DMM6601- Unit 05: Management for Engineers Session 03: Inventory Management and Control

Session 03
Inventory Management and Control

Content
Aim
Learning Outcomes
3.1 Introduction to Inventory Control
3.2 Inventory Management System
3.3 Inventory Control Models
Summary

Aim
This session is to introduce students available inventory management systems
and inventory control models..

Learning Outcomes
At the end of this session, you should be able to,
(i). Explain the purpose and importance of inventory control
(ii). Explain different inventory management systems
(iii). Use different inventory management models in inventory
control;

3.1 Introduction to Inventory Control

Purpose
Inventory is a stock of items kept by an organization to meet internal or
external customer demand. Virtually every type of organization maintains
some form of inventory.
The nature of the inventory varies; for an example a department stores and
grocery stores carry inventories of all the retails products they sell, a nursery
has inventories of different plants, trees and flowers, a rental car agency has
inventories of cars.
However, inventory is not a final product waiting to be sold to a retails
customer, especially in manufacturing firm, inventory can take on forms
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DMM6601- Unit 05: Management for Engineers Session 03: Inventory Management and Control

besides finish goods including raw material, purchased parts and supplies,
work- in – progress (Partially completed products), items being transported,
tools and equipment.
The purpose of inventory management is to determine the amount of
inventory to keep in stock, how much to order and when to order. Proper
Inventory control help to forecast the value of stock at appropriate time
intervals, measure the stock at these same intervals, compare the actual value
with planned value and feedback early warnings of any tendency to excessive
or harmful variations. The principal reasons why control of stock volume is
desirable are;
1. To ensure that the capital tied up in inventories does not exceed the
limit of funds available
2. to ensure that the value of the inventory is accurately shown in the
company’s accounts.
3. To guard against theft.
The second of these two reasons raises the point that there is general a
difference in units between the inventory as controlled by inventory control
and the

3.2 Inventory Management System

There are two basic types of inventory management systems. In the first type
stock is replenished whenever at the amount in stock falls to some
predetermined level. This is called a “two bin “or recorder level system. The
little “two bin” comes from the earliest method of administrating this system,
which involved physically segregating the stock in to two bins. Stock was
drawn from the first bin until this was emptied, at which time a replenishment
order was placed. Stock was then drawn from the second bin until the
replenishment order arrived. When the replenishment order reached the store,
the second bin was topped-up and the remainder of the stock placed in to the
first bin from where it was drawn again. In many a stock control situation, for
example machine shop store, this is an extremely simple system to operate.
We can represent this diagrammatically as shown in Fig 3.1
The second method of stock control is the periodic review system or the fixed
input interval. Under this system, order for replenishment of stock are placed
at regular intervals. The quantity orders being calculated to bring the amount
in stock to some predetermined level. This latter system in particularly useful
when a range of stock items is ordered from a single supplier. Economies in
order placing, and in the form of quality discounts may be realized by
reviewing the stocks of all items in the range at the same time. The periodic
review system can be illustrated diagrammatically as shown in Figure 3.2

STOCK
LEVEL 21
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INPUT
QUANTITY
DMM6601- Unit 05: Management for Engineers Session 03: Inventory Management and Control

Figure 3.1 Reorder level System

STOCK
LEVEL

FIXED INPUT
INTERVAL

Figure 3.2 Periodic Review System

Where demand is constant and replenishment is instantaneous or where the
replenishment lead time is known, the fixed input level system resembles the
periodic review system. Only where either replenishment lead time or
demand in uncertain will the adoption of each approach lead in practice to
different inventory behaviour.

3.3 Inventory Control Models

Most of the inventory control quantitative models deal with intermittent. Flow
and input control i.e. Batch ordering, and in most case the objective is cost
minimization i.e. the minimization of the total of holding and inventory
change costs. Most such models are deterministic i.e. they assume a known
constant demand and either known input rete with no lead time or
instantaneous input and known lead time. In such deterministic situation,
there will be no need for provision of buffer or safety stocks. Such stocks will
be provided only to protect against uncertain demand and/or lead time.
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DMM6601- Unit 05: Management for Engineers Session 03: Inventory Management and Control

Probabilistic models have been developed to deal with such uncertain

inventory control situations.

3.3.1 DETERMINISTIC MODELS

LOT SIZE MODEL
This is a static model which is applicable to both types of ordering policies.
The objective of this model is to determine an economic lot size. The model
is analogous to the economic batch size model developed for batch
production.
We can represent the model diagrammatically as shown in Fig.3.3. In order
to show the exact resemblance between this model and the batch size model
in batch production, we shall use S for maximum stock level and s for
minimum stock level.

STOCK
LEVEL
S

Lot
size

T = TIME BETWEEN ARRIVAL OF

ORDER

Figure 3.3
S=s+Q
Demand rate = λ units/ unit time
Number of orders placed
1
Per unit (1 year) = 𝑇
λ
=𝑄

The costs involved are:

A = Fixed administrative cost of placing an order (set up cost)
I = Stock holding cost /unit/unit time
C = Cost of one unit of item
The total average yearly cost is given by:

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DMM6601- Unit 05: Management for Engineers Session 03: Inventory Management and Control

𝜆 𝐼(𝑄 + 𝑠) + 𝑠
K = 𝐴. + + 𝐶𝜆
𝑄 2
𝜆 𝐼𝑄
K = 𝐴. 𝑄 + + 𝐼𝑠 + 𝐶𝜆 …………………………………….. (3.1)
2

The average yearly variable cost is given by:

𝜆 𝐼𝑄
K = 𝐴. 𝑄 + + 𝐼𝑠 ……………………………………….(3.2)
2

We have to minimize K with respect to Q and s. Therefore, set as s=0 and

differentiate the expression (3.2)
𝑑𝐾 𝐴𝜆 𝐼
Then, = +2
𝑑𝑄 𝑄2

For minimum K,

𝑑𝐾
= 0
𝑑𝑄
𝐴𝜆 𝐼
0= − +
𝑄2 2
𝐴𝜆 𝐼
=
𝑄2 2
2𝜆𝐴
𝑄2 =
𝐼

2𝜆𝐴
𝑄=√
𝐼

The above formula known as Wilson formula gives the minimum cost batch
size
2𝜆𝐴
Q* = √ ………………………………………(3.3)
𝐼

Which is actually the Wilson formula.

S.A.Q 01

The demand for a certain product is 600 units per year. The fixed
administrative cost of placing an order is Rs.30 and the stock holding cost is
Rs.6 per unit per year. Calculate
1. Economic lot size.
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DMM6601- Unit 05: Management for Engineers Session 03: Inventory Management and Control

2. How often orders should be placed,

3. The average yearly cost.
Compare the average yearly running cost with the total yearly cost.

ANSWER

In the given question we can write,

A = Rs.800
I = Rs.6 per unit per year
λ = 600 units per year

Using Wilson formula,

2 𝑥 600 𝑥 800
Q* = √ 6

So, economic lot size = 400 units

The time between orders, T* is given by,
𝑄∗
𝑇∗ = 𝜆

= 400/600
= 2/3 year
We can represent this in a diagrammatic form shown as in Fig. (3.4)

STOCK
LEVEL

400

200

1/3 yr TIME

1st 2nd
YEAR YEAR
`2/3 yr

Figure 3.4
The average yearly running cost K* is given by,

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DMM6601- Unit 05: Management for Engineers Session 03: Inventory Management and Control

𝐴𝜆 𝐼𝑄
K= + + 𝐼𝑠
𝑄 2
Since there is no any buffer stock
K* = √2𝜆𝐴𝐼
= √2𝑥600𝑥800𝑥6
= Rs. 2,400
The total cost K is given by,
𝐴𝜆 𝐼𝑄
K= + + 𝐶𝜆 (since s = 0)
𝑄 2
800 𝑥 600 6 𝑥 400
= + + 30 x 600
400 2

= Rs. 20,400
The running cost is small compares to the total cost.

LOT SIZE MODEL WITH BACK ORDERS ALLOWED

This model is exactly similar to the stock shortage situation which we came
across in batch production. In inventory management, there can be a situation,
where if demand occurs when the stock level is zero, demand is stock back
ordered until replenishment order arrives. A penalty cost of per unit back
ordered per unit back ordered per unit time will arise.
Keeping the cost factors i.e. fixed administrative cost of placing an order (A),
and stock holding cost (I) same, we can arrive at an economic lot size formula,
similar to economic batch size formula arrived at in batch production.

2𝜆𝐴 (𝐼+𝑃)
Q* = √ + ……………………………(3.4)
𝐼 𝑃

and, the amount back ordered,

2𝜆𝐴𝐼
S = √𝑃 (𝐼+𝑃) …………………………………..(3.5)

The running cost is given by,

𝑃
K* = √2𝜆𝐴𝐼 √𝐼+𝑃 ……………………………………… (3.6)

And ordered interval is given by,

T* Q/λ
2𝐴 𝑃
i.e T* = √ 𝜆𝐼 √𝐼+𝑃 ………………………………………. (3.7)

LOT SIZE MODELS WITH DISCOUNTS

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DMM6601- Unit 05: Management for Engineers Session 03: Inventory Management and Control

In the lot size models that we have already discussed. We assumed that the
unit cost per item purchased is constant. But, sometimes in inventory control,
it is customary to take advantage of discounts or price breaks, where the unit
price is dependent on the lot size Q.
We shall consider two types of discounts,
1. All units discount, and
2. Incremental discount,

ALL UNIT DISCOUNT

UNIT COST

C1
C2
C3

NO N1 N2 LOT SIZE

Figure 3.5

Let us assume that the unit price per item is a variable Cj

Cj (j = 1…n) with C1 > C2 > C3 …. > Cj

And let N be the corresponding order quality with Nj-1 < Q > Nj
We can represent this more clearly in diagrammatic form as shown in Fig
3.5, Fig 3.6 and Fig 3.7 where we have drawn graphs of unit cost, cost for
the lot and totally yearly cost, against the lot size.

Form Fig.(3.5) we can see that as the lot size increases, there is at stepwise
decrease in the unit price.

COST FOR
THE LOT 27
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DMM6601- Unit 05: Management for Engineers Session 03: Inventory Management and Control

N3

Figure 3.6

In Fig.(3.6), we see that the gradient of the cost for the lot against lot size
graph decrease as the lot size increases, i.e. as we order more we have to pay
less per unit of item.

(K) TOTAL
YEARLY
COST
C1
C2
C3

N3
NO N1 N2

Figure 3.7

In Fig.(3.7), where the total cost is plotted against the lot size , a minimum
total cost K is obtained for the optimum lot size.
The average yearly cost is given by,
𝐴𝜆 𝐼𝑄
K= + + λC3 ……………………………….(3.8)
𝑄 2

To calculate the minimum average yearly cost, we proceed as follows.

• Step 1:

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DMM6601- Unit 05: Management for Engineers Session 03: Inventory Management and Control

Using the demand rate and the administrative and stock holding cost,
calculate Qw from.
2𝜆𝐴
Qw = √ 𝐼

• Step 2:
Suppose Qw lies between Nj-1 and Nj, then choose the corresponding unit
price Cj and calculate K.
• Step 3:
Calculate K for lot sizes Nj, Nj+1 ……………………………. With
corresponding price breaks.
• Step 4:
Compare K values thus obtained and choose the lot size corresponding to K
minimum K as the economic lot size.
We shall illustrate this method by the following example.

EXAMPLE-3.1

A firm requires an item which a supplier offers at the following prices.

Ordering quantity 1-99 100-199 200 and over
Price per unit Rs.50 Rs.47.50 Rs.46

The average yearly requirement is 1,000 units, it the ordering cost Rs.60 and
the stock holding cost Rs.10 per unit per year, at what intervals should orders
be placed and how many units should be order each time.

SOLUTION

The demand rate λ = 1000 units per year

Ordering cost A = Rs.60
Stock holding cost I = Rs.10 Per unit
Per year
With the above data, we can calculate a lot size using Wilson formula.
2𝜆𝐴
Qw = √ 𝐼

2 𝑥 1000 𝑥 60
Qw = √ 10

= 10√120
110 units

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DMM6601- Unit 05: Management for Engineers Session 03: Inventory Management and Control

From the discount rate, figure supplied we can see that a lot size 110 units
fails in the range 100 to 199 with unit price of Rs.47.50.
Supposing we order 110 units, we have to pay Rs.47.50 per unit which will
give an average yearly K given by,
𝐴𝜆 𝐼𝑄
K= + + λCj
𝑄 2

Now, Q = 110 and Cj = C2 = Rs.47.50

1,000 𝑥 60 10 𝑥 200
K= + + 46+ 1,000
200 2

= 300 + 1,000 + 46,000

= Rs 47,300

Clearly, the firm will be better off by ordering a lot size of 200 units, because
it can save Rs.1, 295 annually by taking advantage of the discount offer.
The order interval T is given by,
T = Q/ λ
= 200/1,000
= 1/5 year
Therefore, orders must be placed every 1/5 of an year and the order quantity
is 200 units.
Note: In the above example, it is interesting to note that a unit price of Rs. 50
was not considered at all. This is because for the demand rate given the
ordering cost and stock holding cost, it is uneconomical to order anything less
than 110 units.

LOT SIZE MODEL WITH INCREMENTAL DISCOUNTS

In the incremental discount system, the discounts apply only to additional
orders. i.e.
the first N1 items given at C1 each
next N2 - N1 items given at C2
each next N3 - N2 items given at C3 each

where C1 > C2 > C3…………. >Cn......

The cost for the lot against lot size graph will be as shown in Fig. 3.8.

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DMM6601- Unit 05: Management for Engineers Session 03: Inventory Management and Control

COST
FOR THE
LOT

N1 N2 Q

Figure 3.8

The average yearly cost K is given by,

𝐴 𝐼𝑄 λ
𝐾=𝑄+ + 𝑄 [C1N1 +(N2-N1) C2 +……………………. + CJ(Q-NJ-1)]
2

Where Q is the lot size from Wilson formula.

We can write, (for Nj-1 < Q < Nj)
𝐴 𝐼𝑄 λ
𝐾= + + [(C1-C2)N1 +( C2-C3) N2 +…. + (CJ-1-CJ)NJ-1 + CJQ ]
𝑄 2 𝑄
λ 𝐼𝑄
= [A+ (C1-C2)N1 +( C2-C3) N2 +………. + (CJ-1-CJ)NJ-1 ] + 2 + λ CJ
𝑄

We can simply the above equation as follows: (p13)

λ 𝐼𝑄
𝐾 = 𝐴𝑖 𝑄 + + Ci
2

Where, Ai = A + (C1-C2)N1 +( C2-C3) N2 +…………. + (CJ-1-CJ)NJ-1]

Ai = A (cost of placing order)
A2 = A1 + (C1-C2)N1
A2 = A1 + (C1-C2)N1 + (C2-C3)N2

From the above, we can see that Aj values are increasing, which means that
the minimum K will occur at one of the A3 values. The Ai value which gives
minimum K will correspond to the economic lot size.
2𝜆𝐴𝑖
Qi = √
𝐼

We can illustrate this graphically as shown in fig.(3.9)

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DMM6601- Unit 05: Management for Engineers Session 03: Inventory Management and Control

NO N1 N2 N3 Q

Figure 3.9
2𝜆𝐴𝑖
To calculate minimum K, we must first calculate each Qi = √ and if this
𝐼
lies and N j-1 and Ni, then calculate the corresponding K. Then compare the
K values and like the minimum value.
We shall illustrate the above procedure by way of an example.

EXAMPLE-3.2

The demand for a certain product is 3,000 units per year. The fixed
administrative cost of placing an order is Rs.1,000 and the stock holding cost
is Rs.12 per unit per year. Discount is available and the discount rate is as
follows:
Upto 999th cost Rs.10 per unit
1000th to 2999th cost Rs.9.80 per unit
3000th to over cost Rs.9.60 per unit

Taking the advantage of the discount offer, calculate the economic lot size
and the corresponding average yearly cost.

SOLUTION

Let 0 ≤ 𝑄 ≤ 999
We order a quality less than 1,000 units.

Then Ai = A1 = A = Rs.1,000
Cj = C1 = Rs.10 per unit per year

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DMM6601- Unit 05: Management for Engineers Session 03: Inventory Management and Control

Using equation
𝐴𝑗 𝜆 𝐼𝑄
K= + + 𝐶𝑗 𝑠
𝑄 2
3000 𝑥 1,000 12𝑄𝑖
= + + 10 𝑥 3000
𝑄𝑖 2

Now, find Q1 using the formula,

2𝜆𝐴𝑖
Q1 = √ 𝐼

2 𝑥 3000 𝑥 1000
Q1 = √ 12

= 707

The above value we obtain for Q1 is within the range 0 ≤ 𝑄 ≤ 999.

Therefore, we can accept it and calculate the average yearly cost.
3000 𝑥 1,000 12 𝑥 707
K= + + 10 𝑥 3000
707 2

= Rs.38,485
Let us now consider the next rage 1,000 ≤ 𝑄 ≤ 2,999

Then, A2 = A1 + (10-9.80) x N1
Since N1 = 1,000units
A2 = 1,000 + (10-9.80) x 1,000
= 1,200
We can calculate a new Q value
2𝜆𝐴𝑖
Qi = √ 𝐼

2 𝑥 3000 𝑥 1200
Qi = √ 12

= 774.6
But, the above Q2 value calculated is outside the range 1,000 ≤ 𝑄 ≤
2,999
Therefore, we cannot accept the above lot size, So consider the third case,
When Q > 3,000
A = 1,000 + (10-9.80) x 1,000 +(9.80-9.60) x 3,000 +1,000 + 200+ 600
= 1800
2 𝑥 3000 𝑥 1800
And, Q3 = √ 12

= 950

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DMM6601- Unit 05: Management for Engineers Session 03: Inventory Management and Control

The above lot size value calculated is also outside the range Q > 3,000
therefore we cannot accept it.
The economic lot size is therefore 707 units and the corresponding average
cost is Rs.38,485.00
𝑄
T =𝜆
707
= 3000 = 0.236
Order should be placed at approximately every 3 months.

FIXED INPUT INTERVAL MODELS

As we have already mentioned, the deterministic models are applicable to
both types of ordering system. In the fixed input interval system., If we
assume that usage or demand is constant and known, then this system of
ordering is in both practice and theory, identical to maximum – minimum or
order quality system. In the maximum – minimum or order quality system,
when stocks fall to a predetermined level (which can be zero if order delivery
is instantaneous), a further predetermined quantity of item is ordered. In the
order cycle system, at predetermined intervals, a quantity of goods sufficient
to restore stock to a given level is ordered. In the ideal conditions, we have
assumed both the order quantity and the order cycle would be the same,
irrespectively of the system we adopt. Then, for such a cases, the order
interval can be found directly from the models we derived for fixed quantity.
𝑂𝑟𝑑𝑒𝑟 𝑞𝑢𝑛𝑎𝑡𝑖𝑡𝑦
Since order interval = 𝐷𝑒𝑚𝑎𝑛𝑑 𝑟𝑎𝑡𝑒

We can write,
T* =Q*/ 𝜆
Q* is the optimum order quantity
T* is the optimum ordering cycle

The above relationship can be used to calculate the optimum ordering cycle
for all the deterministic models that we have already discussed. It is only
during condition s of uncertainty that these two methods of ordering differ.
The fundamental characteristic of the order cycle system is that the stock
status of each Item is examined at regular and fixed intervals, at which time
the following question are asked.
1. Should an order be placed to replenish stock now?
2. If so, how many units must be ordered?
We shall illustrate how these questions are answered in relation to both
types of stock control system.

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DMM6601- Unit 05: Management for Engineers Session 03: Inventory Management and Control

3.3.2 Probabilistic Models

In practice, the demand rate is usually variable and there is a delay, possibly
also variable between placing and receiving a replenishment order. This gives
rise to the need for safety stock or buffer stocks. The greater the degree of
variability present, the larger is the safety stock required. We shall illustrate
by the following examples how this size of the safety stock is determined in
a re-order level system.

EXAMPLE 3.3

The demand for a certain product follows a Poisson distribution with mean of
6 per week. The value of item of the product is Rs. 200 and ordering cost of
Rs. 20 is incurred each time stock replenishment order is placed. The
replenishment lead time is 1 week. Should there be a request for an item when
none is in stock, the request is met by a special deliver to the customer as soon
as the next replenishment order arrives. The cost of this action is Rs. 40 p
item. If the cost of stock holding is 15% per annum of stock value, how low
should stock be allowed to fall before a replenishment order is placed and
how much should be ordered when a replenishment is necessary. The Poisson
distribution for mean = 6 is given in Table 2.1.

SOLUTION

Using the usual symbols, we can write down the given data as follows. = 6
per week, i.e. 300 per year (assuming 50 week per year) C = Rs. 200 per item
I = 200 x 0.15
= Rs. 30 per item per annum
A = Rs. 20 per order
We can calculate the economic lot size using Wilson formula.
2𝜆𝐴
Q=√ 𝐼

2 𝑥 300 𝑥 20
=√ 30

= 20
The economic lot size is 20 items. This answers the question of how much
should be ordered when a replenishment is necessary. The second question to
be answered is: how low should stock be allowed to fall before a
replenishment order for 20 items is placed.
If the demand rate were constant, a replenishment order would be placed
whenever the stock
Fell to 6 items this being the number required during the replenishment lead
time. There would be no fluctuations to guard against and therefore no need
of safety stock. Because the demand rate varies, however we cannot predict
how many items will be required during the replenishment lead time. We do

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 DMM6601- Unit 05: Management for Engineers Session 03: Inventory Management and Control

know from the demand distribution that there will be many occasions when
more than 6 items will be required, and therefore, it will be necessary to place
replenishment orders before the stock falls to 6 units. Stock held in excess of
6 when a replenishment order is placed is called a safety stock. We illustrate
this diagrammatically as shown in fig (3.10)

STOCK
LEVEL

LOT SIZE RE - ORDER LEVEL

6 UNITS
BUFFER STOCK
S

TIME

1 WEEK
1 WEEK

LEAD
TIME

Figure 3.10
From Fig 3.10, we can see that during the first lead time less than 6 items are
required, but during the second lead time more than 6 items are required.
When the number of items when the number of items required. during the
lead time exceeds the safety stock plus 6 units, the excess demand cannot be
supplied until the replenishment order arrives. This situation is called a stock-
out. The higher safety stock, the smaller is the risk of a stock-out and. vice
versa. A compromise is sought between unnecessarily high costs of stock
holding and too frequent stock-outs. The optimum level of safety stock is that
level for which the sum of the annual costs of stock holding and stock-out is
a minimum. The optimum level is found by computing these costs for all
possible levels of safety stock.
In the present discussion, we shall not enumerate all possibilities in order to
determine the host level of safety stock, but we shall resort to a formula

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DMM6601- Unit 05: Management for Engineers Session 03: Inventory Management and Control

derived mathematically, relating the probability of a stock-out to the cost of

stock holding and stock-out.
It can be shown that the optimum level of safety stock is the lowest which
satisfies the following inequality:

The probability of stock-out P

ℎ
Pr ≤
ℎ+𝑠
Where h = the cost of holding an extra item, when it is not required - the
holding cost.
S = the net cost of not holding an item, when it is required h - the shortage
cost.
In the above example, h is the cost of carrying an item from the receipt of one
replenishment order to the receipt of the next i.e. 1/T th of a year or average.
But,
T = 𝜆/Q
= 300/20
=15
1 1
= 15 th of an year
𝑇

The average cost of carrying an item from our replenishment order to the
receipt of the next is Rs. 30/15.
i.e. h = Rs. 2.00
The net cost of not holding an item when it is required is not the same as the
stock-out cost. Although the cost of a stock-out is incurred, one less item has
to be carried in stock from the end of one lead time to the end of the next. The
shortage cost is therefore Rs. (40-2).
i.e. C = Rs. 38.00
The optimum level of safety stock in the above example is the lowest which
satisfies,
2
P ≤ 2+38
i.e. 𝑃 ≤ 0.05
Now let us look at the Poisson distribution for a mean = 6, given in Table
3.1. Probability of the demand,
𝑒 −𝑚 𝑚𝑥 𝑒 −6 6𝑥
P(X = x) = =
𝑥! 𝑥!

Probability of the demand being more,

𝑖−𝑖
1 – F (x!) = 1 - ∑𝑗=1 P ( X = xi)

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DMM6601- Unit 05: Management for Engineers Session 03: Inventory Management and Control

TABLE 3.1

prob. of Prob. of the

Demand
the Demand P(X=x) Demand being more 1- F(x)
0 0.00 1.00
1 0.02 1.00
2 0.04 0.98
3 0.09 0.94
4 0.14 0.85
5 0.16 0.71
6 0.16 0.55
7 0.14 0.39
8 0.10 0.25
9 0.07 0.15
10 0.04 0.08
11 0.02 0.04
12 0.01 0.02
13 0.01 0.01

Safety Stock is required, when the demand exceeds 6 per week. i.e. when the
demand is 7 or more.

Using the above probability values, we can write down the probability of
stock out per safety stock from zero or more as shown in table (3.2)

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DMM6601- Unit 05: Management for Engineers Session 03: Inventory Management and Control

TABLE 3.2
Prob. Of stock –out
Safety Stocks (x-6)
1 – F (xj+1)
0 0.39
1 0.25
2 0.15
3 0.08
4 0.04
5 0.02
6 0.01
7 0.00

The lowest level of safety stock for which Pm is less than 0.05 (from
Table3.2) is when the probability of stock-out is 0.04, i.e. at a safe stock level
of 4.
The optimum level of safety stock is 4 items.
Therefore, we can say that in the given example replenishment order should
be placed whenever the stock falls to 10 items. The size of the replenishment
order should be 20 items.

Summary
Inventor can be in any form ; raw material, work in progress or finished
goods. This lesson mainly focus on The purpose of inventory management
is to determine the amount of inventory to keep in stock, how much to order
and when to order

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