ensure ample variation in topics. Either way there would be more focus on discussion, since only one post would be made a week.

In addition I think that the original post be made by the professor. This would direct the initial discussion to a class related topic and would provide a good post example. The first week's comments could be quickly reviewed and improvement tips could be made prior to the next post, while comments could be made by an individual the post should be a group activity. This should foster the team environment, while still letting individuals express their thoughts. It might be a good idea to have two or three groups make a post the first week following the professors initial post to immediately have diverse discussion, but the number of posts should be kept relatively low. As new comments decrease on older posts, or marginally good posts, it may be necessary to again assign multiple groups to post in any one week. I think that a target of 4 or 5 actively discussed posts should be kept.

I am very interested in hearing what some of you think about the blogging exercise.

Jason

How to Modify an Inventory Policy

Recently, I was able to here a presentation put on by Greg H. Parlier, PhD, PE. Greg works for a company that does a considerable amount of work for the government and presented on a project that he is working on with the Army. The project is to revamp the inventory policies that Army is currently using. One aspect of the presentation that is related to our most recent class is the use of the exchange curve. Greg's company developed an exchange curve that showed an example where the Army was currently misallocating $1 million worth of inventory. This was just an example and if applied to all of the armed forces the misallocation would be in the billions. This means that to have the same results the armed forces could get by on billions less. This evidence was the compelling information that has now launched a major overhaul of inventory practices. After the presentation I asked Greg, how his company was able to get approval for their work, since at this point he had only talked about reporting to a 2 star general in Huntsville. He then informed me that his boss had to present to a 4 star and after a consensus with other 4 stars the approval was given.

I believe that this is a very important detail. Often times the people in an organization that have the knowledge to make a difference do not have the authority to do so. As Greg told me the only way to get the attention of those with authority is to gather a compelling argument. However, this takes time, and then after approval is gained additional investigation is needed, then considerable time is needed to implement the changes, finally results will be measured and hopefully some continuous improvement will be made.

This brings me to my final thought, I have been hearing a lot of talk about how the current economic conditions are going to change inventory policy. I am not sure that this is true. I believe that good companies are always evaluating their policies and working on improvement regardless of the current economic conditions. Other companies I feel will not effectively change policies, either they will make a change without doing the proper research and get marginal results at best (ex. companies trying JIT without understanding what that means), or they will simply stick with what they know.

If companies are in a crisis and must have the reduced expenses that would come with an optimization of inventory policies, that realization of reduced expenses is a considerable amount of time away, I am not sure that those companies will survive to implement those policy changes. Instead, I see companies using old tactics to cut costs, not new policies to gain efficiencies.

Jason

Calculating Holding Costs

One very important component of the EOQ formula is the holding cost. In many situations, the calculation of carrying cost is just a guess and is often much lower than the real value.

Some questions are raised in the article “Why Buyers Need to Calculate the Real Cost of Carrying Inventory” from the Supplier Selection and Management Report Issue 04-07. The author claims that many of the costs associated with carrying inventory are overlooked. This results in a deflated cost of holding inventory, which allows managers to hold larger amounts of inventory thus masking underlying problems in the system.

The author suggests that inventory holding costs should be split into both variable and fixed costs. Most traditional systems attempt to account for variable costs such as the cost of money, taxes, insurance, and obsolescence. The costs that are often not included are the fixed costs such as the cost of storage space, capital equipment, and personnel. Often these fixed costs increase in a stepwise fashion, which brings another complication into calculating EOQ.

The image to the left illustrates a method and template for calculating inventory carrying cost. It also illustrates how carrying costs can be significantly larger than traditional estimates.

Manufacturing situations and EOQ model reliability

In the real – life manufacturing situations are inevitable. Defective items, warehouse capacity overused, run out in raw materials, lack in production capacity and inconstant demands are in some cases uncontrollable issues that can block the pipeline. It is impossible to assume an ideal or constant behavior in a “Real Supply Chain System”, when human, mechanical and logical resources are combined in a cycle which starts when a client places an order and finishes when the product is shipped to this client. Consequently, the model for an inventory is subject to constant and sometimes unpredictable changes than transform the model in a subjective decision.

Some companies have implemented in their facilities as an inventory system the Economic Order Quantity (EOQ). This model was first introduced several decades ago to describe the process of stocking inventory. It is still applied industry wide today to predict the optimal order quantity that minimizes overall inventory expenses using a simple mathematical modeling and analysis [1]. This model though, assume ideal conditions that in a real manufacturing process are not able to keep such as perfect quality items, deterministic and constant demand, zero lead times for each order and no shortages. All these ideal assumptions make the EOQ a subjective model that in some cases needs to be supported by an expert or at least somebody who has the enough experience to decide whether the number that it is showing fits with the real conditions that the company is facing at that point.

Companies need to realize that EOQ is a model based on non-real conditions that make this model a weak tool when manufacturing situations comes up or when it is used without the properly professional support. In a “Real Supply Chain” Companies cannot believe that EOQ is 100% reliable, it has a threshold that needs to be kept under control. Consequently, before implement any kind of Inventory System is necessary to analyze the real conditions at the facility and identify the mean and frequent production, supply and customers service problems. If a facility knows beforehand its weaknesses and constraints is easier to choose the proper model that could fit best in agreement with those conditions and be prepare for unexpected manufacturing situations. Furthermore, the facility can predict the situations where the Inventory System selected can fail or the situations where the system might not be accurate as should be.

Identifying the situations where the experience and the EOQ system needs to be supported by and expert can minimize production and supply errors which it in turn could minimize customer and financial losses. In brief, EOQ and the others Inventories System are not design to run in unpredictable conditions were the phrase “what if” can to be covered by its system. Thereby, is necessary to ask us before that ”what if” in order to convert that subjective model into an analytical and more acquired tool, that could be prepare for any situation with the help of proper support.




[1] Singa Wang Chiu,Optimal replenishment policy for imperfect quality EMQ
model with rework and backlogging. 2007