Explain the traditional techniques of Inventory Replenishment Systems

Selective Control Techniques/Traditional Techniques of

Inventory Replenishment Systems:

One of the jobs of the materials department is to ensure uninterrupted supply of materials to the production department. To accomplish this task, the materials department has to monitor the stock levels and place orders regularly. Two questions that arise are – when to place an order? And what quantities to order? Two main systems are followed for the same:

1)      Fixed order quantity system (Q – System of Inventory)

2)      Fixed order interval system (P – System of Inventory)

Fixed order quantity system (Q – System of Inventory)

Here the quantity to be ordered is worked out as the economic order quantity (EOQ) and the minimum stock level is also worked out. When the stock in hand reaches this level, an order is placed for a quantity equals to the EOQ.

Features of Fixed order quantity system:

a)      Reorder quantity is always the same, which is equal to the EOQ.

b)      The time interval between the orders varies.

c)      Reordering is done when the stock in hand is equal to safety stock plus the lead time consumption (this is known as the reorder level).

d)      Maximum inventory is equal to safety stock + Q

e)      Minimum inventory will be equal to safety stock

f)       This system is normally used for items of lower Value where orders are placed infrequently, and the lead time, average consumption etc. are fairly constant.

To simplify this system, many firms use a TWO – BIN system. One is the main BIN and the other is a reserve BIN. The stock in reserve bin equals the reorder level. When the main bin is empty it indicates an order has to be placed for the said item.

Important formulae:

Reorder level                           =          Safety stock + lead time consumption

Reorder quantity                      =          Q

Maximum inventory                =          Q + safety stock

Minimum inventory                 =          safety stock

Average inventory                   =          Q/2 + safety stock

Total cost of ordering              =          Number of orders X cost per order

Cost of carrying inventory       =          Avg. inventory X cost per unit X inventory carrying cost

Total cost o managing inventory =       cost of ordering + cost of carrying

Fixed order interval system (P – System of Inventory)

This is also referred to as the ‘periodic-ordering-system’, or ‘periodic review’ system or ‘order cycling’ system.

The important features of the system are:

1. Under this system the stock in hand is reviewed at periodic intervals and an order is placed which varies with the level of stock in hand.
2. The review period is decided to minimize the sum of annual procurement cost and annual inventory carrying cost along with the consumptions and lead time consumption during the period.
3. The quantity ordered is decided depending on the stock in hand, so that the ordered quantity and the stock in hand will take care of the requirements till the next review period plus the lead time consumption plus the safety stock.
4. The interval between two orders is fixed.
5. This system is used for high consumption value items (A category) needing a strict control. Retail establishments where large number of items are produced and a continuous sales is made also follow such a system.