Namaskar Friends, welcome to session 52 in
our course on operations management and currently we are in the eleventh week of our discussion
and the topic of eleventh week is materials management and if you remember in the previous
session, we have just discussed the basic concepts of materials management, we have
seen what are the objectives of materials management, what is the scope of materials
management, what are the responsibilities of a material manager and we have tried to
define the word inventory, which is most commonly used in materials management. In nutshell, we have tried to find out that
what materials management is all about and what we need to do in order to ensure efficient
and effective utilization of our materials. So, we have seen that there are three important
aspects of materials management starting from the procurement of materials, then ensuring
the proper usage of materials and finally, the accounting of the materials that have
been procured. So procurement, usage and accounting are the
three keywords that are related to materials management and today we are going to focus
on inventory control, which is a slightly specific topic. Materials management is more general in nature
and inventory is more specific in nature. In the last session, towards the end, last
two slides were focused on defining the term inventory and we have also seen that what
type of materials make up the inventory. So, we have seen the raw materials, the work
in process, the parts that are being transported from one place to the another place within
the organization, the tools and equipment; all fall under the inventory and it is important
for us to manage our inventory properly. If we are not able to manage the inventory
properly, we may have to suffer huge losses in the organization. So, today we will see that how we can manage
our inventory and the topic for today is inventory control. So, prior to that, let us try to highlight
the importance of inventory control, that why do we need to keep an inventory. Some of you can question this and that is
a very valid question that why not to procure the material when it is required. So, we need not to keep an inventory, we need
not to tie up our capital in the inventory, that is that, we need not spend money and
keep the inventory in stock. So why do we need to keep an inventory? Why these materials at the first instance
are required in the industry? So, our next slide will answer all these queries,
that what is so important that we need to keep the inventory. Now, the first thing that explains that is
the bullwhip effect, the inventory and supply chain management are interrelated things and
inventory is one of the important elements of supply chain management. So, first is the bullwhip effect, which means
that the demand information is distorted as it moves away from the end use customer. Now, as end use customer, suppose I want to
buy a mobile phone of a particular company, so that is the demand at my end. So, the I am the end user customer of that
mobile phone, but as I move down to the company, that complete chain of people who are involved
in this chain may be the information may get distorted. So, the complete information may not be there,
some companies are making use of the direct interface these days between the customer
and the company. Directly you can order online to the company
and they can have a better idea, that what is the exact demand of our product in the
market. So, these days the use of information technology
is helping the companies to reduce this effect, but many times the demand gets distorted because
of the bullwhip effect. Higher safety stock inventories are stored
to compensate this. So, that is another word is coming here safety
stock. So, we will try to understand this when we
go through our discussion on economic order quantity, that what do we mean by the safety
stock, but in order to compensate for this effect, many times the company keep a safety
stock of materials that whenever required, we can get this material from the safety stock. Otherwise, they may have a particular service
level of materials, that this is my normal may be working capital and if, in case of
emergency I will draw the capital from this safety stock that I have maintained. Normally we do in our management of our finances,
mostly we will keep some amount as a working capital for daily expenditure and the other
amount we will keep as a safety stock that if required, then only I will use the safety
stock. Otherwise, I will manage by my day to day
expenditure money that I have kept. Similarly, for materials also, for normal
usage of the materials that are required in assembly operation or in the manufacturing
process, we will keep certain level but we will keep another level down that that will
be the safety stock, whenever required, we will take the material from the safety stock. So, mostly companies keep a safety stock,
so that the process must not stop because in many industries for example, if you are
making electricity from coal in specially in case of thermal power generation, you cannot
afford to stop the boilers because a refilling may take huge amount of investment. In many other processes also which are capital
intensive, you will not wish to stop the process in want of materials, therefore, you will
always keep certain materials in store so that the process is not stopped and its processes
continuous. Many times, there will be seasonal or cyclic
demand, so we have to keep the inventory in order to meet that demand. Inventory provides independence from the vendors. We precisely will not be required to look
up to the vendors every now and then, whenever there is a requirement because if we have
certain material or maybe certain amount of material in the inventory, we can very easily
use that material instead of depending upon the vendors every now and then. So, that is also one important requirement
that why we must keep an inventory and why we must manage our inventory properly. Then, sometimes it so happens as I have already
told in the previous session; also there are discounts available, you buy two materials
you get two free and many times if you buy beyond a particular volume, maybe if you buy
more than 100 kg of raw material, you will get this discount. So, many time, the company want to take advantage
of that quantity discounts and therefore, they buy the material in bulk and store it
in the form of inventory and inventory also provides independence between the stages and
avoids work stoppages. So, which I have already explained that the
inventory is majorly focused on managing the line or the manufacturing line or manufacturing
process efficiently and effectively as well as to ensure the continuous production of
the products and therefore, we need to keep an inventory. So, with this slide, the major focus to emphasize
is that why do we need to keep the materials in the store. In our house also, every now and then, we
will not be running to the grocery store to buy our materials. We may may be for a month, we may buy our
grocery and keep it in our kitchen cabinet or in the store adjoining the kitchen. So, that for the complete month we have stocked
our rations properly. Similarly, in case of industry, there also
the manufacturing is going on. So, we will buy the material and keep it in
the store, so that the process is continuous and whenever the level or the quantity of
materials go beyond or go below a particular level, we will reorder the materials, so,
that our stocks or stores are replenished by the materials so that is what is basically
inventory management and control. So, we will see that one of the important
topics today, that how we can control our materials. So, inventory control is very important because
we need to find answers to certain questions. So, inventory control is a planned approach
for determining. So, we need to find out answers when we are
managing our inventory that what to order that is one thing. When to order, that is in the time domain
maybe every fortnight, every month or every 3 months or every 6 months or every year;
whatever is our time window that we have to decide. First is what we have to order, when we have
to order, then the third question is how much to order. Whether we must buy the materials required
for next 1 year at one go or we may break it into two orders of 6 months each or we
may break that or may divide that order into four orders every quarter. So, we have to take a decision what to order,
when to order, how much to order and how much to stock, that is a safety stock that how
much safety stock we must keep in order to avoid any discontinuity in our manufacturing
process. So, these answers we have to look for in our
topic of inventory management and control the costs associated with buying and storing
are optimal without interrupting production and sales. Now, all these answers we have to find out,
subject to that the cost associated with buying and storing is optimal, without interrupting
the production and sales. Again, I have read the sentence for all of
you that answers to these questions we have to find out either mathematically or intuitively
or by our experience, but what must be always kept in mind that, the cost involved in answering
all these questions or finding solutions to all these cost questions must not be very
high. At the same time, we have to ensure that the
process or the manufacturing process must not stop. The assembly of our cars or assembly of our
automobiles must not stop. So, that is also very very important. Now, inventory control basically deals with
two problems so, the first problem is when should an order be placed and how much should
be ordered – so, order quantity. So, the answer to the second question first
is the economic order quantity model. Usually, we term it as EOQ model and we will
cover the EOQ model in our next session. In many competitive exams also, in many you
can see university exams, there are numerical problems, quantitative problems related to
the economic order quantity and it is an important topic not only from the academic point of
view, but also from the application point of view, from the industry point of view. We must know that what is the economic order
quantity, using our simple mathematical formula we can do the calculation for EOQ and the
first answer to the first question is, when should an order be placed that is the order
level. So, that we will see, usually we term it as
a reorder point of reorder level. Also, that when should an order be placed. That is, how much is left in our stock when
we must place the order, that will depend upon the lead time also, that after placing
an order what is the gap of time by which we will receive our order. So, we have to see what is the lead time,
what is our consumption rate. Based on these two parameters, the consumption
rate that is, how the material is getting consumed over a period of time. Today, if we order after how many days or
how many weeks we will get our order. So, these two things, we will decide that
what is going to be our reorder level. We will try to understand this with the help
of a diagram also. So, first of all, we have to learn that what
is inventory control and how to find the answers to all these questions. So selective control of inventory, that is
when what we can do, refer. Now, selective control refers to the variation
in method of control from item to item on selective basis. So, from part or component to component wise,
we have to exercise different type of control. So, selective control refers to the variation
in method of control from item to item on selective basis. So, in this system, the items are categorized
in a few groups depending upon the selective criteria, such as value, usage frequency and
consumption such grouping helps the organization for scientific inventory control. So, we have to manage the materials in our
organization and we have to frame a criteria to classify these materials. So, that we focus on the materials which are
important and put less focus on the materials which are less important. Although, all materials are important in the
industry, but a relative grading can be worked out on the high value materials as well as
on a low value material. So, we can classify the materials and that
one of the methods for this classification is the ABC classification. So, we will see one problem related to ABC
classification today, but there can be other methods of classification based on the usage,
based on the value of the products or value of the parts that we are focusing our attention
on or value of the materials that are in our inventory. So, we may have 15 different types of materials
in our inventory and we wish to classify them into five different categories so that classification
can be based on the usage of those materials. For example, one material is used very frequently
every day. Maybe, 10 tons of that material is required;
other material may be required in a very less quantity, maybe 1 percent of this high valued
or high volume material. One material is required maybe 10 tons per
day; other may be required as 10 kg’s per day. So, based on the usage we can classify one
material high volume material, another is low volume, only 10 kgs required per day that
is based on usage. Another one can be based on the value of the
material, another can be the frequency of usage, some materials may be very frequently
used, some materials may be less frequently used. For example, if we go to a shopping mall,
so, there will be a high frequency material which is like kind of vegetable or may be
daily grocery things, then there can be high value materials in the shopping mall. For example, the led TVs or maybe refrigerators
or air conditioners or the sales frequency may be less for high valued material, but
sales frequencies more for the low valued materials like vegetable or maybe the grocery
items and then, the consumption may be another criteria for classifying the material. So, we can classify the materials based on
usage, value, frequency, consumption. So, there can be different criteria now such
grouping. Why do we need to group the materials because
we as managers as engineers we have to focus on specific group of material. So, we whatever is our objective whatever
is our may be the target we have to classify them. So, that we are able to achieve our target. In many cases we may not like to focus on
a material which is not very costly. So, based on the value we can classify that
this material is not very costly, even if we focus our attention on this material we
are not going to gain much. So, wherever you must focus? We much must focus on high valued material
because even if we are able to say some amount of money in this high valued material, we
will be able to save substantial money for our organization. So, similarly that maybe, focus area can be
identified by classifying the material. So, I think I have tried to highlight the
importance of classifying the materials and now, let us take an example of various types
of analysis. So, we will take 2 today, that is ABC analysis
and the VED analysis, that is vital essential and desirable and there can be HML also high
medium and low analysis as I have already told, the criteria can be the usage, the value,
the consumption, the frequency. There can be different criteria for classifying
the materials. One of them is ABC, that we are going to understand
today with the help of a diagram and an example; and we will try to understand the very basic
concept of VED analysis also. So, ABC classification, you can see on your
screen now the classification on the basis of cost and volume. So, we can see here, the usage is also taken
into account and the value is also taken into account. So, the cost is may be corresponding to the
value of that particular material and the volume can be the usage of that particular
material. Now, we will classify as the name goes ABC
classification. We will classify the materials as class A
material, class B material and class C. Now, let us see; what is class A? Now, class A material is that, it will be
only 5 to 15 percent of the units. Now, suppose we have 10 different types of
materials, so, we will have either one or two materials only, which we will fall in
class A, but their overall value, will be around 75 to 80 percent or 70 to 80 percent
of the value. So, these will be costly items, the number
of items will be less, but their value will be more. Similarly, class B may be 20 to 30 percent
of the items will fall in class B, that is if we have 10 different types of materials,
we can have 2 to 3 items or materials which can fall in class B and the value of these
materials will be 15 to 20 percent only and the last is, class C items which are maybe
cheaper items. The value is very less, but their numbers
may be more. For example, if we see of in an office, we
may have computers we may have 3 computers only. The number is less, but the value is more. But the stationery items for example, the
pencils, pen, pen stands and the other registers etcetera. So, their number is more, but the value is
less. So we, if we classify the materials that are
there in an office. So, the computers will have maybe high value,
but the number is less, but stationery on the other hand the number of stationery items
is more, but the value associated with these items is less. So, we classify the material as A, B and C
as given on your slide. Similarly, we can try to understand this with
the help of this diagram. So, class C items, you can see the percentage
of inventory items out of 10 as we have taken an example, may be, 6 items are class C items,
but their overall value is approximately 5 to 10 percent only. Class B, here we have maybe 30 percent of
the item, out of 10, three items are may be class B items, but their value is maybe 15
to 20 percent, but there is maybe one item out of 10 which is class A item and the value
of that item is 80 percent. So, this is the way we can classify them as
A, B and C. So, A items are high value item, 70 to 80
percent of the value is associated with them, but their number is less and on the contrary,
class C items, their value is less. They may account for 5 to 10 percent of the
overall value, but they are highly numbered; the number is large. So, that is more percentage of the units in
class C items. So, let us take a very quick example. So, this is one example how do we do the calculations
for classifying the material as A, B and C. So, this is annual usage is given. The part numbers are given there are 10 different
items. Here, part 1, part 2 to part 10 unit cost
for each item is given or each part is given. So, what we can do? We can multiply this to establish the overall
value that which item is having the maximum value and which item is having the lower value
and consumption is already given to us. So, we can do the calculation further. So, first we will arrange this based on the
total value, because our one criteria for classifying under ABC, is the total value
associated with the product. So, here we can see item number 9; 30,600
dollars. So, you can see item number 9, here 510 multiplied
by 60. So, when we multiply this, we will get this
value – 30,600. Similarly, when we multiply the usage and
the cost, we will get the total value. So, we have unit cost also available, annual
usage also available. So, based on these two data point data and
the multiplication of these values, we will get the total value and then, we can calculate
the total value is coming out to be dollar 85,400 and then, we can calculate how much
is this contributing in the total value. So, the percentage contribution of this can
be calculated by dividing this by the total value. So, 30,500 divided by 85,400; we will get
maybe 35.9 percent. So, value that will we will get is 0.369 multiplied
by 100, we will get 35.9 percent contribution of part 9 towards the total value. Similarly, part 7 is contributing only 2 percent
to the total value. So, the total value 35 percent contribution
is coming from part 9. Similarly, percentage of total quantity also,
we can calculate. We know that the total usage, annual usage
is available with us for each and every part; from there we can calculate; what is the percentage
of total quantity for part number 9. So, part number 9, we can see in the previous
slide part number 9, only 60 items are used per maybe year because this is an annual usage
given to us 60 parts only per year for part number 9. So, if we add this, we can calculate the percentage
contribution in the annual usage by part number 9. So, we can calculate that and here, we can
calculate the percentage cumulative, that what is the cumulative percentage of this,
may be part in the overall consumption and based on that, we can classify the material. Now, maybe this figure, we have done the calculation,
we have multiplied the unit cost with the annual usage, then we have calculated the
percentage contribution of a particular part in the total value, we know the annual usage
based on that, we have seen what is the percentage contribution of a particular part in the annual
usage. So, we have found out the percentage contribution
of individual part in the total value, we have calculated the contribution of individual
part in the total usage or the annual usage, from that we can classify. Now, if you remember A, B and C, A are items
which are having high value, 70 to 80 percent value contribution in the overall value. But their numbers are less, maybe 10 to 15
percent of the total usage. So, we can see, we can classify them as on
your screen you can see A item high value low usage and part C, where we see low value
high usage. So, maybe here we can see A, B and C. So A
we can, if we add up these three; total value percentage contribution 16 plus 14 comes out
to be 30 plus 30. So, A total uses can be, maybe say, more than
60 percent here. So, and the usage is percentage cumulative
usage is 15 percent. So, their number of items is less, maybe three
items only, but their percentage usage is 15 percent and the total value is maybe nearly
70 percent. Usage less value, more A uses more value less
C. So, that is what is given here. So, items 9, 8 and 2 are classified as A,
because their percentage of total value is more and their percentage of total usage is
lesser. Total quantity contribution is less whereas,
C items; four items are there, the total value is only 12.5 percent, but the percentage or
total quantity you can see is 60 percent. So this way, we can classify if we have the
unit cost available with us for all the parts or the components, we have the annual usage
available, we can multiply them, we can calculate the percentage contribution of individual
part in the total value of a maybe materials and then, we can calculate the total usage
also. Percentage contribution of total usage by
every component and then, we can classify them high value will be high valued components
will be given as class A and low usage on the other hand for class C, we will see the
value is less for these materials, but the usage is more. So, this is one particular classification
that is ABC classification. So, advantages of ABC I will very quickly
I will read this for you. This approach helps the manager to exercise
selective control and focus his attention on few items only, though he can focus on
high value products or high value components or parts only by exercising strict control
on A class items, the materials manager is able to show the results with short, within
a short period of time only. So, he can show the gains by exercising control
on class A type of items, which are high valued items; it results in reduced clerical cost,
saves time and effort and results in better planning and control of the materials. Now, what is a limitation? That it is not a onetime exercise and items
are to be reviewed and re categorized periodically. So, the usage may keep on changing, the unit
cost may also some time change because of certain discounts or other criteria. So, we maybe every year or every 2 years,
we can recalculate or re categorize the materials as A, B and C category materials or A, B and
C class material. So, last part maybe for today, just an introduction
what is VED analysis instead of based on the total value or the usage, we can also classify
our materials as vital essential and desirable. So, the analysis; classify the items into
three groups or the materials into three groups, that is – Vital, Essential and Desirable. Now, just we will try to understand what type
of materials will fall under vital category, what type of materials will fall under essential
as well as the desirable. Now, what are vital items? Vital items are those items whose unavailability
will stop the production. So, they are the lifeline of the production
process. So, if you cut the lifeline, the process will
stop. So, vital items are those items whose unavailability
will stop the production. Essential items are those items whose stock
out costs are very high so if we are not able to provide that material the stock out cost
will be very high. Desirable items will not cause an immediate
production stoppages and their stock out costs are minimal or nominal. So, based on this also, this classification
also, we can classify the materials. So, maybe the most important are the vital,
because if you do not have a vital or if you have a stock out of the vital materials, the
overall production process may stop. So, in today’s session we have seen two
different methods of classifying the materials in the organization that is the ABC analysis
and the VED analysis. In ABC, we classify the materials as class
A, class B and class C. Class A high value, may be low usage. On the other hand, class C low value, high
usage and in vital, essential and desirable; vital components are very important because
their unavailability will lead to the stoppage of the production process. Prior to that, we have tried to understand
that what is the role of inventory control and more specifically why do we need to keep
an inventory. Now, in the next session we will try to answer
our questions like how much to order, that is economic order quantity and we will try
to see that when to put our reorder, what is the lead time, what is the reorder level;
all those things we will try to understand in our next session. Thank you.
