aomsess11n12invtechnmrpfinal

MET ICS’s PGDM / MMS 2013-2015 batch Session # 11& 12

Operations Management


(Shashank Tilak)

Session no. 11 & 12

Dated: 31st Aug & 2nd Sept, 2013

Topic: Session 11- Types of Inventory Management Systems

Detailed Mathematical Treatment of P,Q Systems

Session 12-MRP System for Ordering Method & Application of ABC Analysis.

Operations Session 1-2 of 20 Initials of Writer / Critique

Notes prepared by:

Sujatha Menon-02 Diksha Bansal-10 RutaSalvi-12 Karan Sabnis-15 Shalaka Dabholkar-17 Kaustubh Godambe-

28

Notes critiqued by:

Vivek Mehta – 04 Shrida Shah – 14 Aniket Gupta – 20 Nupur Kapur- 39 Nikita Ahuja – 42 Dhiti Mer - 59



APICS ( The Association for Operations Management) Definition defines inventory as:-

“Those stocks or items used to support production, supporting activities & customer service”

The stock is referring to the stock of raw materials, work-in-progress and finished goods. The supporting activities refers to the maintenance of spares e.g. in a factory we use number of machines and & with time, these parts gets worn out so we use number of spares so these spares parts are called the supporting parts. The supporting activities refer to all the activities that are required to continue production. Customer service refers to making available the service or finished goods as and when the customer wants. This definition therefore covers all classes of materials for good operation of business in sustainable manner.

Major Paradox:

In the balance sheet the inventory is always shown as the asset, but the major paradox here is, even though inventory is an asset, the companies always strive to reduce the level of inventory. This is because; an asset is an asset only when it gives returns. But keeping excess inventory increases the inventory carrying cost for the organization. Due to this the companies prefer to maintain a stock level up to the margin of safety level. Essentially this increase in inventory carrying cost should be lesser than or equal to risk of losing a sale (opportunity lost cost ) . As result investment in Inventory should also be giving better return than ROCE( return on capital employed ) or RONA ( return on net asset) and bank interest ,PAT (profit after tax) and TD (Trade Discount) otherwise the whole point of keeping inventory is lost .ROCE, RONA, PAT, TD are basically the values paid from time to time in a business.

Different Types of Inventory: (slide 1 and slide 6)

1. Based on stage of usage and processing

Raw Materials: They form the basis of any manufacturing organizations. For example, Apple's raw materials inventory includes semiconductors, circuit boards, plastic, and glass that go into the production of personal computers, iPhones or other electronics products.

Work-In-Progress: These are yet in the factory; they have been processed halfway or at any intermediate stage from raw materials to being converted into finished goods. They form a part of the production process, they support the production activities. W.I.P inventory is often maintained between manufacturing operations within a plant to avoid production hold ups in case a critical machine or equipment were to Operations Session 1-2 of 20 Initials of Writer / Critique



breakdown and also to equalize production flow, since not all manufacturing units produce at the same rate.

Finished Goods: They are the final products that are manufactured by the organization for sale. The cycle goes from Raw Material-Work in Progress-Finished Goods. They are the products for which the customer is paying a price in return for the goods/services.

Maintenance, Repairs & Overhaul / Support Materials : This includes all the spare, tools & components that are required during the manufacturing process. They may not be the most important components, but they are essential & are required to replace any of the worn out parts of any production machinery at all times at all levels of production. These materials help to ensure that any machine which breaks down can be brought back to working condition at earliest

2. Based on purpose or application of material

Cycle stock-The portion of total inventory that varies with lot size is the cycle stock. Determination of how large the order should be and how long the gap between 2 orders should be is lot-sizing.

Two things are important in the cycle stock-

1. The lot size Q, varies directly with the time elapsed between orders. If the time gap between 2 orders is 5 weeks then the stock lot size should be sufficient as per the needs of the 5 weeks.

2. The longer the time between 2 orders the greater the cycle inventory must be.

Safety stock-To avoid customer service problems and the hidden costs of unavailable components, companies hold safety stock. Safety stock inventory is surplus inventory that protects against uncertainties in demands, lead time and supply changes. Essentially this stock helps to meet demand for particular product when replenishment from suppliers does not come through on time.

Anticipation stock-Inventory used to absorb the uneven rates of demand and supply which businesses often face is the anticipation inventory. Eg –a manufacturer of lightings , anticipated the increase in demand before festivals like Diwali and produces more stock of it .

Transit stock-Inventory items between one point and another in the supply chain is the transit inventory. These are en-route goods or materials which are in the ownership of the firm but in the possession of the carrier. They have left supply point but have not arrived at consumption or destination point.




Hedging stock-Excess inventory kept on hand as buffer against contingent events and particularly for fending off higher prices is called as the hedging stock. Businesses usually hold inventory to avoid from the ever fluctuating market price of inventories. Thus, by having efficient and good inventory system, businesses can control their inventory .

Reasons for Carrying Inventory:

1. Pure Engineering / Business Related:

a. Economies of Scale: The reasons may be purely economical tTo gain economies of scales order in bulk quantities so as to obtain the goods at the lowest possible rates so that adequate margin can be earned and the low cost benefit can be provided to the customers/retailer as well. e.g. when we buy a 500 kg steel when our monthly requirement is 10 tons its too costly, so directly getting 10 tons truck and loading all together would be much cheaper as transportation plays an important role in the cost. Another example can be that of a medical store where in medicines are ordered in bulk quantities in order to avail higher discounts

b. Continuity of Flow: to ensure continuous flow of materials inventory is maintained so that the production process is not stopped or paused due to non-availability of materials. Any stoppage of production within the plant or at customer end will mean additional costs for change over to another and unplanned product. This means additional order setup costs. In addition other material which was ordered along with the shortage material will lie unused. It causes unnecessary build up of WIP. All these reasons increase costs for the organization. This is kept in mind so that the product is always available to the customer whenever he demands & that he doesn’t shift to another brand due to non-availability. (opportunity cost lost)

c. Risk Management / Non-Availability: there may be some Sometimes when thematerials may not be available at the time of need due to the lack of availability of the materials. Under such circumstances, the companies may prefer to keep a greater inventory just in case if they fall short of materials before the projected date of completion of materials. The cost of non-availability = cost of carrying inventory. It affects the customers’ confidence in the organization. So the risk here is that our customer may shift to some other brand & we may loose on the customer. Eg: In case a customer goes to buy Colgate toothpaste in a store, and finds it out of stock then rather than waiting he would buy Pepsodent. Thus this is loss of opportunity for Colgate

2. Financial Risks:




a. Price Fluctuations: there are some materials whose prices keep fluctuating regularly over time. In case the company wants to safe-guard itself against such drastic price changes, it may prefer to maintain a buffer stock of inventory so as to protect itself from the price fluctuations & in turn not affect its production costs. If the cost of the products goes down its fine but the time it shoots sky high it becomes a problem for the manufacturer. So keeping a high amount of inventory to safeguard from non availability is also a major risk. Eg: Price of onions keep fluctuating due to various factors, so keeping a stock can prove to be beneficial.

b. Meeting Future Demand: if the company has anticipated or projected a certain amount of future sales, it may want to keep an adequate level of inventory to be able to meet those requirements that they have projected or are anticipating. This may be the case with seasonal products like umbrellas. The companies manufacture the umbrellas in the months of summer, anticipate a certain demand and produce that many numbers of umbrellas.

In both these cases we are not going to recover the total cost but we need to look that the incremental cost of carrying the inventory matches the incremental benefits we get by keeping that inventory in stock i.e. the marginal cost should be lesser than the marginal benefit.

Balancing Act:

Cost items:

1. Item ordering Cost: Inventory management can reduce the overall ordering costs of raw materials and components by ordering in larger quantities, which decreases the number of orders. The total cost of the item include the price of the item, the cost of receivers who take in materialwages given to the labour, the costs incurred onof setting up suppliers, and the cost of material planners and buyers, and any other cost associated with placing orders on either the factory or suppliers. In most cases this ordering cost remains same regardless of quantity ordered. Hence cost of each unit produced or purchased in a single order will go down as we increase quantity on order. This variation is inversely proportional to quantity ordered.

2. Inventory Holding Cost: Carrying costs cover the cost incurred as a result of carrying inventory. These costs include the money tied up in inventory, the costs of storing and managing the inventory, such as warehouse costs, equipment costs, inventory management systems, personnel etc. Costs associated with the risk of damage, loss, scrap, wear and tear, theft, and obsolescence must also be included here, along with the cost of insuring against some of these risks. These costs vary directly (and linearly) with the quantity ordered. Generally this cost can be set as




proportional to half the quantity ordered in one go. At unit level this cost will remain same regardless of quantity ordered.

3. Transportation Cost: it includes the amount spent on transportation of the materials from one location to another. For all practical purposes this cost will increase or decrease in same manner as order setup cost mentioned above. Generally this cost is same regardless of quantity transported. Hence for larger quantities transported in one batch, this cost will reduce at unit level.

Benefit Items:

1. Availability: the availability of the materials on time will ensure timely production procedures and ensure timely completion of production & delivery of goods to the customers as and when demand , causing customer satisfaction. It would also avoid loss of opportunity costs.

2. Service: timely availability of inventory will enable the companies to fulfil service orders on time, without any kind of delays or non-delivery of order.

3. Quality: having adequate levels of inventory, the company is able ensure consistent performance at standard production settings which helps to provide quality products and services to its customers and attain customer satisfaction & customer loyalty due to timely and accurate service.

4. Risk: keeping a certain level of inventory, it enables the company to cover risks of non-availability or price fluctuations of the materials. These safe guards the company against drastic market changes and price fluctuations. Thus it helps to cushion itself against such phenomenon.

The economies of scale revolve around these factors. The returns on account of these benefits should be better than RIR (Rate of Internal Return) or IRR (Internal Rate of Return) and the (ROCE) Return on capital employed. It is the manager’s job to balance between the cost and benefits. The cost incurred should be such that it is proportionate to the benefits or returns. Benefits expressed as percentage of costs should give a ratio better than RIR or IRR.

How To Get Good Returns:

1. Ensure No Idling Of Inventory:

a. Order in Time – No Stock Out / Excess: the company should be able to anticipate or predict how much quantity of materials they will be requiring and maintain an inventory level in line with anticipated demands. Over projecting/Overstocking will result in keeping excess inventory levels which will not only increase the cost for the




organization by having higher carrying cost but might also lead to obsolescence of the inventory over a period of time. Under projecting/Stock-out might result in falling short of meeting customer demands, which may affect the brand image.

b. Use Up In Good Time – Risk Handling: the company should be able to use up the inventory levels in a reasonable time to avoid the inventory from becoming obsolete and useless for further use future consumption. This way it the company should be able to handle the risk of keeping high inventory levels.

c. Consider Demand - Supply Patterns: the company should keep in mind the demand and supply cycle – particularly seasonal demand patterns of the product and maintain inventory on those basis. There is no point in keeping high levels of inventory if there is no demand during a particular time of the year, it will only increase the cost for the organization. Eg: Marigold Flower is extensively used in festival seasons like ganpati and diwali, thus the vendors should keep higher stock considering high demand and a moderate stock during off-season.

2. Measure Of Success:

a. Ratio of ( Total Usage/Stock Turns at the end of particular period) : the organization should be able to measure the ratio of total usage / stock at end of a particular period. This represents inventory turnover ratio. It basically means how many times in a year is your total inventory being replenished.

b. Compare with Similar Situations: once having attained the turnover ratios, the company should then compare it with the industry leader, the company that has benchmarked in that particular industry. Example: Toyota & other brands- the amount of time the car spends at the dealers’ showroom is 28:98 days.

c. Measure How Well Inventory is Used: having achieved the ratios and compared it with the industry leader, the company should now measure how it is performing against the industry standards and in comparison to the industry leader.

How To Manage Inventory?

Core Functions:

a. Stock Keeping & Tracking: the basic function of inventory is to maintain stocks and tracking the usage of inventory. As and when the stock diminishes, the inventory management team will re-order and bring the inventory level to the desired level.

b. Ensure Availability: the way to manage the inventory is to ensure ready availability to the production or sales function for processing or selling to customer as and when required by them.




c. Maintain Budgets: keeping adequate levels of inventory beforehand will ensure that the company doesn’t over-spend or under-spend on inventory alone. It helps in being in line with the budget of the company. Budgets will be covering different heads such as cost of inventory build up, amount spent on wages, warehousing and related costs etc.

d. Space Utilization : ensuring adequate levels of inventory helps to utilize the available space to its full potential and help reduce costs. Fuller utilization lowers the cost of carrying the inventory.

e. Order Cycles: managing inventory properly will enable the organization to maintain the time & quality cycle. They will perform at their best levels and ensure quality and timely delivery.

f. Cost/Benefit Balance: managing inventory properly will enable the companies to have a trade-off with the cost and benefits attached with maintaining inventory. They will be able to reduce the cost and increase the benefits. Benefits must be proportionate to total cost incurred as elaborated above. This ratio has to be better than IRR or RIR.

Supply Risks:

a. Uncertainty in Quality: the suppliers cannot always provide us with the same quality of goods over a long period of time. There are bound are bound to be times when the organizations may not accept the quality nor has stringent norms for quality of products required by them. Any production or other supply process will have some underlying statistical pattern. Based on such pattern there is a valid possibility that product quality may not meet desired level at certain points.

b. Uncertainty in Quantity: the suppliers cannot provide us with the exact quantity of the materials ordered by us. There may be times when there will be the order received iswould be lesser than what the company originally ordered for. This is also similar to above variation in quality of product.

c. Uncertainty in Lead Time: not always will the supplier will make a prompt delivery of goods. There may be delays due to various reasons such as natural calamities, inadequate infrastructure facilities, delays in transport etc.

d.Price: the suppliers will not always provide us the materials at the same cost. The supplier may increase the price by hoarding the goods when there is a scarcity of goods.

e.Fluctuations: the seller may frequently change his prices of raw materials in line with the on-going market trends of demand & supply.




f. Transit Risks: there is a considerable amount of risk involved in the transportation of raw materials from one place to another.

Consumption Risks:

a.Demand Changes:

i. Early/Late: irregular consumption patterns affect the inventory holding. Consuming is early, before time or taking too much of time to be able to finish the inventory will affect the carrying cost. The customers may ask for the goods to be delivered early or late.

ii.High/Low: sudden highs and lows in the demand will affect the amount of inventory to be held by the organization in the normal course of business.

iii.New/Old: the problem of keeping a track of old and new inventory may pose as a problem. It is difficult to keep a track on which inventory came first and which came in last. For this purpose, inventory methods such as LIFO (last in first out ) & FIFO ( first in first out ) must be followed.

Inventory performance

Based on effective usage

Inventory TurnsInventory turns or inventory turnover reflects how frequently a company flushes inventory from its system within a given financial reporting period. The measure can be computed for any type of inventory

Inventory turn=Sales of goodsInventory

This ratio shows how many times a company's inventory is sold and replaced over a period. The days in the period can then be divided by the inventory turnover formula to calculate the days it takes to sell the inventory on hand or "inventory turnover days."

The following link points to a real world example of “Inventory Turns” of Coca-cola.For eg. Dell has a turnover of 50 crores times in every year.

For Competitive Analysis with Peer Group: A company doesn't exist in a vacuum. Determining how the metrics compare to the competitors' gives a way to judge whether the inventory control meets the industry norm, falls short or exceeds it.

Inventory performance does not highlight the benefit of the inventory. i.e why should you carry this inventory.




Based on Customer Service -

Fill Rate: The item fill rate is the percentage of items a customer ordered that a company was able to ship. Lower the ratio, the poorer the inventory performance. It is for the items ordered i.e how many items the company was able to fulfil in full quantity and on time.

Number of items fulfilled: The number of items of the order available in the inventory and provided to the customer constitutes the number of items fulfilled.

Perfect order metric: The Perfect Order Measure calculates the error-free rate of each stage of a Purchase Order. It looks at total number of line items of an order that have been delivered in full on due date and divides this number by total number of items on order. This is an indication of how well the organization is able to meet range of customer needs over a period of time.

Duration of shortage: The implication may depend on the duration of the shortage. Obviously a shortage condition that lasts for 3 months is much worse than shortage that lasts for only 6 hours.

Severity and implication of shortage: The performance metric measures how many customers ask for an item, then go elsewhere because a manufacturer does not have it in stock. Also, if there is any shortage, it measures what effect it had on the order. This effect is best understood in terms of additional costs that the customer or supplier may have to incur because of shortage.

Management issues-

This discussion pertains only to independent demand items. In case of dependent demand items order size or timing will depend only on the item / product that needs such dependent demand items. For instance number of tyres required in a car manufacturing plant will depend on number of cars produced. Hence Tyres is considered as dependent demand item. Whereas number of cars produced will depend only on customer orders. Hence car is considered as independent demand item.

Decisions for Independent Demand Items- i.e. each order in that list is not going to depend on any other order in that list & this would be determined by

Quantity to order: The amount of quantity to be ordered constitutes Q

For eg. When you have to fill petrol in bike, you decide on how much to fill depending on the tank capacity of the bike.

Timing of order: The time intervals at which the new order is to be placed is the timing of order.




Reorder Points R: The minimum level of the inventory at which the new order needs to be placed constitutes the reorder point.

Decision point T: The points at which major decisions of placing new orders are taken constitutes the decision point. For most part this is related to Re Order Point or ROP for the product.

Stock S: The quantity of inventory present in the warehouse is know as constitutes the “stock”.

Table –Order combinations :

Order QtyOrder Freq Fixed Q Variable SVariable R Q,R S,R

Fixed T Q,T S,TInventory related Costs

Order Preparation Costs: Each time Whenever a the firm places a new order, it incurs an ordering cost or a cost of preparing a purchase order for a supplier or a production order for a shop. Regardless of the number of items ordered the c Cost of ordering is the same irrespective of the quantity ordered.

Carrying Costs: These are nothing but the financial and opportunity cost. Financial cost is the actual cost while opportunity cost is a notional cost. Notional cost are difficult to estimate or we can say that difficult to realise.

Cost of Shortage and Customer service: If at any given point, there is shortage of some raw material or even a finished product, this may bring either the production on a stand-still or may leave the customer dissatisfied which may . This may lead to unhappy customer and thus will lead to a loss in of business.

Order Process Timing

Definition:The expected period of time between the date an order is placed and when it is shipped. However for a customer time between the point where a requisition is sent to supplier and the time when material is actually available for use is total lead time. Factors that may affect processing time include inventory levels, errors in order picking, weather, federal holidays, etc. Use of a warehouse management system that automates various aspects of the picking and packaging process may help shorten the average order processing time.

Economic Order Quantity (EOQ)

Economic order quantity (EOQ) is the order quantity of inventory ordered that helps to minimizes the total cost of inventory management.


http://www.businessdictionary.com/definition/average.html

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http://www.businessdictionary.com/definition/packaging.html

http://www.businessdictionary.com/definition/warehouse-management-system-WMS.html

http://www.businessdictionary.com/definition/holiday.html

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http://www.businessdictionary.com/definition/order-picking.html

http://www.businessdictionary.com/definition/order-picking.html

http://www.businessdictionary.com/definition/error.html

http://www.businessdictionary.com/definition/inventory-level.html

http://www.businessdictionary.com/definition/processing-time.html

http://www.businessdictionary.com/definition/factor.html

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http://www.businessdictionary.com/definition/period.html



Two most important categories: Ordering costs are costs that are incurred on obtaining additional inventories. They include costs incurred on communicating the order, transportation cost, etc. Ordering cost remains constant. Carrying costs represent the costs incurred on holding inventory in hand. They include the opportunity cost of money held up in inventories, storage costs, spoilage costs, etc. It is about 20% of the total cost of item on annualised basis.

Total cost = ordering cost + carrying cost

Which as a formula will be C + (E X Q) Q

Formula: The EOQ formula can be modified to determine production levels or order interval lengths, and is used by large corporations around the world, especially those with large supply chains and high variable costs per unit of production. EOQ = √2 AS ÷√ iC

Where: A=Annual usage in units, S=Ordering cost in dollars, i=Annual inventory carrying cost as a decimal, C=Unit cost

Quantity and Order-Implications

Uncertainty in Supply & Demand side: sSometimes demand is more than supply or vice versa, at such situations,. A balance should be maintained between demand and supply. the manager should make efforts to match the demand and supply positions. However there can be situations where the demand and supply positions will vary , then the quantities can be worked out based on probability.

Quantities and lead time will vary – Lead time depends on the supplier, quantity on the other hand is determined by the orders or the demand of customers.

Must allow possibility of mismatch – The factor of uncertainty should be considered and quantity should be maintained accordingly.

Set as a percentage that the supply will meet customer needs on timely basis. This percentage is set as service level – Target for meeting demand: Once the service level is known, a target can be set to meet the prevailing demand both in terms of total quantity for each requirement as well a probability of variance. In addition it will also include all possibilities of variance in other major variables that operate in supply chain.

Basic Needs and tasks:

It is the duty of the manager to balance the demand and supply of the inventory level. Inventory level should be such that it should be available as and when required by the customers. This can be done through timely replenishment of stocks.

Two Bin method- It is a combination of KANBAN and inventory management. It is generally used for low cost items. Here users will keep on using up material from a




bin or small stock kept on shop. As soon as this bin is empty, users will simply push out the empty bin for replacement and start using material from another bin kept available. By the time material from second bin gets used up, stores staff will ensure that another bin full of material is available for use.

Periodic Review- In this method, the inventory levels are reviewed periodically. Weekly, monthly, etc. Based on such review inventory manager will order for sufficient material to last till next review is conducted.

FOQ- In this method, inventory level in monitored continuously and replenished in fixed quantity when at hand inventory falls. This situation generally prevails when supplier is not able to provide quantities in smaller increments. Generally supplies are available in fixed quantity only – say drums of 200 litres.

Order Point : Every time material is introduced, it is added in a record. This record is updated from time to time. It also helps to find out the quantity and type of material required. This material record is similar to entries in a bank passbook. Any usage of material is debited from stocks and any receipt is credited to stock. As a result, an accurate record of quantity of material available in stock is always available. This record is necessary to identify in a computerized system when a particular material should be ordered.

Accurate inventory Records:

o Cycle Counting: It is an inventory auditing procedure where a small subset of inventory in a specific location is counted on a specified day. The A level items are counted once a month, B items once a quarter and C items once a year. This method allows imposing strict controls on high value items, reasonable control on medium value items and lowest level of controls on low value items. It also helps in ensuring that any errors in stock usage and record keeping are noticed immediately and corrective steps are taken. It results in more accurate inventory records at much lower costs.

o Periodic Verification: In big companies and stores annual stock checking is very different. The inventory is calculated through Periodic Verification. This is usually done monthly or quarterly. This stock taking is essential to calculate actual value of inventory on hand. This is a vital part of current assets and as such must be accurate. It is a traditional method of ensuring that accurate stock records are maintained. It suffers from drawbacks like – High cost of operation Need for specialized workers / staff who know all items in inventory Persistent issues in accuracy Inability to pinpoint reasons for any inaccuracies that will prevail Inability to take any corrective actions for discrepancies between book stock

and actual stock

PERIODIC REVIEW




In periodic review system, a record is maintained in which all the changes in the inventory levels are added periodically. The drawback of this system is that inventory is not being checked until the review system.Inventory Levels- Periodic Review

The formula for calculating the quantity to order is:

Target Level=Demand During Lead Time + Demand during review period + Safety stock

T = D(R+L) + SSWhere-T=Target Inventory Level, D=Demand per unit time, R= Review period, L=Lead time, SS=Safety stock levelOrder Quantity= Target Level-On hand Quantity

= T-I

Usage of Periodic ReviewsThe aim of the Periodic Review System is to maintain the inventory levels and iensure a continuous supply.

Generally for B or C class items May be combined with Back Flush(an automatic accounting system of

material consumed for production). For small vendors. Same supplier provides multiple items Economic and effective procurement.

MRP II

MRP-II means manufacturing resources planning. MRP-II system co-ordinates sales, purchasing, manufacturing, finance , engineering by adopting a focal production plan & by using one unifieds data base to plan & update the activities in all system. It was suggested by Oliver WightJoseph Orlicky of IBM.

MRP determine how many components are required, when they are required in order to meet master schedule. It helps to procure material as and when needed based on the lead time required for delivery of component & thus avoid excessive build up of inventory.

Hence, it was defined as “a method for the effective planning of all resources of a manufacturing company. Ideally, it addresses operational planning in units,




financial planning in dollars, and has a simulation capacity to answer what-if questions.”.

This classification is primarily used in Made to order(MTO) or Engineered to order(ETO) environment. Every production order & design is lean unique & then we have to design each of those requirements for a particular application operation for one particular customer or for one particular product made. Hence, there is some uncertainty risk & could always lead to errors. Hence, all these variations need to factor in, and adjustments may be required in the components / product, quantity / sets, time of deployment ed,or any other various resources required as they will vary considerably.

Every material has to be planned individually. Materials are procured/sourced either from vender or manufacturer as and when required by the company giving them flexibility who are willing to carry out the production process as per the Company’s requirement even if required for a large or small quantity. or in house manufacture.

Many a times there is no choice. Company have to enter into a partnership with somebody who is the sole source for supply of processed raw material. Delay in the process can lead to huge losses for the company on a daily basis. Hence, the company has to draw specifications to be followed, allow effort, time cost any variations in these clauses so that the company & the suppliers can share both the benefits as well as the risk involved. This is called procurement or sourcing.

The material deployed may be special (equipments/materials) and hence, the project manufacturing department must make adequate arrangements for its storage, management depending on when it will be useful or required for a particular manufacturing activity.

It is best to procure some extra material to meet the uncertainty. As the speciafications are as per customer order so company cannot go back and manufacture at the last moment. However, disposal of this extra material needs to be taken care of in a responsible manner. The disposal of materials may happen on site.

MATERIALS IN PROJECT ENVIRONMENT

The Delivery lead time for an ETO to deliver its products to the customer includes the following:

1. the time taken in designing the product2. time required for sourcing raw materials for its manufacturing3. time required for its actual manufacturing of various components4. time spent in the final assembly5. time spent in shipping the final product to the market / specific customer

Design Purchase Make Assemble Ship

Business Drivers:Operations Session 1-2 of 20 Initials of Writer / Critique



In a Project environment the key business drivers would include:

1. Ascertaining the client’s requirements & freezing them.2. Based on these requirements prepare & fix individual designs of each

component 3. Organise the material required based on these designs prepared (requirements

may vary for different materials)4. Allow these materials to flow correctly so that everything is done on time

Actions & controls required based on the business drivers:

1. Procure the materials based on their requirements & design them 2. Build the individual components3. Track their capacities 4. Ensure compliance with the standard objectives set for the project

(requirements of the project)

For any project there will be certain activities or certain stages in the production process, and each activity will have a certain Base material to start with. The base materials should be available at right point of time, at the right place and in definite quantity. If the materials are not available at right time the whole process gets disturbed and there is wastage of time. Similarly if the quantity of material is less then the process stops again and if it’s more than the required cost of keeping inventories increases.

Each project is meant to satisfy certain basis requirements i.e. quality, performance and any other physical or other characteristics. Most of the time Different components come from different vendors or manufacturers and are assembled later. These components may also be delivered in parts and then assembled in the end.

We also need to consider the lead time in transport as different materials may come from different vendors or manufacturers and they should be synchronised properly so that they are available at the right point of time to avoid delay.

Timing of material is based on WBS (work breakdown structure) as well as lead time required for each leg of the bill of materials.Number of materials and quantities are large as it consists of range of task. Materials are purchased or ordered according to the date of delivery. Before placing a order calculate the quantity of individual components required, external, internal and total lead time.

To ensure good coordination for the process we must do backward integration i.e. checking of the requirements from the last stage, going backwards to the starting stage.

Usage of ABC Analysis – 2




Replacement systems

cycle counting

customer service

engineering priorities

Investment decisions.

These factors are important for fast moving slow moving non-moving low tail items, it is important in the distribution industry.

Bill of Material (BOM)Computation of the raw materials and component requirements for end products listed in the schedule is done by theon basis of product structure. The product structure is specified by the bill of materials – which is listing of components parts and sub-assemblies that make up each product. A file which lists all assemblies together is the bill of materials file. The structure of an assembled product can be pictured. The structure of an assembled product can be pictured by taking a simple product in which a group of individual components make up two sub-assemblies which in turn make up the product. The product structure is in the form of a pyramid in which lower level feeding into the levels above the item at each successively high a level are called the parents of items in the level are called the parents of items in the level directly below.

Sample of BOM and Components: (Refer slide no. 10) To make 1 A, we need 2 pieces of B, 4 pieces of C and 3 pieces of D. To make 1 C, we need 2 of G. Similarly to make 1B, we need 2 pieces of E and 1 of F and to make 1 E, we need 4 of G, 3 of F and 2 of H.What is the number of “G” in one “A”?For 1A we need 2Bs and 4Cs and 3 Ds. But G’s are present only in B and C. For each B we need 2Es and for each C we need 2Gs and for each E we need 4Gs.Therefore, For 1B, 2x4Gs= 8GsFor 1A, 2x8Gs + 4x2Gs = 16Gs + 8Gs = 24Gs

Adding the Offsetting for Time (Refer slide no. 11)

Consider we need to make and deliver a table on 29th which consists of the top, legs nuts, screws, etc. We know it takes 2 days to assemble the table and we have to deliver it on the 29th then all components must be brought by 27th. On the 26th,order for hard ware kit is placed is needed for the final assembly on the 27th. The wood and laminate require cutting and the glue needs to be bought which takes 4 days to fix these things together. So we need it 4 days before 27th i.e. 23rd. The slide the 22nd is to account for a weekend when no work takes place. Need 1 day to buy everything, so we need to buy on 21st but the seller of the material will need1 day to supply the material. Therefore, the order is placed 20th .




External Lead TimeThe components of delivery lead time are design and procedure, make, schedule, order and confirm and paper work. It is not necessary for the components of delivery lead time to follow the same sequence. These are all that are needed for the project. The delivery lead time is the time required for designing, procuring, making, scheduling, etc which is not under our control.

Calculations & Logic – MRP( As per the given table in the notes)

Period: It indicates time that can vary in length from a day to a week or a quarter or even longer. The period is also called as time bucket. The most widely used time bucket is one week. It indicates overall time for which entire material / resource plan is calculated.

Gross requirement: Gives the future usage or demand for items. Scheduled receipt: This row shows the quantity that have already been

ordered & when in which period we expect them to receive be completed. PAB (projected available balance): Quantity we expect to be available at the

end of the day period or in other words the quantity of components left/not used in previous particular period..

Planned order receipt: : Quantity of inventory received in current period based on our planned order release.(the time difference between period of planned order receipt and planned order release will depend on delivery lead time.)

Inventory in hand indicates available balance from previous planning period. Planned order release: The quantity of inventory required will be ordered in a certain period which

depends on the delivery lead time.Ex. If we require the inventory(say 30 pieces) in 4th week and delivery lead time is 2 week then we need to release the order in 2nd week(of quantity 30 pieces).

Indicates available balance whenever inventory in hand shows a quantity insufficient to satisfy gross requirement.

Net requirement of period 2 = gross requirement of period 2 – PAB of period 1Planned Order Receipt = This is the quantity of net requirement nearest higher multiple of the order multiplier i.e. If order multiplier is 5 and net requirement is 28 then the Planned order receipt will be 30, it will be a multiple of 5, if multiplier is 8, it will be a multiple of 8.PAB OF period 2 = Planned Order Receipt of period 2 – Net Requirement of period 2Planned Order Release depends upon the GIVEN DELIVERY LEAD TIMEIf lead time is 1 period, Planned Order Release of period 1 = Planned Order Receipt of 2If lead time is 3, shift planned order receipt backwards by 3 periods placesi.e. Planned Order Release of 4 = Planned Order Receipt of 1The core control principles help

ensure the requirements are met i.e. there is no shortage




manage with minimal inventory and orders i.e. too much excess stock is not required to be kept which in turn helps to reduce the storage cost.:

Make use of JIT(Just in time) procedure as far as possible to reduce wastage of time and reduce inventory carrying cost.

ABC Analysis of InventoryAs a large number of materials are being used in production at many manufacturing plants, it can be desirable to classify materials according to the amount of analysis that can be justified.One of the methods is the ABC analysis method, which is based on the idea that only a small percentage of material represents he majority of the inventory value.As seen in the diagram in the notes. (Refer slide no. 14)

The A materials represent only 20% of the materials in the inventory and 75% of the inventory value.

B materials represent only 30% of the materials in the inventory and 20% of the inventory value.

C materials represent only 50% of the materials in the inventory and 5% of the inventory value.

Example :A xyz company has 600 brands in total and has $100 billion sales every year.But its 70% of sales comes from only 7 brands and rest 30% by remaining 593 brands. These 7 brands comes in A class brands.Thus, the company concentrates more on these A class brands, as a very small change in these brands will bring about more profit to the company.Concentration on B class brands are little and that on C class brands are very less as changes in these brands wont give you a high profit.

Usages of ABC analysis :

“A” group represents highest value hence a more stricter control & review is required for these items. “B” group consists of mid value of item thus some controls will be strict and some lenient. “C” groups refers to lowest value and will be monitored & controlled on exceptional basis. But C class items cannot be ignored totally. For example. In a company uses of pen refill were 1000 refills/week, when manager realised that the its too much she passed the circular that if you show the empty refill then only you’ll get the new filled refill, the consumption of refill came down to 60/week in 2 months and in another 2 months it came down to 20/week. Thus saving in cost, cause of excess use on refills.

Usage of ABC Analysis – 2




Replacement systems

cycle counting

customer service

engineering priorities

Investment decisions.

Other types of Applications :

1. HML –High, Medium and Low value : Basically in terms of price of the items for stock control.2. VED – Vital, Essential & Desirable.Example: In case of pressure cooker : Vital parts are Gasket & Valve as they are required for building pressure in cooker. Essential part is handle to lift the cooker and Desirable part is spare handle on the opposite site which make it easier to handle the cooker.3. FSN – Fast, Slow & Non moving : For sales anddistribution operations.

References: A modern Approach to Operations Management - Dr. Ram Naresh Roy Operations Management – Norman Gaither & Greg Frazier http://beginnersinvest.about.com/od/analyzingabalancesheet/a/inventory-

turns.htm http://www.businessdictionary.com/definition/order-processing-

time.html#ixzz2dxKPpL6j http://www.bms.co.in/explain-the-different-types-of-inventories/ http://smallbusiness.chron.com/anticipation-inventory-20839.html


http://www.bms.co.in/explain-the-different-types-of-inventories/

http://www.businessdictionary.com/definition/order-processing-time.html#ixzz2dxKPpL6j

http://www.businessdictionary.com/definition/order-processing-time.html#ixzz2dxKPpL6j

http://beginnersinvest.about.com/od/analyzingabalancesheet/a/inventory-turns.htm

http://beginnersinvest.about.com/od/analyzingabalancesheet/a/inventory-turns.htm

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