One of the underlying assumptions from Chapter 12’s discussion of EOQ, Productio
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Question
One of the underlying assumptions from Chapter 12’s discussion of EOQ, Production Run, and other models is that demand for inventory is independent. Yet, Chapter 14’s similar presentation and discussion of MRP specified that MRP systems assume dependent demand. The concepts of dependent and independent inventory systems are very important. However, their importance is somewhat buried by the quantitative aspects of the EOQ and MRP models.
1. What is the main difference in inventory systems using assumptions of dependent and independent demand models?
Note: Defining dependent and independent is not a sufficient answer. A good answer would address how the answers to the questions 1) What to order, and 2) How many to order, are answered by the operations manager.
Explanation / Answer
Inventory Management and importance of inventory management in organization
Requirement of companies to manage their inventories with minimizes holding costs in timely manner delivery in providing products to meet customer demands. If inventory levels fall too low to standard level, businesses may get involved in producing in overtime which effects on revenue by making customers to wait or switch to another brand as less supply.
Use of Economic Order Quantity in organization in inventory management perspective
Economic order quantity (EOQ) is the order quantity of as per requirements of inventory which aims to minimize the total cost in inventory management. It is considered that in inventory management, there are two major inventory costs incurred while ordering and managing which are ordering costs and carrying costs or holding cost. Ordering costs can be considered as cost involved in purchase or production of martial like communicating the order, purchase cost transportation cost, etc. Holding cost means costs incurred on carrying inventory like tax, insurance, storage, inspection cost etc.
To make optimization, business needs to minimize carrying costs as ordering cost is opposite in nature. It is aim in business to minimize total cost of inventory we know that
Total inventory costs = Ordering costs + Holding costs
Difference in inventory systems using assumptions of dependent and independent demand models
Inventory systems using assumptions of independent demand models
Independent demand: Defines demand for finished goods like mobile, car or soap etc.
An inventory of such items are said as independent demand based inventory in which demand for such goods are not dependent upon the demand for another parts or item or subparts.
These finished goods items are ordered by end users or customers or produced to make stock and sale, are called independent demand items based inventory.
What to order & how many to order with reference to MRP & EOQ
Independent demands for inventories are generally kept considering confirmed orders of customer, monthly or yearly forecasts, estimation and past historical data of sales & inventory.
This category of inventory are mainly handled and managed with sales and supply chain order processes and these inventories are based on demand forecasts, availability of raw materials and components to produce final goods. These are managed through MRP -Material Requirement Planning system or ERP - Enterprise Resource Planning system in terms of what to order based on stock, buffer and availability of components required to manufacture finished goods. They use order system like as Just In Time - ordering and receiving inventory only customer needs basis for production not before, Kanban - maintaining the minimum amount of stock to avoid stock out.
Inventory systems using assumptions of dependent demand models
Dependent demand: Define as demand for component, sub items, parts etc. necessary for production of finished goods.
For example, RAM for computer, seats for car, oil for soap
What to order & how many to order with reference to MRP & EOQ
Management of this category inventory is more complicated than managing finished goods inventory. Operation manager needs to analyse and co-coordinate with supply chain activities, delivery schedules, lead times and logistic management and transportation and warehousing of raw materials, ensuring quality of raw material before used in manufacturing.
Inventory management also involves periodic review of the inventory holding, cost, carrying cost etc. with detailed analysis of the reports for financial and managerial decisions.
Inventory manager responsible for planning, managing and controlling quantity of each Item is to be ordered from suppliers and timeline to place order.
Total inventory costs = Ordering costs + Holding costs
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