chapter two:

Warehouse and Inventory

 Introduction to warehouse and warehousing

 Warehouse operation and management

 Inventory management and control

 Types of Inventories
 Introduction to warehouse and warehousing
Definition

 Let‟s consider one example, case of sugar factory. This factory

needs sugarcane as raw material for production of sugar. As it is
known, sugarcane is produced during a particular period of the
year. Since sugar production takes place throughout the year,
there is a need to supply sugarcane continuously. But how is it
possible?
 Here storage of sugarcane in sufficient quantity is required.

 Again, after production of sugar it requires some time for sale or

distribution. Thus, the need for storage arises both for raw material
as well as finished products.
 Storage involves proper arrangement for preserving goods from
the time of their production or purchase till their actual use.

 When this storage is done on a large scale and in a specified

manner it is called „warehousing‟.
 The place where goods are kept is called „warehouse‟. The
person in-charge of warehouse is called warehouse-keeper.

 In simple words, warehouse is a facility where the supply chain holds or

stores goods, until they are needed by the customers.

 Warehouse can be owned by manufacturers, wholesalers, retailers to

store the goods.

 A simple definition of a warehouse indicates that it is a planned space

for the storage and handling of goods and materials.
 Warehousing is considered as one of the
important auxiliaries to trade.
 This is mainly because it creates time utility by
bridging the time gap between production and
consumption of goods.
 Warehousing alternative:
 There are three types of warehousing ownership.
These are:
 Private warehouses
 Public warehouses and
 Contract warehouses.

 The private warehouses

The warehouses which are owned and managed by the
manufacturers or traders to store, exclusively, their own
stock of goods are known as private warehouses.
The main features include that ownership is not the
criterion; control is fully on the hand of the product owner;
the product owner exercises overall control on warehouse
management.
  The public warehouses:
 The warehouses which are run to store goods of the general public
are known as public warehouses.
 Public warehouses are characterized by overhead costs distributed
over large customer base (i.e. makes the usage cheaper); offer
expertise in management since warehousing is their core business;
flexibility of location (i.e. if the product owner needs to change the
location of warehouse, it is only a question of terminating the
contract and starting a new one); significant economies of scale;
several users and resultant volume and benefits in transportation
costs.

o Moreover; public warehouses are classified into five categories of

general merchandise, Refrigerated, Special commodity, Bonded and
Household goods and furniture.
o Each warehouse type differs in its material handling and storage
technology as a result of the product and nenvironmental
characteristics.
 From a financial perspective, public warehousing may have a lower
variable cost than comparable privately operated facilities.
 The lower variable cost may be the result of lower pay scales, better
productivity, or economy of scale.
 Public warehouses certainly result in lower capital costs.
 When management performance is judged according to return on
investment (ROI), the use of public warehousing can substantially
increase enterprise return.
 Contract warehouses:

o In this case, contract warehouse operators take over logistics

responsibility from manufacturing company.

o The contract warehouses have features of warehouse owner offers

long term relationship and customized service; product owner gets
the benefit of management expertise of the warehouse owner; and
as the warehouse owner centrally controls several warehouses,
product owners get the benefit of shared resources with several
clients.
 Warehouse operation and management
o Receive goods o Accepts goods from

o Identify the goods o Outside transportation or attached

factory & accepts responsibility
o Dispatch goods to storage
o Check the goods against an order & the
o Hold goods bill of loading
o Pick goods o Check the quantities

o Marshal shipment o Check for damage & fill out damage

reports if necessary
o Dispatch shipment
o Inspect goods if required
o Operate an information system
o Identify the goods o items are identified with the appropriate
stock-keeping unit (SKU) number (part
number) & the quantity received recorded
o Dispatch goods to storage ‒ goods are sorted & put away
o Hold goods ‒ goods are kept in storage & under
proper protection until needed

o Pick goods ‒ items required from stock must be

selected from storage & brought to a
marshaling area
‒ goods making up a single order are brought
o Marshal shipment
together & checked for omissions or errors;
order records are updated
 o Dispatch shipment
‒ orders are packaged, shipping
documents are prepared, & goods
loaded on the vehicle

o Operate an information system

‒ a record must be maintained for each item in stock
showing the quantity on hand, quantity received,
quantity issued, & location in the warehouse

Warehouse management deals with receipt, storage and

movement of goods, normally finished goods, to intermediate
storage locations or to final customer.
 Warehouse operation and management
 Warehouse management is also helpful to manage goods
and space more effectively, to reduce costs and waste,
and to gain control over warehouse operations.

The Objectives of a Warehouse :

To attain the “best” combination of:

• the maximum of storage space
•“Efficiency”?
• the minimum of handling operations
•“Effectiveness”?
Warehouse process  This looks at the processes that
support the activities of receiving,
storing and dispatching.
Warehouse Processes
 Each of these must be provided for
and performed precisely.
Goods In / Receiving  All the processes have a direct or
indirect influence on the stock.
 The function of warehouse is
Put Away getting focused from storage-
dominance to transaction dominance.

 The warehousing functionality today

Order Selection / Picking is much more than the traditional
function of storage.

Goods Outward / Despatch

 Economic benefits of Warehouses
 Consolidation: Reduction in transportation cost by consolidating
movement. Several plants supply their products for the same
customer through a warehouse and from this warehouse the products
are sent in bulk shipment to the customer.

 Break-bulk: receiving bulk shipments through economical long

distance transportation from plant and breaking of these into small
shipments for local delivery to various customers.

 Cross-dock: This type of facility enables receipt of full shipments

from a number of suppliers, generally manufacturers, and direct
distribution to different customers without storage. As soon as the
shipments are received, these are allocated to the respective
customers and are moved across to the vehicle for the onwards
shipments to the respective customers at these facilities.
 Economic benefits of Warehouses
 Processing/Postponement: This Functionality of warehousing enables
postponement of commitment of products to customer until orders
are received from them. This is utilized by manufacturers or
distributors for storing products ready up to packaging stage. These
products are packaged and labelled for the particular only on receipt
of the order.

 Stock piling (seasonal storage): This function of warehousing is

related to seasonal manufacturing or demand. A supply stored for
future use, usually carefully maintained

 Reverse logistics processing: physical work related to reverse

logistics is performed at warehouses. These activities include returns
management, remanufacturing and repair, remarketing, recycling and
disposal.
 Service benefits of warehouses
1. Spot stocking: stocking of products in strategically
located warehouses during demand sensitive period is
called spot stocking.
 Agricultural implements are spot stocked during the
growing season.

2. Safety Stocking : In order to meet contingencies like

stock outs, transportation delays, receipt of defective
or damaged goods, and strikes, safety stocks have to be
maintained.
 This ensures that, on the inbound site production
stoppages do not occur, and, on the outbound side
customers are fulfilled on time.
 Errors in Operation
 The purpose of any warehouse is to be able to manage the stock in
storage, the stock received and stock dispatched in such a way that the
warehouse can supply the right stock at the right time and place.
 If the wrong item is delivered, it implies that there is an operational
error.
 The same applies for late delivery, delivery of damaged items or failure
to deliver.
 Any error needs to be detected and corrected first, and then the
correct procedure must be followed.
 Errors effectively quadruple the workload because, first, an incorrect
process occurs; next, the second step is to identify the error; the third
step is to rectify the error; and the last is to follow the correct
process.
 Errors also place time constraints on operations.
 Errors need to be monitored and minimized, as they result in stock
losses or sale losses. AND Accuracy is top priority since each
activity has its own specialist considerations
Inventory management
and control
2

© 2014 Pearson Education 12 - 19

 What are Inventories?

 Finished product held for sale

 Goods in warehouses
 Work in process
 Goods in transit
 Staff hired to meet service needs
 Any owned or financially controlled raw material,
work in process, and/or finished good or service
held in anticipation of a sale but not yet sold

Inventory or stock refers to the goods and materials that a

business holds for the ultimate goal of resale, production or
utilization.
 What are Inventories?
Material Inbound Production Outbound Finished goods Customers
sources transportation transportation warehousing

Receiving
Production
materials

Inventories
in-process

Shipping
Finished goods

Inventory locations
 Reasons for Inventories
 Improve customer service
 Provides immediacy in product availability
 Encourage production, purchase, and transportation
economies
 Allows for long production runs
 Takes advantage of price-quantity discounts
 Allows for transport economies from larger shipment sizes
 Act as a hedge against price changes
 Allows purchasing to take place under most favorable price
terms
 Protect against uncertainties in demand and lead times
 Provides a measure of safety to keep operations
running when demand levels and lead times cannot be known
for sure
 Act as a hedge against contingencies
 Buffers against such events as strikes, fires, and disruptions in
supply
 Reasons Against Inventories
 They consume capital resources that might be put to
better use elsewhere in the firm
 They too often mask quality problems that would more
immediately be solved without their presence
 They divert management‟s attention away from careful
planning and control of the supply and distribution
channels by promoting an insular attitude about channel
management
Types of Inventories
 Pipeline
 Inventories in transit
 Speculative
 Goods purchased in anticipation of price increases
 Regular/Cyclical/Seasonal
 Inventories held to meet normal operating needs
 Safety
 Extra stocks held in anticipation of demand and lead time
uncertainties
 Obsolete/Dead Stock
 Inventories that are of little or no value due to being out
of date, spoiled, damaged, etc.
Nature of Demand
 Perpetual demand
 Continues well into the foreseeable future
 Seasonal demand
 Varies with regular peaks and valleys throughout the year
 Lumpy demand Accurately forecasting
 Highly variable (3  Mean) demand is singly the
most important factor in
 Regular demand good inventory
 Not highly variable (3 < Mean) management
 Terminating demand
 Demand goes to 0 in foreseeable future
 Derived demand
 Demand is determined from the demand of another item
of which it is a part
 Pull vs. Push Inventory Philosophies
PUSH - Allocate supply to each PULL - Replenish inventory with
warehouse based on the forecast order sizes based on specific needs
for each warehouse of each warehouse

Demand
forecast
Warehouse #1
Q1

A1

A2 Q2 Demand
Plant forecast
Warehouse #2
A3

Q3

A = Allocation quantity to each warehouse

Q = Requested replenishment quantity Demand
by each warehouse Warehouse #3 forecast
 Inventory Management Philosophies
 Pull
 Draws inventory into the stocking location
 Each stocking location is considered independent
 Maximizes local control of inventories
 Push
 Allocates production to stocking locations based on overall demand
 Encourages economies of scale in production
 Just-in-time
 Attempts to synchronize stock flows so as to just meet demand as it
occurs
 Minimizes the need for inventory
 Supply-Driven
 Supply quantities and timing are unknown
 All supply must be accepted and processed
 Inventories are controlled through demand
 Aggregate Control - Classification of items
 Groups items according to their sales level based on the 80-20 principle
 Allows different control policies for 3 or more broad product groups
Costs Relevant to Inventory Management

 Carrying costs
 Procurement costs
 Out-of-stock costs
Procurement costs
 Price of the goods
 Cost of preparing the order
 Cost of order transmission
 Cost of production setup if appropriate
 Cost of materials handling or processing at
the receiving dock
Carrying Costs
 Cost for holding the inventory over time
 The primary cost is the cost of money tied
up in inventory, but also includes
obsolescence, insurance, personal property
taxes, and storage costs
 Typically, costs range from the cost of
short term capital to about 40%/year. The
average is about 25%/year of the item
value in inventory.
Out-of-stock costs

 Lost sales cost

 Profit immediately foregone
 Future profits foregone through loss of
goodwill
 Backorder cost
 Costs of extra order handling
 Additional transportation and handling costs
 Possibly additional setup costs
Inventory Management Objectives

 Good inventory management is a careful balancing

act between stock availability and the cost of
holding inventory.
 Service objectives
 Setting stocking levels so that there is only a specified
probability of running out of stock
 Cost objectives
 Balancing conflicting costs to find the most economical
replenishment quantities and timing
Customer Service, Inventory Holding costs
i.e., Stock Availability
 Effective Inventory Management

 A system to keep track of inventory

 A reliable forecast of demand
 Knowledge of lead times
 Reasonable estimates of
 Holding costs
 Ordering costs
 Shortage costs
 A classification system
12-33
 Inventory Counting Systems

1. Periodic System
Physical count of items made at periodic
intervals
2. Perpetual Inventory System
System that keeps track
of removals from inventory
continuously, thus
monitoring
current levels of
each item

12-34
 Inventory Counting Systems (Cont‟d)
3. Two-Bin System - Two containers of
inventory; reorder when the first is
empty
[Link] Bar Code(tracking) - Bar
code printed on a label that has
information about the item
to which it is attached
0

214800
232087768
12-35
 Key Inventory Terms
 Lead time: time interval between ordering and
receiving the order
 Holding (carrying) costs: cost to carry an item in
inventory for a length of time, usually a year
 Ordering costs: costs of ordering and receiving
inventory
 Shortage costs: costs when demand exceeds
supply
 Inventory replenishment, otherwise known as
stock replenishment, refers to the process of
inventory moving from reserve storage to primary
storage, then onto picking locations.

12-36
 Classification system for inventory items

 An important aspect of inventory management is that

items held in inventory are not of equal importance in
terms of money invested, profit potential, sales or usage
volume, or stock-out penalties.
 Hence, it would be unrealistic to devote equal attention
to each of these items.
 For this, there are two approaches used by inventory
managers.
 These are called the
 A-B-C approach and
 the Economic Order Quantity (EOQ) model.
 ABC Classification System

Classifying inventory according to some

measure of importance and allocating control
efforts accordingly.
A - very important
B - mod. important
C - least important High
A
Annual
$ value B
of items

C
Low

Low High
Percentage of Items
12-38
 Mathematical Models for Determining Order
Quantity

 Economic Order Quantity (EOQ)

 An optimizing method used for determining order

quantity and reorder points

 Part of continuous review system which tracks on-

hand inventory each time a withdrawal is made

 is targeted at order size that minimizes total cost.

 Economic Production Quantity (EPQ)

 A model that allows for incremental product delivery

 Quantity Discount Model

 Modifies the EOQ process to consider cases where

quantity discounts are available

Economic Order Quantity (EOQ)
EOQ Assumptions
EOQ Assumptions
 EOQ assumptions Summary
 Assumptions
1. Demand is known and constant
2. Lead time is known and constant
3. Receipt of inventory is instantaneous
4. Purchase cost per unit is constant
throughout the year
5. The only variable costs are the placing an
order, ordering cost, and holding or storing
inventory over time, holding or carrying
cost, and these are constant throughout
the year
6. Orders are placed so that stockouts or
shortages are avoided completely
 Inventory usage over a time
 With these assumptions, inventory usage has a sawtooth shape. In
the graph, Q represents the amount that is ordered. If this
amount is 500 units, all 500 units arrive at one time when an order
is received. Thus, the inventory level jumps from 0 to 500 units.
 In general, the inventory level increases from 0 to Q units when
an order arrives. 20 Inventory Usage Over Time.
45
Inventory Costs in the EOQ Situation

Cost
Curve of Total Cost
of Carrying
and Ordering

Minimum
Total
Cost

Carrying Cost Curve

Ordering Cost Curve

Optimal Order Quantity

Order
Quantity
 Total Annual Inventory Cost with EOQ Model
 The optimal order size, Q*, is the quantity that minimizes the total
cost.
 Note in that Q* occurs at the point where the ordering cost curve and
the carrying cost curve intersect.
 This is not by chance. With this particular type of cost function, the
optimal quantity always occurs at a point where the ordering cost is
equal to the carrying cost.
EOQ (Q)

2DS
Q* 
H
 Continuous (Q) Review System Example: A computer company
has annual demand of 10,000. They want to determine EOQ for
circuit boards which have an annual holding cost (H) of $6/unit,
and an ordering cost (S) of $75. They want to calculate TC and
the reorder point (R) if the purchasing lead time is 5 days.

 EOQ (Q)
2DS 2 *10,000 * $75
Q*    500 units
H $6
 Reorder Point (R)
10,000
R  Daily Demand x Lead Time  * 5 days  200 units
250 days

 Total Inventory Cost (TC)

 10,000   500 
TC   $75   $6  $1500  $1500  $3000
 500   2 
50
 EOQ Example

 A local distributor for a national tire company

expects to sell approximately 9,600 steel-belted
radial tires of a certain size and tread design
next year. Annual carrying cost is $16 per tire,
and ordering cost is $75. The distributor
operates 288 days a year.
 What is the EOQ?
 How many times per year does the store reorder?
 What is the length of an order cycle (time between
orders)?
 What is the total annual cost if the EOQ quantity is
ordered?
Chapter three

Transportation Management