Operations management

Chapter 1 - Goods, Services,

and Operations Management

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 Learning outcome

1.Lecturer: Dang Huu Phuc (Ph.d)

0902.520.577 - [email protected]

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 Learning outcome

1-1 Explain the concept and importance of operations

management.
1-2 Describe what operations managers do.
1-3 Explain the differences between goods and services.
1-4 Describe a customer benefit package.
1-5 Explain the role of processes in OM and identify
three general types of processes.
1-6 Summarize the historical development of OM.
1-7 Describe current challenges facing OM.

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Basic functions of business organizations

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 Definition

Operations management (OM) is the science

and art of ensuring that goods and services are
created and delivered successfully to customers.

Planning

Controlling OM Organizing

Leading
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 Definition

The role of operations management is to transform a

company’s inputs into the finished goods or services

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 Definition

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 OPERATION MANAGEMENT
Marketing Finance & OM Option
Option Accounting
Option
Current Sales Finance Production
Revenue : Costs: -50% Costs: -20%
+50%
Sales $100,000 $150,000 $100,000 $100,000
Cost of -80,000 -120,000 -80,000 -64,000
Goods Sold
Gross 20,000 30,000 20,000 36,000
Margin
Finance -6,000 -6,000 -3,000 -6,000
Costs
Net 14,000 24,000 17,000 30,000
Margin
Taxes @ -3,500 -6,000 -4,250 -7,500
25%
Contribution 10,500 18,000 12,750 22,500 8
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 What Do Operations Managers Do?
https://www.youtube.com/watch?v=FbbGlVle3oU&t=25s
✓ Forecasting
✓ Supply chain management
✓ Facility layout and design
✓ Technology selection
✓ Quality management
✓ Purchasing
✓ Resource and capacity
management
✓ Process design
✓ Job design
✓ Service encounter design
✓ Scheduling

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 Understanding Goods and Services

• A good is a physical product that you can see, touch,

or possibly consume, including durable good (is a
product that typically lasts at least three years) and
non-durable good (is perishable and generally lasts
for less than three years)
• A service is any primary or complementary activity
that does not directly produce a physical product.

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 Service characteristics

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 Understanding Goods and Services

- Goods are tangible while

Differences Between Goods

services are intangible.
- Customers participate in many

and Services
Similarities Between Goods

- Goods and services provide service processes, activities,

value and satisfaction to and transactions.
customers who purchase and - The demand for services is
use them. more difficult to predict than
and Services

the demand for goods.

- They both can be - Services cannot be stored as
standardized or customized to physical inventory.
individual wants and needs.
- Service management skills are
- A process creates and essential to a successful service
delivers each good or service, encounter.
and therefore, OM is a critical - Service facilities typically need
skill. to be in close proximity to the
customer.
- Patents do not protect services.
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 How Goods
and Services
Affect
Operations
Management
Activities

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 Customer Benefit Packages (CBP)

• A customer benefit package (CBP) is a clearly

defined set of tangible (goods-content) and intangible
(service-content) features that the customer recognizes,
pays for, uses, or experiences.
• In simple terms, a CBP is some combination of goods
and services configured in a certain way to provide value
to customers.
• A CBP consists of a primary good or service, coupled
with peripheral goods and/or services.

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 Customer Benefit Packages (CBP)

• A primary good or service is the “core” offering that attracts

customers and responds to their basic needs. For example, the
primary service of a personal checking account is the capability to
do convenient financial transactions.

• Peripheral goods or services are those that are not essential to

the primary good or service, but enhance it. Examples for a
personal checking account: online access and bill payment, debit
card, designer checks , paper or electronic account statement

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 Customer Benefit Packages (CBP)

Example for
Purchasing a
Vehicle

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 Working in Group

Draw the customer benefit package (CBP) for three of the

items in the following list and explain how your CBP provides
value to the customer.
• A new personal computer
• A trip to Disney World
• A credit card
• A fast-food restaurant
• A new smartphone
• A hotel
• ……
You can either create them by yourself or collect them from
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 Eras of Operations Management

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 Sustainability

• Sustainability refers to service and production

processes that use resources in ways that do not
harm ecological systems that support both current
and future human existence

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 Sustainability

+ Waste management
+Performance excellence
+ Energy optimization
+ Financial management
+ Transportation optimization
+ Resource management
+ Technology upgrades
+ Emergency preparedness
+ Air quality
+ Sustainable product design

- Product safety
-Workforce health and safety
-Ethics and governance
- Community
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www.website.com

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OPERATIONMANAGEMENT
VALUE CHAINS

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 Learning outcome

2-1 Explain the concept of value and how it can be increased.

2-2 Describe a value chain and the two major perspectives that
characterize it.
2-3 Explain outsourcing and vertical integration in value chains.
2-4 Explain offshoring and issues that managers must consider in
offshoring decisions.
2-5 Identify important issues associated with value chains in a
global business environment.
2-6 Describe how sustainability plays an important role in value
chains.

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 Value and Supply Chains

• The value chain is a process in which a company

adds value to its raw materials to produce products
eventually sold to consumers.

• The supply chain represents all the steps required

to get the product to the customer.

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VALUE AND SUPPLY CHAINS

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 The Concept of Value

Value is the perception of the benefits associated with

a good, service, or bundle of goods and services (i.e.,
the customer benefit package) in relation to what
buyers are willing to pay for them.

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 The Concept of Value

If the value ratio is high, the good or service is perceived favorably

by customers, and the organization providing it is more likely to be
successful. To increase value, an organization must:

Perceived benefits
Value =
Price (cost) to the customer

(a) increase perceived benefits while holding price or cost

constant,
(b) increase perceived benefits while reducing price or cost, or
(c) decrease price or cost while holding perceived benefits
constant.

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Value Chain Paradigms and Perspectives

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 Integration
• Vertical integration refers to the process of acquiring
and consolidating elements of a value chain to achieve
more control.
• Backward integration refers to acquiring
capabilities toward suppliers
• Forward integration refers to acquiring capabilities
toward distribution or even customers.
• Horizontal integration is the acquisition of a business
operating at the same level of the value chain in a similar
or different industry.

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 Outsourcing

• Outsourcing is the process of having

suppliers provide goods and services that
were previously provided internally.

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 Potential advantages and disadvantages of
Outsourcing

• Group working
Discuss the advantages and disadvantages of outsourcing
-------
-------
-------

When do we decide to outsource?

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 The Economics of Outsourcing
• VC1 = Variable cost/unit if produced
• VC2 = Variable cost/unit if outsourced
• FC = Fixed costs associated with producing the part
• Q = Quantity produced (volume)
• Total cost of production = (VC1)Q + FC
• Total cost of outsourcing = (VC2)Q
• Find the breakeven point: (VC2)Q = (VC1)Q + FC

𝑭𝑪
Q* =
𝐕𝐂𝟐 −𝑽𝑪𝟏

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The Economics of Outsourcing

Solved Problem—In-House versus Outsource

• Suppose that a manufacturer needs to
produce a custom aluminum housing for
a special customer order. Because it
currently does not have the equipment
necessary to make the housing, it would
have to acquire machines and tooling at a
fixed cost (net of salvage value after the
project is completed) of $250,000. The
variable cost of production is estimated to
be $20 per unit. The company can
outsource the housing to a metal
fabricator at a cost of $35 per unit. The
customer order is for 12,000 units.
• What should they do?
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 Break-even point analysis

• Break Even Analysis in economics, business, and

cost accounting refers to the point in which total cost
and total revenue are equal.

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 Assignment

A language center organizes a training course lasting

within 18 weeks with the following information
• The course take place on Saturday and Sunday,
weekly
• The total tuition fee the course is 29,000,000 VND
• The operation cost are listed in the following slide.

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 Assignement
Expenditure Cost
Educator expense $4,000,000 / day
Transportation allowance $500,000 / day
Teaching facilities $1,500,000 / day
Tax 6% revenue
Fee for recruiting one new student 10% revenue
Fee for issuing one certificate $100,000 / 1 certificate
Management expense 10% revenue
Other expense 6% revenue
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→ How many students

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 OFFSHORE

• Offshoring is the building, acquiring, or moving of process

capabilities from a domestic location to another country location
while maintaining ownership and control.
• Offshoring is the relocation of a business process from one
country to another—typically an operational process, such as
manufacturing, or supporting processes, such as accounting.

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 OFFSHORE

Things to Consider When Making Offshore Decisions

-------
-------
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 OFFSHORE – TAX HAVEN

Example Normal Offshore

A buy Rolex at $100 B buy Rolex at $100
A buy Rolex from B at $1000
A sell Rolex at $1000 A sell Rolex at $1000
A get a profit for $900 A get a profit for $00
B get a profit for $900
A pay for tax about 20% = $180 A pay for tax about 20% = 0
B do not pay for tax
Totally, pay for tax $180 Totally, pay for tax $0

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www.website.com

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 Group assignment

• Find out the international corporation and analyze its value

chain based on the Porter model. It does not matter if that
company is successful or failed.
• Each group will prepare PPT file and deliver a presentation on
the last 2 days of this course.
• The content includes:
• Brief introduction about the company
• Detail analysis of its value chain based on the Porter model
• Some lessons from its success or failure.
• Choose the company for analysis. Ensure that each group
analyzes different companies. Register your choice in our Zalo
group.
• the international corporation and analyze its value chain based on the
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Operation Management
Forecasting and Demand Planning

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 Learning Outcomes

• Describe the importance of forecasting to the value chain.

• Explain basic concepts of forecasting and time series.
• Explain how to apply single moving average and
exponential smoothing models.
• Describe how to apply regression as a forecasting
approach.
• Explain the role of judgment in forecasting.
• Describe how statistical and judgmental forecasting
techniques are applied in practice.

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 Basic Concepts in Forecasting

A time series is a set of observations measured at successive

points in time or over successive periods of time.
A time series pattern may have one or more of the following five
characteristics:
• Trend
• Seasonal patterns
• Cyclical patterns
• Random variation (or noise)
• Irregular (one time) variation

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Seasonal Pattern of Home Natural Gas
Usage

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Trend and Business Cycle Characteristics
(each data point is 1 year apart)

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 Statistical Forecasting Models

• Statistical forecasting is
based on the assumption that
the future will be an
extrapolation of the past.

• Judgmental forecasting
relies upon opinions and
expertise of people in
developing forecasts.
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 (1) Naïve Method

The naïve method is one of the simplest forecasting models.

It assumes that the next period’s forecast is equal to the current period’s
actual.

Ft+1 : Forecast of demand for next period, t+1

At : Actual value for current period t
t : Current time period

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 (2) Single Moving Average

A moving average (MA) forecast is an average of the most recent “n”

observations in a time series.

Ft+1 : Forecast of demand for next period, t+1

At : Actual demand observed in period t
n : number of periods or data points to be averaged
MA methods work best for short planning horizons when there is no major trend,
seasonal, or business cycle pattern.

• As the value of “n” increases, the forecast reacts slowly to recent changes in
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 Solved Problem

Develop three-period moving-average forecasts

Period Demand Period Demand

1 86 7 91
2 93 8 93
3 88 9 96
4 89 10 97
5 92 11 93
6 94 12 95

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 (3) Weighted Moving Average (WMA)

• Weighted moving averages assign a heavier weighting to

more current data points since they are more relevant than
data points in the distant past
• The sum of the weighting should add up to 1 (or 100
percent). In the case of the simple moving average, the
weightings are equally distributed
Ft+1 = wtAt + wt-1At–1 + ... + wt-nAt-n
Ft+1 : Forecast of demand for next period, t+1
At : Actual demand observed in period t
wt : the weighting in period t
n : number of periods or data points to be averaged
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 (3) Weighted Moving Average (WMA)

Date Closing Price of AAPL Weighting

June 26 $90.90 5/15
June 25 $90.36 4/15
June 24 $90.28 3/15
June 23 $90.83 2/15
June 20 $90.91 1/15

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 (4) Single Exponential Smoothing

• Single Exponential Smoothing (SES) is a forecasting

technique that uses a weighted average of past time-series
values to forecast the value of the time series in the next
period.

Ft+1 = At + (1 – )Ft = Ft +  (At – Ft)

where α is called the smoothing constant (0 ≤ α ≤ 1).

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 (5) Trend-Adjusted Exponential Smoothing

• Step 1: Calculate the forecast using Single Exponential

Smoothing (Ft);
Ft= Ft-1 +  (At-1 – Ft-1)
• Step 2: Adjust the trend
Tt =  x (Ft − Ft -1) + (1− )Tt-1
where  is called the trending constant (0 ≤  ≤ 1).
where T is called the trending adjustment.

• Step 3: Calculate Forecast Including Trend (FITt):

FITt= Ft + Tt

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 (5) Exponential Smoothing with Trend

The last demands related to a product are listed in the

following table:
Month 1 2 3 4 5 6
Demand 2000 2100 1500 1400 1300 1600

Let’s assume that α = 0.8,  = 0.5, F1 = 2200 và T1 = 0

Forecast the next month using the exponential smoothing

with trend.

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 (5) Exponential Smoothing with Trend

Month Ai α = 0.8  = 0.5 FIT

Ft = Ft-1 +  (At-1 – Tt =  x (Ft − Ft -1)
Ft-1) +(1− )Tt-1

1 2000 2200 0 2200

2 2100 2040 -80 1960

3 1500

4 1400

5 1300

6 1600

7 - ???

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 Problem

• Sunrise company deliveries its own Donuts through a food

chain. The demand for Donuts within the last 4 weeks are in the
following table.

4 weeks ago 3 weeks ago 2 weeks ago 1 weeks ago

Monday 2200 2400 2300 2400

Tuesday 2000 2100 2200 2200

Wednesday 2300 2400 2300 2500

Thursday 1800 1900 1800 2000

Friday 1900 1800 2100 2000

Saturday 2010 2020 2000 2300

Sunday 2800 2700 3000 2900

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 4 weeks ago 3 weeks ago 2 weeks ago 1 weeks ago

Monday 2200 2400 2300 2400

Tuesday 2000 2100 2200 2200

Wednesday 2300 2400 2300 2500

Thursday 1800 1900 1800 2000

Friday 1900 1800 2100 2000

Saturday 2010 2020 2000 2300

Sunday 2800 2700 3000 2900

Forecast the demand for this week with:

a. Forecast the daily demand using single moving average (4 weeks).
b. Forecast the daily demand using weighted moving average, the weights are 0,4; 0,3;
0,2; 0,1.
c. This firms is planning to purchase the material for Donuts. Assume that the forecast for
last week was 22000 units, while the actual need was 21000 units. Forecast for this
week using the Exponential Smoothing With Trend with  = 0,10, β = 0.5, and last T =
150
d. With the result from question C, the actual demand for this week is 22500 units, make
the forecast for next week?
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 (6) Regression as a Forecasting Approach

• Regression analysis is a method for building a statistical

model that defines a relationship between a single dependent
variable and one or more independent variables, all of which
are numerical.

• Y : dependent variable
• x : independent variable (time)
• a : intercept of the regression line
• b : slope of the regression line
• CusSatis = 2.85 - 0.34*Price
• Ice-cream Revenue = 34 + 0.75*Temperature
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 (6) Regression as a Forecasting Approach

A linear regression model with more than one independent

variable is called a multiple linear regression model.

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 Forecast Error

• Forecast error is the difference between the

observed value of the time series and the forecast, or
At – Ft
Mean Square Error (MSE)
Σ(At – Ft )2
MSE =
n

Mean Absolute Deviation Error (MAD)

Σ‫׀‬At – Ft ‫׀‬
MAD =
n

Mean Absolute Percentage Error (MAPE)

Σ‫(׀‬At – Ft )/At ‫ ׀‬X 100
MAPE =
n
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 Example

• Standard Parts Corporation is comparing the accuracy of

two methods that it has used to forecast sales of its
popular valve. Forecasts using method A and method B
are shown against the actual values for January through
May. Which method provided better forecast accuracy?

Forecast
Month Actual Sales
Method A Method B
January 30 28 30
February 26 25 28
March 32 32 36
April 29 30 30
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 Judgmental Forecasting

• Judgmental forecasting relies upon opinions and

expertise of people in developing forecasts.
− Grass Roots forecasting is simply asking those
who are close to the end consumer, such as
salespeople, about the customers’ purchasing
plans.
− The Delphi method consists of forecasting by
expert opinion by gathering judgments and
opinions of key personnel based on their
experience and knowledge of the situation.

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www.website.com

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Operation Management
Managing Inventories

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 Learning outcomes

• Explain the importance of inventory, types of inventories, and

key decisions and costs.
• Describe the major characteristics that impact inventory
decisions.
• Describe how to conduct an ABC inventory analysis.
• Explain how a fixed order quantity inventory system operates,
and how to use the EOQ and safety stock models.
• Explain how a fixed period inventory system operates.
• Describe how to apply the single-period inventory model.

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 Concept

• Inventory is any asset held for future use or

sale.
Objectives:
− Maintain sufficient inventory
− Incur lowest possible cost
• Inventory management involves planning,
coordinating, and controlling the acquisition,
storage, handling, movement, distribution, and
possible sale of raw materials, component parts
and subassemblies, supplies and tools,
replacement parts, and other assets that are
needed to meet customer wants and needs.

Stock Management V.s Inventory Management

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 Understanding Inventory

• Raw materials
• Component parts
• Work-in-process (WIP) inventory
• Finished goods inventory
• Distribution inventory
• Maintenance, repair, and operational (MRO) inventory

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 Group Activities

Thinking about your local food supermarket

• What are the main risks of running out of stock?
• How can they manage the inventory?

Taking 30 minutes for research and then report the above

issues
- Upload your group report to LMS
- Present your group report (randomly choose)

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 ABC Inventory Analysis

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 ABC Inventory Analysis

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 Procedure for an ABC Inventory Analysis

1. Calculate the annual dollar usage for each item.

2. List the items in descending order based on annual
dollar usage.
3. Calculate the cumulative annual dollar volume.
4. Classify the items into groups

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 ABC Inventory Analysis

• The data shows

projected annual dollar
usage for 20 items.

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 ABC Inventory Analysis

• Excel ABC Template

• After Sorting,

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 ABC Inventory Analysis

• ABC Histogram for the Results

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 Cycle Counting Example

5,000 items in inventory, 500 A items, 1,750 B items, 2,750

C items
The policy is to count A items every month (20 working
days), B items every quarter (60 days), and C items every
six months (120 days)

→ How can we assign a person to check such items

following the regulations?

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Inventory Management Decisions and Costs

Inventory managers deal with two fundamental decisions:

1. When to order items from a supplier or when to initiate
production runs if the firm makes its own items.

2. How much to order or produce each time a supplier or

production order is placed.

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Inventory Management Decisions and Costs

Four categories of inventory costs:

• Shortage costs

• Unit cost of the stock-keeping units (SKUs)

• Ordering or setup costs

• Inventory-holding costs

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 Inventory Management Decisions & Costs

• Shortage costs or stockout costs are the costs

associated with a SKU being unavailable when needed
to meet demand, including
• Back-order cost
• Lost sale

• Unit cost is the price paid for purchased goods or the

internal cost of producing them.

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 Inventory Management Decisions & Costs

• Ordering costs or setup costs are incurred as a result of

the work involved in placing purchase orders with
suppliers or configuring tools, equipment, and machines
within a factory to produce an item.
It normally include
• Clerical costs of preparing purchase orders
• Cost of finding suppliers and expediting orders
• Transportation costs
• Receiving costs

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 Inventory Management Decisions & Costs

• Inventory-holding costs or inventory-carrying costs

are the expenses associated with carrying inventory.
Holding costs are typically defined as a percentage of
the dollar value of inventory per unit of time (generally
one year).
➢Storage cost
➢Capital cost
➢Risk cost

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 Inventory Management Decisions & Costs
Holding Costs

Cost (and Range)

as a Percent of
Category Inventory Value
Housing costs (including rent or 6% (3 - 10%)
depreciation, operating costs, taxes,
insurance)
Material handling costs (equipment lease or 3% (1 - 3.5%)
depreciation, power, operating cost)
Labor cost 3% (3 - 5%)
Investment costs (borrowing costs, taxes, 11% (6 - 24%)
and insurance on inventory)
Pilferage, space, and obsolescence 3% (2 - 5%)
Overall carrying cost 26%
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 Inventory Characteristics

• Stockout
− A stockout is the inability to satisfy
demand for an item.
− A backorder occurs when a customer
is willing to wait for an item.
− A lost sale occurs when the customer
is unwilling to wait and purchases the
item elsewhere.

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 The economic order quantity (EOQ)

• The Economic Order Quantity (EOQ) model is a classic

economic model developed in the early 1900s that minimizes
total cost, which is the sum of the inventory-holding cost and
the ordering cost.
• Assumptions:
✓ Demand for the product is known and constant
✓ Lead time is constant
✓ Quantity discounts are not considered
✓ Ordering and setup costs are fixed and constant
✓ Does not permit back orders
✓ The quantity ordered arrives at once 85
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Managing Fixed Quantity Inventory Systems

• Fixed Quantity System (FQS) under Stable Demand

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 The EOQ Model

Average cycle inventory = (Maximum inventory + Minimum inventory) / 2

= Q/2

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 The EOQ Model

Inventory Holding Cost

• The cost of storing one unit in inventory for the year, H, is:
H = (I) (C)
Where:
• I = Annual inventory-holding charge expressed as a percent of
unit cost.
• C = Unit cost of the inventory item or SKU.

Annual inventory-holding cost is computed as:

Annual inventory
holding cost
=
(average
)(
inventory
annual holding
cost per unit ) =
1
2
QH

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 The EOQ Model

Ordering Cost
If D = Annual demand and we order Q units each time, then we
place D/Q orders/year.

Annual ordering cost is computed as:

annual
ordering cost
=
( number of
orders per year )( cost
per order ) ()
= D
Q
S

Where S is the cost of placing one order/ setting up.

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 The EOQ Model

Total Annual Cost

• Total annual cost is the sum of the inventory holding cost plus
the order or setup cost plus annual purchase cost

1 D
TC = QH + S + DC
2 Q
Where
TC is total annual cost
S is setting up/ordering cost
H is holding cost
C is unit cost
D is annual quantity demand
Q is Volume per Order
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 The EOQ Model

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 The EOQ Model

Economic Order Quantity

• The EOQ is the order quantity that minimizes the total annual
cost:

2DS
Q* =
√ H

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 The EOQ Model

• Number of orders per year

• Time between orders (TBO)

Where N is number of orders

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 The EOQ Model

Calculating the Reorder Point

• The reorder point, r, depends on the lead time and demand rate.

r = Lead
r = (Average demand) x (lead time) = (d) x (L)

Where:
d = Average daily demand (constant)
L = Lead time in days (constant)

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 The EOQ Model

Given the following information, find the economic order

quantity, the reorder point, and total cost. Comparing to Q =
2000, how much company can save?
D = 24,000 cases per year.
S = $38.00 per order.
I = 18%
C = $12.00 per case.
L = 3 days
Working days per year = 250

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 Question

• A company faces an annual demand of 2,000

units. It costs the company $1,000 for every
order placed and $250 per unit of the product.
It faces a carrying cost of 10% of a unit cost.
Lead time is 2 weeks. What is the economic
order quantity? Time between orders? Re-
order point?
• Assuming the working days: 360

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Managing Fixed Quantity Inventory Systems

• Fixed Quantity System (FQS) with highly variable Demand

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 Safety Stock and Uncertain Demand in a Fixed
Order Quantity System

When demand is uncertain, using EOQ based on the

average demand will result in a high probability of a
stockout.

✓Safety stock is additional planned on-hand

inventory that acts as a buffer to reduce the risk of
a stockout.
✓A service level is the desired probability of not
having a stockout during a lead-time period.

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 Safety Stock and Uncertain Demand in a Fixed
Order Quantity System

Re-order point after including safety stocks:

R = L + zL = (d x L) + zL
Where
• L : Average demand during the lead time.
• L: Standard deviation of demand during the lead time.
• z : The number of standard deviations necessary to achieve the
acceptable service level.
• “zL” : represents the amount of safety stock.

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 Safety Stock and Uncertain Demand in a Fixed
Order Quantity System

• We may not know the mean and standard deviation

of demand during the lead time, but we may know
mean and standard deviation of daily demand
• Suppose that d and d are the mean and standard
deviation of daily demand.

L = d L

L = d √L = √ L x d

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 Example

• d = 60
• d = 7
• S = $10
• H = $0.50
• L=6
• Working days = 365

→ Calculate Q* and re-order point with confident level

at 95% (z=1.64)

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 Question 1

Southern Office Supplies, Inc. distributes laser printer paper.

• Ordering costs are $45.00 per order.
• One ream of paper costs $3.80.
• Annual inventory-holding cost rate is 20%.
• The average annual demand is 15,000 reams, or about 15,000/52
= 288.5 per week.
• The standard deviation of weekly demand is about 71.
• The lead time from the manufacturer is two weeks.

- Find out EOQ.

Desired service level of 95% (z=1.64), find out reorder point, the cost
of the additional safety stock.
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Break

103
2. POQ – Production Order Quantity

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 2. POQ model

POQ model have the same assumptions with EOQ,

except:
• The entire order quantity (Q) arrive in the inventory at
more than one time and finish after t.

Used when units are produced and sold simultaneously

p : Daily production rate

Inventory d : Daily demand/usage rate

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 2. POQ model

• Example

The requirement: 100 units (Q)

Daily production rate: 50 units (p)
Daily usage rate: 10 units (d)

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 2. POQ model

• Example
On the first day: Assume that there is no inventory:
+ 50 units are produced (p)
+ 10 units are consumed (d)
 At the end of first day: inventory → 40 units (p-d)
On the second day:
+ 50 units are produced
+ 10 units are consumed
 At the end of second day: inventory → 40 units (1st) + 40 units (2nd)
= 80 units
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 2. POQ model

• Example
On the third day:
+ 0 units are produced (since 100 units already be produced)
+ 10 units are consumed
 At the end of third day: inventory → 80 units – 10 units = 70 units
Similarity
 At the end of fourth day: inventory → 60 units
 ….
 At the end of tenth day: inventory → 0 unit
→ Conclusion: maximum inventory (80 units), minimum inventory (0 unit)
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 2. POQ model

Q = Number of pieces per order p = Daily production rate

H = Holding cost per unit per year d = Daily demand/usage rate
t = Length of the production run (in days)

Part of inventory cycle during

which production (and usage) is
taking place
Inventory level

Demand part of cycle with

no production
Maximum
inventory

t Time
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TS. Đặng Hữu Phúc
 2. POQ model

• t = Q/ p;
• Imax = (p – d)t = (p – d).Q/p = Q (1 – d/p)
• Imin = 0
➔Iaveg = Q (1 – d/p)/2

1 D
TCHH = Q(1 – d/p) H + S + DC
2 Q
Average annual inventory

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 2. POQ model

Q = Number of pieces per order p = Daily production rate

H = Holding cost per unit per year d = Daily demand/usage rate
D = Annual demand

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 2. POQ example

D = 1,000 units p = 8 units per day

S = $10 d = 4 units per day
H = $0.50 per unit per year

TS. Đặng Hữu Phúc

 Question

• The average monthly demand for a material is 125

units. According to the agreement, the price is
$10/unit and the order will be executed many times
with an average supply of 40 units / week. The
average ordering cost is $15; holding cost equals to
20% of the purchase price. Number of working days
is 250 days/year, a 5-day working week.
• Determine the optimal order quantity?

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3. FIXED PERIOD SYSTEM – FPS
(P-model)

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 3. FPS model

• Inventory counted only at end of period

• Orders placed at the end of a fixed period
• Order brings inventory up to target level
• May be scheduled at convenient times
• Appropriate in routine situations

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 Inventory Level in a Fixed Period System

Various amounts (Qi) are ordered at regular time intervals

(p) based on the quantity necessary to bring inventory up
to target maximum

Target maximum
Q1 Q2 Q4

Q3
d Inventory

p p p

Time

TS. Đặng Hữu Phúc

 3. FPS model

Order Average demand

= in the review + Safety stock - Inventory
amount position
period

q = d(T+L) + z (T+L) - IP

q = order quantity
T = the number of days between reviews
L = Lead time
d = daily/weekly forecast demand
Z = the number of standard deviations for a specified
service probability
(T+L) = Standard deviation of demand over the review
and lead time
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TS. Đặng Hữu Phúc
 3. FPS model

Order Average demand

= in the review + Safety stock - Inventory
amount position
period

q = d(T+L) + z (T+L) - IP

IP = (Inventory position)

• Inventory position (IP) is the on-hand quantity (OH) plus any orders
placed but which have not arrived (scheduled receipts, or SR), minus
any backorders (BO).

IP = OH + SR – BO
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TS. Đặng Hữu Phúc
 3. FPS model

• Question:
Daily demand for a product is 10 units, with a standard
deviation of 3 units. The review period is 30 days, and
the lead time is 14 days. Management has set a policy
of satisfying 98 percent (z = 2.05) of demand from
items in stock. At the beginning of this review period,
there are 150 units in inventory.
How many units should be ordered?

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 3. FPS model

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4. QUANTITY DISCOUNT MODEL – QDM

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 4. QDM Model

• Reduced prices are often available when

larger quantities are purchased

• Trade-off is between reduced product cost

and increased holding cost

TS. Đặng Hữu Phúc

 4. QDM Model

A typical quantity discount schedule

Discount Discount
Number Discount Quantity Discount (%) Price (P)
1 0 to 999 no discount $5.00
2 1,000 to 1,999 4 $4.80

3 2,000 and over 5 $4.75

TS. Đặng Hữu Phúc

 4. QDM Model

Steps in analyzing a quantity discount

1. For each discount, calculate Q*

Q* =
√ 2DS
H

2. If Q* for a discount doesn’t qualify, choose the

nearest possible order size to get the discount
(Q**)
TS. Đặng Hữu Phúc
 4. QDM Model

Steps in analyzing a quantity discount

3. Compute the total cost for each adjusted value

Q** from Step 2
**

**

4. Select the Q** that gives the lowest total cost

TS. Đặng Hữu Phúc

 Example

Suppose that
Annual demand = 5,200
Ordering cost = $200,
Annual holding cost = 28% price.
→ Calculate the optimal order quantity
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TS. Đặng Hữu Phúc
 4. QDM model

• Step 1:
Q*1 = 273 units ; Q*2 = 276 units ; Q*3 = 279 units

• Step 2: Adjust Q* into Q**

▪ Q*1 = 273 units → Q**1 = 119 units
▪ Q*2 = 276 units → Q**2 = 276 units
▪ Q*3 = 279 units → Q**3 = 1,500 units

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 Q**1= 119
Q*1= 273

Q**3 = 1500

Q*2 = Q**2 = 276

Q*3 = 279
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TS. Đặng Hữu Phúc
 4. QDM model

• Step 3: compute total cost

**

**

• TC1 = $530.405
• TC2 = $517.155
• TC3 = $520.053
• Step 4
Since TC2 is smallest, the optimal order quantity is 276
units, and the total cost is $517.155.
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Operation management
Operations Sequencing

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 Learning Outcomes

• Explain the concepts of sequencing.

• Explain sequencing performance criteria and rules.
• Describe how to solve single- and two-resource sequencing
problems.

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 Sequencing

• Sequencing is required when several activities must be

processed using a common resource.

• Commonly Used Priority Rules

1. First come, first served (FCFS):
2. Earliest due date (EDD)
3. Shortest processing time (SPT)

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TS. Đặng Hữu Phúc
 Sequencing
Sequencing rules for a fixed set of
jobs:

• Shortest Processing Time (SPT)

✓ SPT sequencing
maximizes resource
utilization and minimizes
average flow time and
work-in-process inventory.

• Earliest Due Date (EDD)

✓ EDD minimizes the
maximum job tardiness
and lateness.
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TS. Đặng Hữu Phúc
Sequencing: Measuring performance

Flow time is the amount of time a job spent in

the shop or factory.
Fi = ∑pij + ∑wij = Ci - Ri
Fi = Flow time of job i
∑pij = Sum of all processing times of job i at
workstation or area j (run + setup times)
∑wij = Sum of all waiting times of job i at
workstation or area j
Ci = Completion time of job i
Ri = Ready time for job i where all materials,
specifications, and so on are available

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 Sequencing

Makespan: is the time needed to process a

given set of jobs.

M=C-S
M = Makespan of a group of jobs
C = Completion time of last job in the group
S = Start time of first job in the group

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 Sequencing
• Lateness is the difference between the completion time and the due
date (either positive or negative).
• Tardiness is the amount of time by which the completion time
exceeds the due date.
(Tardiness is defined as zero if the job is completed before the due
date.)
Li = Ci - Di
Ti = Max (0, Li)
Where
Li = Lateness of job i
Ti = Tardiness of job i
Di = Due date of job i
Ci = Completion time of job i
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TS. Đặng Hữu Phúc
Suppose an insurance underwriting work area (that is, the single
processor) has five commercial insurance jobs to quote that have these
processing times and due dates:

FCFS Rule
Job Processing Time (days) Due Date
1 4 15
2 7 16
3 2 8
4 6 21
5 3 9

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TS. Đặng Hữu Phúc
 Examples of Sequencing Rules

SPT Rule
Job Processing Time (days) Due Date
1 4 15
2 7 16
3 2 8
4 6 21
5 3 9

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TS. Đặng Hữu Phúc
 Examples of Sequencing Rules

EDD Rule
Job Processing Time (days) Due Date
1 4 15
2 7 16
3 2 8
4 6 21
5 3 9

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 Examples of Sequencing Rules

Comparison of Three Ways (By-the Numbers, SPT, and EDD)

to Sequence the Five Jobs

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 Solved Problem

Five tax analysis jobs are waiting to

be processed by Martha at T.R.
Accounting Service. Use the
shortest-processing-time (SPT) and
earliest-due-date (EDD)
sequencing rules to sequence the
jobs. Compute the flow time,
tardiness, and lateness for each
job, and the average flow time,
average tardiness, and average
lateness for all jobs. Which rule do
you recommend? Why?

TS. Đặng Hữu Phúc

 Applications of Sequencing Rules

Two-Resource Sequencing Problem (Johnson’s Rule)

1. List the jobs and their processing times on Resources #1 and

#2.
2. Find the job with the shortest processing time (on either
resource).
3. If this time corresponds to Resource #1, sequence the job first;
if it corresponds to Resource #2, sequence the job last.
4. Repeat steps 2 and 3, using the next-shortest processing time
and working inward from both ends of the sequence until all
jobs have been scheduled.

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TS. Đặng Hữu Phúc
 Applications of Sequencing Rules

Example: Two-Resource Sequencing

Problem (Johnson’s Rule)

Each job requires first a shearing operation

(Resource #1) and then a punch-press
operation (Resource #2).
Next, both job 1 on the shear and job 3 on the punch press have the
next shortest time. Choose job 1:

Continuing, choose job 3 and finally job 4:

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Applications of Sequencing Rules

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