Month: February 2021

Productivity is an overall measure of the ability to produce a good or service. More specifically, productivity is the measure of how specified resources are managed to accomplish timely objectives as stated in terms of quantity and quality. Productivity may also be defined as an index that measures output (goods and services) relative to the input (labor, materials, energy, etc., used to produce the output). As such, it can be expressed as:

Hence, there are two major ways to increase productivity: increase the numerator (output) or decrease the denominator (input). Of course, a similar effect would be seen if both input and output increased, but output increased faster than input; or if input and output decreased, but input decreased faster than output.

Organizations have many options for use of this formula, labor productivity, machine productivity, capital productivity, energy productivity, and so on. A productivity ratio may be computed for a single operation, a department, a facility, an organization, or even an entire country.

Productivity is an objective concept. As an objective concept it can be measured, ideally against a universal standard. As such, organizations can monitor productivity for strategic reasons such as corporate planning, organization improvement, or comparison to competitors. It can also be used for tactical reasons such as project control or controlling performance to budget.

Productivity is also a scientific concept, and hence can be logically defined and empirically observed. It can also be measured in quantitative terms, which qualifies it as a variable. Therefore, it can be defined and measured in absolute or relative terms. However, an absolute definition of productivity is not very useful; it is much more useful as a concept dealing with relative productivity or as a productivity factor.

Productivity is useful as a relative measure of actual output of production compared to the actual input of resources, measured across time or against common entities. As output increases for a level of input, or as the amount of input decreases for a constant level of output, an increase in productivity occurs. Therefore, a “productivity measure” describes how well the resources of an organization are being used to produce input.

Productivity is often confused with efficiency. Efficiency is generally seen as the ratio of the time needed to perform a task to some predetermined standard time. However, doing unnecessary work efficiently is not exactly being productive. It would be more correct to interpret productivity as a measure of effectiveness (doing the right thing efficiently), which is outcome-oriented rather than output-oriented.

Productivity is usually expressed in one of three forms: partial factor productivity, multifactor productivity, and total productivity.

Productivity refers to the physical relationship between the quantity produced (output) and the quantity of resources used in the course of production (input).

“It is the ratio between the output of goods and services and the input of resources consumed in the process of production.”

Productivity is the ratio between output of wealth and input of resources used in production processes.

Productivity = Measure of output / Measure of Input

Total Productivity:

Pt = Qt / (L+C+R+M)

where Pt: Total productivity

L = Labour input

C = Capital input

R = Raw material and purchased parts input

M = Other miscellaneous goods and services input factors

Qt = Total output

Productivity can be increased by:

• Generating more outputs from same level of inputs.
• Producing same level of outputs with reduced level of inputs.
• A combination of both.

Importance of Productivity:

The concept of productivity is of great significance for undeveloped and developing countries. In both the cases there are limited resources that should be used to get the maximum output i.e. there should be tendency to perform a job by cheaper, safer and quicker ways.

The aim should be optimum use of resource so as to provide maximum satisfaction with minimum efforts and expenditure. Productivity analysis and measures indicate the stages and situations where improvement in the working of inputs is possible to increase the output.

The productivity indicators can be used for different purposes viz. comparison of performances for various organizations, contribution of different input factors, bargaining with trade unions etc.

Factors Affecting:

Productivity is the outcome of several factors. These factors are so interrelated that it is difficult to identify the effect of any one factor on productivity.

These factors may broadly be divided as follows:

1. Human:

Human nature and human behaviour are the most significant determinants of productivity.

Human factors may further be classified into two categories as given below:

(a) Ability to work: Productivity of an organization depends upon the competence and calibre of its people both workers and managers. Ability to work is governed by education, training, experience, aptitude, etc. of the employees.

(b) Willingness to work: Motivation and morale of people is the second important group of human factors that determine productivity. Wage incentive schemes, labour participation in management, communication system, informal group relations, promotion policy, union management relations, quality of leadership, etc., are the main factors governing employees’ willingness to work. Working conditions like working hours, sanitation, ventilation, schools, clubs, libraries, subsidized canteen, company transport, etc., also influence the motivation and morale of employees.

2. Technological:

Technological factors exercise significant influence on the level of productivity.

(a) Size and capacity of plant

(b) Product design and standardization

(c) Timely supply of materials and fuel

(d) Rationalization and automation measures

(e) Repairs and maintenance

(f) Production planning and control

(g) Plant layout and location

(h) Materials handling system

(i) Inspection and quality control

(j) Machinery and equipment used

(k) Research and development

(l) Inventory control

(m) Reduction and utilization of waste and scrap, etc.

3. Managerial:

The competence and attitudes of managers have an important bearing on productivity. In many organizations, productivity is low despite latest technology and trained manpower. This is due to inefficient and indifferent management. Competent and dedicated managers can obtain extraordinary results from ordinary people.

Job performance of employees depends on their ability and willingness to work. Management is the catalyst to create both. Advanced technology requires knowledge workers who in turn work productively under professionally qualified managers. No ideology can win a greater output with less effort. It is only through sound management that optimum utilization of human and technical resources can be secured.

4. Natural:

Natural factors such as physical, geological, geographical and climatic conditions exert considerable influence on productivity, particularly in extractive industries. For example, productivity of labour in extreme climates (too cold or too hot) tends to be comparatively low. Natural resources like water, fuel and minerals influence productivity.

5. Sociological:

Social customs, traditions and institutions influence attitudes towards work and job. For instance, bias on the basis of caste, religion, etc., inhibited the growth of modern industry in some countries. The joint family system affected incentive to work hard in India. Close ties with land and native place hampered stability and discipline among industrial labour.

6. Political:

Law and order, stability of Government, harmony between States, etc. are essential for high productivity in industries. Taxation policies of the Government influence willingness to work, capital formation, modernization and expansion of plants, etc. Industrial policy affects the size, and capacity of plants. Tariff policies influence competition. Elimination of sick and inefficient units helps to improve productivity.

7. Economic:

Size of the market, banking and credit facilities, transport and communication systems, etc. are important factors influencing productivity.

Productivity is an economics term which refers to the ratio of product to what is required to produce the product. Productivity is outcome of several interrelated factors. All the factors which are related to input and output components of a production process are likely to affect productivity.

So, there are many factors which can influence productivity; such as internal and external. Knowing the internal and external factors that affect productivity of an Industrial organization; give industrial engineers; the intelligence, they needs to sort out the low performance of resources and make strategic plans for the future.

The best thing about internal factors is that you can control many of them. External factors are all those things that are beyond your control. To deal with all these factors we need different people and variety of techniques and methods.

Dr. William Edwards Deming (October 14, 1900 – December 20, 1993) was an American engineer, statistician, professor, author, lecturer, and management consultant. Educated initially as an electrical engineer and later specializing in mathematical physics, he helped develop the sampling techniques still used by the U.S. Department of the Census and the Bureau of Labor Statistics.

In his book The New Economics for Industry, Government, and Education Deming championed the work of Walter Shewhart, including statistical process control, operational definitions, and what Deming called the “Shewhart Cycle,” which had evolved into Plan-Do-check-Act (PDCA). Deming is best known for his work in Japan after WWII, particularly his work with the leaders of Japanese industry. That work began in July and August 1950, in Tokyo and at the Hakone Convention Center, when Deming delivered speeches on what he called “Statistical Product Quality Administration”. Many in Japan credit Deming as one of the inspirations for what has become known as the Japanese post-war economic miracle of 1950 to 1960, when Japan rose from the ashes of war on the road to becoming the second-largest economy in the world through processes partially influenced by the ideas Deming taught:

• Better design of products to improve service
• Higher level of uniform product quality
• Improvement of product testing in the workplace and in research centers
• Greater sales through side [global] markets

Create a constant purpose toward improvement.

• Plan for quality in the long term.
• Resist reacting with short-term solutions.
• Don’t just do the same things better find better things to do.
• Predict and prepare for future challenges, and always have the goal of getting better.

Adopt the new philosophy.

• Embrace quality throughout the organization.
• Put your customers’ needs first, rather than react to competitive pressure and design products and services to meet those needs.
• Be prepared for a major change in the way business is done. It’s about leading, not simply managing.
• Create your quality vision, and implement it.

Stop depending on inspections

• Inspections are costly and unreliable and they don’t improve quality, they merely find a lack of quality.
• Build quality into the process from start to finish.
• Don’t just find what you did wrong eliminate the “wrongs” altogether.
• Use statistical control methods not physical inspections alone to prove that the process is working.

Use a single supplier for any one item.

• Quality relies on consistency: The less variation you have in the input, the less variation you’ll have in the output.
• Look at suppliers as your partners in quality. Encourage them to spend time improving their own quality, they shouldn’t compete for your business based on price alone.
• Analyze the total cost to you, not just the initial cost of the product.
• Use quality statistics to ensure that suppliers meet your quality standards.

Improve constantly and forever.

• Continuously improve your systems and processes. Deming promoted the Plan-Do-Check-Act
• approach to process analysis and improvement.
• Emphasize training and education so everyone can do their jobs better.
• Use kaizen
• as a model to reduce waste and to improve productivity, effectiveness, and safety.

Use training on the job.

• Train for consistency to help reduce variation.
• Build a foundation of common knowledge.
• Allow workers to understand their roles in the “big picture.”
• Encourage staff to learn from one another, and provide a culture and environment for effective teamwork.

Implement leadership

• Expect your supervisors and managers to understand their workers and the processes they use.
• Don’t simply supervise provide support and resources so that each staff member can do his or her best. Be a coach instead of a policeman.
• Figure out what each person actually needs to do his or her best.
• Emphasize the importance of participative management and transformational leadership.
• Find ways to reach full potential, and don’t just focus on meeting targets and quotas.

Eliminate fear

• Allow people to perform at their best by ensuring that they’re not afraid to express ideas or concerns.
• Let everyone know that the goal is to achieve high quality by doing more things right and that you’re not interested in blaming people when mistakes happen.
• Make workers feel valued, and encourage them to look for better ways to do things.
• Ensure that your leaders are approachable and that they work with teams to act in the company’s best interests.
• Use open and honest communication to remove fear from the organization.

Break down barriers between departments.

• Build the “internal customer” concept, recognize that each department or function serves other departments that use their output.
• Build a shared vision.
• Use cross-functional teamwork to build understanding and reduce adversarial relationships.
• Focus on collaboration and consensus instead of compromise.

Get rid of unclear slogans.

• Let people know exactly what you want don’t make them guess. “Excellence in service” is short and memorable, but what does it mean? How is it achieved? The message is clearer in a slogan like “You can do better if you try.”
• Don’t let words and nice-sounding phrases replace effective leadership. Outline your expectations, and then praise people face-to-face for doing good work.

Eliminate management by objectives

• Look at how the process is carried out, not just numerical targets. Deming said that production targets encourage high output and low quality.
• Provide support and resources so that production levels and quality are high and achievable.
• Measure the process rather than the people behind the process.

Remove barriers to pride of workmanship.

• Allow everyone to take pride in their work without being rated or compared.
• Treat workers the same, and don’t make them compete with other workers for monetary or other rewards. Over time, the quality system will naturally raise the level of everyone’s work to an equally high level.

Implement education and self-improvement.

• Improve the current skills of workers.
• Encourage people to learn new skills to prepare for future changes and challenges.
• Build skills to make your workforce more adaptable to change, and better able to find and achieve improvements.

Make “transformation” everyone’s job.

• Improve your overall organization by having each person take a step toward quality.
• Analyze each small step, and understand how it fits into the larger picture.
• Use effective change management principles to introduce the new philosophy and ideas in Deming’s 14 points.

Joseph Moses Juran (December 24, 1904 – February 28, 2008) was a Romanian-American engineer and management consultant. He was an evangelist for quality and quality management, having written several books on those subjects.

Pareto principle

In 1941, Juran stumbled across the work of Vilfredo Pareto and began to apply the Pareto principle to quality issues (for example, 80% of a problem is caused by 20% of the causes). This is also known as “the vital few and the trivial many.” In later years, Juran preferred “the vital few and the useful many” to signal that the remaining 80% of the causes should not be totally ignored.

For example, he argued that most defects are the result of a small percentage of the causes of all defects, according to the Economist. For another, 20% of a team’s members are going to make up 80% of a project’s successful results. And 20% of a businesses’ customers will create 80% of the profit.

Juran felt organizations, armed with that knowledge, would focus less on meaningless minutiae and more on identifying the 20%. That means eliminating the 20% of mistakes causing the majority of defects, rewarding the 20% of employees causing 80% of the success and serving the 20% of loyal customers that drive sales. In a way, Pareto’s Principle puts numbers to the idea that in business, as in life, things are not evenly distributed. Pareto was studying land ownership in Italy. But Juran saw that it applied to business, as well.

Juran Trilogy

“Goal setting has traditionally been based on past performance. This practice has tended to perpetuate the sins of the past.”

In his focus on people and how they work in processes, Juran took a different approach than others working in the growing quality improvement field. In doing so, he completely changed how companies looked at reducing inefficiencies.

Juran found the hidden costs in how companies tended to deal with defects. In the early 20th century, that often meant dealing with the issue after it had occurred rather than focusing time and money on making quality improvements to keep defects from happening.

He developed the Juran Trilogy, which involved three principal areas:

Quality planning: This involves identifying your customers, determining their needs and developing products that respond to their needs.

Quality improvement: Develop a process to create the product and then optimize that process.

Quality control: Create a process that can operate under minimal inspection.

Quality Planning

Quality Planning is the activity of developing the products and processes required to meet customer’s needs. It involves:

• Establish quality goals
• Identify the customers- those who will be impacted by the efforts to meet the goal.
• Determine the customers’ needs
• Develop product features that respond to customers’ needs
• Develop processes that can produce those product features
• Establish process controls, and transfer the resulting plans to the operating forces

Quality Improvement

This process is the means of raising quality performance to unprecedented levels (breakthrough). This involves:

• Establish the quality improvement infrastructure
• Identify the improvement projects
• For each project establish a project team with clear responsibility
• Provide the resource, motivation, and training needed by the team

Quality Control

This process consists of the following steps:

• Evaluate actual quality performance
• Compare actual performance to quality goals
• Act on the difference

Quality Improvement 10 Steps proposal

• Build awareness of the need and opportunity to improve
• Set goals for that improvement
• Create plans to reach the goals
• Provide training
• Conduct projects to solve problems
• Report on progress
• Give recognition for success
• Communicate results
• Keep score
• Maintain momentum

Philip Bayard “Phil” Crosby, (June 18, 1926 – August 18, 2001) was a businessman and author who contributed to management theory and quality management practices.

Crosby initiated the Zero Defects program at the Martin Company. As the quality control manager of the Pershing missile program, Crosby was credited with a 25 percent reduction in the overall rejection rate and a 30 percent reduction in scrap costs.

The Absolutes of Quality Management

Crosby defined Four Absolutes of Quality Management, which are

• The First Absolute: The definition of quality is conformance to requirements
• The Next Absolute: The system of quality is prevention
• The Third Absolute: The performance standard is zero defects
• The Final Absolute: The measurement of quality is the price of non-conformance

Fourteen Steps to Quality Improvement

1. Management Commitment

Make it clear that management is committed to quality.

2. Quality Improvement Teams

Form Quality Improvement Teams with senior representatives from each department.

3. Measure Processes

Measure processes to determine where current and potential quality problems lie.

4. Cost of Quality

Evaluate the cost of quality and explain its use as a management tool.

5. Quality Awareness

Raise the quality awareness and personal concern of all employees.

6. Correct Problems

Take actions to correct problems identified through previous steps.

7. Monitor Progress

Establish progress monitoring for the improvement process.

8. Train Supervisors

Train supervisors to actively carry out their part of the quality improvement program.

9. Zero Defects Day

Hold a Zero Defects Day to reaffirm management commitment.

10. Establish Improvement Goals

Encourage individuals to establish improvement goals for themselves and their group.

11. Remove Fear

Encourage employees to tell management about obstacles to improving quality.

12. Recognize

Recognize and appreciate those who participate.

13. Quality Councils

Establish Quality Councils to communicate on a regular basis.

14. Repeat the Cycle

Do it all over again to emphasize that the quality improvement process never ends.

Zero Defects

Crosby’s Zero Defects is a performance method and standard that states that people should commit themselves too closely monitoring details and avoid errors. By doing this, they move closer to the zero defects goal. According to Crosby, zero defects was not just a manufacturing principle but was an all-pervading philosophy that ought to influence every decision that we make. Managerial notions of defects being unacceptable and everyone doing ‘things right the first time’ are reinforced.

The Quality Vaccine

Crosby explained that this vaccination was the medicine for organizations to prevent poor quality.

• Integrity: Quality must be taken seriously throughout the entire organization, from the highest levels to the lowest. The company’s future will be judged by the quality it delivers.
• Systems: The right measures and systems are necessary for quality costs, performance, education, improvement, review, and customer satisfaction.
• Communication: Communication is a very important factor in an organization. It is required to communicate the specifications, requirements, and improvement opportunities of the organization. Listening to customers and operatives intently and incorporating feedback will give the organization an edge over the competition.
• Operations: a culture of improvement should be the norm in any organization, and the process should be solid.
• Policies: policies that are implemented should be consistent and clear throughout the organization.

In materials management, ABC analysis is an inventory categorization technique. ABC analysis divides an inventory into three categories, “A items” with very tight control and accurate records, “B items” with less tightly controlled and good records, and “C items” with the simplest controls possible and minimal records.

The ABC analysis provides a mechanism for identifying items that will have a significant impact on overall inventory cost, while also providing a mechanism for identifying different categories of stock that will require different management and controls.

The ABC analysis suggests that inventories of an organization are not of equal value. Thus, the inventory is grouped into three categories (A, B, and C) in order of their estimated importance.

‘A’ items are very important for an organization. Because of the high value of these ‘A’ items, frequent value analysis is required. In addition to that, an organization needs to choose an appropriate order pattern (e.g. ‘just-in-time’) to avoid excess capacity. ‘B’ items are important, but of course less important than ‘A’ items and more important than ‘C’ items. Therefore, ‘B’ items are intergroup items. ‘C’ items are marginally important.

The ABC concept is based on Pareto’s law.[9] If too much inventory is kept, the ABC analysis can be performed on a sample. After obtaining the random sample, the following steps are carried out for the ABC analysis.

• Step 1: Compute the annual usage value for every item in the sample by multiplying the annual requirements by the cost per unit.
• Step 2: Arrange the items in descending order of the usage value calculated above.
• Step 3: Make a cumulative total of the number of items and the usage value.
• Step 4: Convert the cumulative total of the number of items and usage values into a percentage of their grand totals.
• Step 5: Draw a graph connecting cumulative % items and cumulative % usage value. The graph is divided approximately into three segments, where the curve sharply changes its shape. This indicates the three segments A, B and C.

Advantages

• The ABC method makes sure that the stock turnover ratio is maintained at a comparatively higher level through a systematic control of inventories
• There is provision to have enough C category stocks to be maintained without compromising on the more important items
• This method helps businesses to maintain control over the costly items which have large amounts of capital invested in them
• The storage expenses are cut down considerably with this tool
• It provides a method to the madness of keeping track of all the inventory. Not only does it reduce unnecessary staff expenses but more importantly it ensures optimum levels of stock is maintained at all times

Disadvantages

• It requires a good system of coding of materials already in operation for this analysis to work
• For this method to work and render successful results, there must be proper standardization in place for materials in the store
• Since this analysis takes into consideration the monetary value of the items, it ignores other factors that may be more important for your business. Hence, this distinction is vital

Policies

Item A:

• These are subjected to strict inventory control and are given highly secured areas in terms of storage
• These goods have a better forecast for sales
• These are also the items that require frequent reorders on a daily or a weekly basis
• They are kept as a priority item and efforts are made to avoid unavailability or stock-out of these items

Item B:

• These items are not as important as items under section A or as trivial as items categorized under C
• The important thing to note is that since these items lie in between A and C, they are monitored for potential inclusion towards category A or in a contrary situation towards category C

Item C:

• These items are manufactured less often and follow the policy of having only one of its items, on hand or in some cases they are reordered when a purchase is actually made
• Since these are low demand goods with a comparatively higher risk of cost in terms of excessive inventory, it is an ideal situation for these items to stock-out after each purchase
• The questions managers find themselves dealing with when it comes to items in category C is not how many units to keep in stock but rather whether it is even needed to have to these items in store at all

Golf Analysis

The letter stands for Government, Ordinary, Local and Foreign. There are mainly imported items which are canalized through the State Trading Corporation (STC) Minerals and Metals Trading Corporation, etc. Indian Drugs and Pharmaceutical Ltd (IDPL), Mica trading corporation etc. These are special procedures of inventory control which may not applicable to ordinary items as they require special procedures.

G = Government controlled supplies

O = Open market supplies

L = Local supplies

F = Foreign market supplies

XYZ Analysis

It is based on the closing inventory value of different items. Such classification is done every year at the time of annual stock taking and items having highest inventory- valuation are classified as ‘X’, while those with low investment in them are termed as ‘Z’ items.

Other items are ‘Y items whose inventory value is neither too high nor too low. This type of analysis is particularly useful in identifying the items requiring maximum care and attention during storage.

SOS Analysis

Raw materials, especially agricultural inputs are generally classified by the seasonal, off-seasonal systems since the prices during the season would generally be lower.

The seasonal items which are available only for a limited period should be procured and stocked for meeting the needs of the full year. The prices of the seasonal items which are available throughout the year are generally less during the harvest season.

The quantity required of such items should, therefore, be determined after comparing the cost savings on account of lower prices, if purchased during season, with the higher cost of carrying inventories if purchased throughout the year.

A Buying and stocking strategy for seasonal items depend on a large number of factors and more and more sophistication is taken place in this sphere and operational techniques are used to obtain optimum results.

HML Analysis

HML Classification:

The HML classification is similar to the ABC classification, except for the fact that instead of consumption values of items, their unit values are considered. Items are classified on the basis of their unit values into:

H = High value items.

M = Medium value items.

L = Low value items.

This type of analysis is useful for keeping control over materials consumption at the departmental level. For example, gold, which is a high value item, will be classified as H and coal, which is a low value item, will be classified as L.

Lead Time

A lead time is the latency between the initiation and completion of a process. For example, the lead time between the placement of an order and delivery of new cars by a given manufacturer might be between 2 weeks and 6 months, depending on various particularities.

Lead time is the amount of time that passes from the start of a process until its conclusion. Companies review lead time in manufacturing, supply chain management, and project management during pre-processing, processing, and post-processing stages.

One business dictionary defines “manufacturing lead time” as the total time required to manufacture an item, including order preparation time, queue time, setup time, run time, move time, inspection time, and put-away time. For make-to-order products, it is the time between release of an order and the production and shipment that fulfill that order. For make-to-stock products, it is the time taken from the release of an order to production and receipt into finished goods inventory.

Components of lead time

1. Pre-processing time: This is also referred to as the planning time, and it includes the time taken to receive a request for replenishment, understand it and create a purchase order (when buying an item), or create a job in the case of a manufacturing firm.
2. Processing time: The processing time is the time taken after receiving a purchase order to procure or produce the item.
3. Waiting time: The time that’s taken between procuring necessary items to the time when the production process commences.
4. Storage time: Storage time is the amount of time that items stay in the warehouse or factory awaiting delivery.
5. Transportation time: The time that the produced item takes to move from the warehouse/factory to the customer.
6. Inspection time: The time spent by the customer checking the product to see if it meets the specifications. Also refers to the time required to deal with any non-conformity with the order request.

Method

The following are some of the ways that a company can reduce lead time:

1. Reduce non-value-added activities

The company should perform value stream mapping to identify non-value-added activities that prolong the lead times. Prepare a list of these activities and eliminate those that the company can do without, and maintain those that provide a positive impact on product quality.

2. Change shipping methods

The company can also organize for alternative shipping methods that are quicker than the current shipping methods, or that offer more frequent shipments. The suppliers may prefer shipping methods that are slow but result in more cost savings, which can affect lead times. Transitioning to a more flexible shipping method can gradually reduce the lead time, even though it may come at an additional cost.

3. Source locally

If the raw materials imported by the company are available locally, the company can change to the local suppliers, as long that does not compromise the quality of products. Buying products locally, as opposed to sourcing from international suppliers, reduces the lead time because the goods are transported over shorter distances.

4. Vertical integration

Vertical integration may involve combining the processes of two suppliers or production processes of the company. For example, where a company manufactures and assembles components in locations that are far apart, it may consolidate the two processes internally. This reduces the transportation time of the components from one location to another.

5. Automate the process

Sometimes, lead time delays are caused by human errors, when the person responsible for ordering new stock delays contacting suppliers. The company can use a Vendor-Managed Inventory (VMI) or a Vendor-Owned Inventory (VOI) system to replenish the stock automatically when it nears completion. Such a system reduces lead time since the supplier gets a request early enough before the company experiences a stock out.

Reorder Level

Reorder level of stock (also known as reorder point or ordering point) in a business is a present level of stock or inventory at which the business places a new order with its suppliers to obtain the delivery of raw materials or finished goods inventory.

The reorder point (ROP) is the level of inventory which triggers an action to replenish that particular inventory stock. It is a minimum amount of an item which a firm holds in stock, such that, when stock falls to this amount, the item must be reordered. It is normally calculated as the forecast usage during the replenishment lead time plus safety stock. In the EOQ (Economic Order Quantity) model, it was assumed that there is no time lag between ordering and procuring of materials.

The reorder point for replenishment of stock occurs when the level of inventory drops down to zero. In view of instantaneous replenishment of stock the level of inventory jumps to the original level from zero level.

In real life situations one never encounters a zero lead time. There is always a time lag from the date of placing an order for material and the date on which materials are received. As a result the reorder point is always higher than zero, and if the firm places the order when the inventory reaches the reorder point, the new goods will arrive before the firm runs out of goods to sell. The decision on how much stock to hold is generally referred to as the order point problem, that is, how low should the inventory be depleted before it is reordered.

The two factors that determine the appropriate order point are the delivery time stock which is the Inventory needed during the lead time (i.e., the difference between the order date and the receipt of the inventory ordered) and the safety stock which is the minimum level of inventory that is held as a protection against shortages due to fluctuations in demand.

Reorder Point = Normal consumption during lead-time + Safety Stock

Safety stock: [Maximum demand or usage (in days, weeks or months) × Maximum lead time (in days, weeks or months)] + Safety stock

Safety Stock

Safety stock is a term used by logisticians to describe a level of extra stock that is maintained to mitigate risk of stockouts (shortfall in raw material or packaging) caused by uncertainties in supply and demand. Adequate safety stock levels permit business operations to proceed according to their plans. Safety stock is held when uncertainty exists in demand, supply, or manufacturing yield, and serves as an insurance against stockouts.

Safety stock is an additional quantity of an item held in the inventory to reduce the risk that the item will be out of stock. It acts as a buffer stock in case sales are greater than planned and/or the supplier is unable to deliver the additional units at the expected time.

Safety stock is an additional quantity of an item held by a company in inventory in order to reduce the risk that the item will be out of stock. Safety stock acts as a buffer in case the sales of an item are greater than planned and/or the company’s supplier is unable to deliver additional units at the expected time. If the company is a manufacturer, a safety stock of materials could minimize the risk of production being disrupted.

Of course, there are additional holding or carry costs associated with safety stock. However, the holding costs could be less than the cost of not filing a customer’s order on time or having to stop its production line.

How to calculate safety stock

To get the benefits of keeping safety stock, you need to know how much safety stock to keep. This is because too much safety stock can lead to higher holding costs, and too little safety stock results in loss of sales. Using a formula will help you calculate the optimal amount of safety stock for your business.

Each method of calculating safety stock uses slightly different details, but they all require you to know your lead time, which is the time between the initiation of an order and the completion of the delivery process.

There are several different methods to calculate safety stock:

• Fixed safety stock
• Time-based calculation
• The general formula
• Heizer Render’s formula
• Greasley’s method

Fixed safety stock

Fixed safety stock is a method used by production planners. They determine the amount of safety stock to keep from the maximum daily usage for over a period of time, but without using a particular formula. The value for fixed safety stock generally remains unchanged unless the production planner decides to change it. Fixed safety stock levels can even be set to zero for items that you want to phase out. However, if there is a sudden demand surge for an item with very little safety stock, you might not be able to fulfill the orders.

Time-based calculation

In this method, safety stock levels are calculated over a particular time period, based on the future forecast for the product. This method includes a combination of actual demand from sales orders, and forecasted demand based on statistical methods. This method cannot predict business uncertainties, so using it involves a risk that you might end up carrying too much unwanted stock if your products are moving slower than forecasted.

The general formula

This is the simplest and commonly used method to calculate safety stock. It calculates the average safety stock the company needs to hold during a stockout scenario, but it doesn’t consider the seasonal fluctuations of demand.

Safety Stock = (Max. Daily Usage*Max lead time in Days) – (Avg. Daily Usage* Avg. lead time in Days)

VED

VED analysis is an inventory management technique that classifies inventory based on its functional importance. It categorizes stock under three heads based on its importance and necessity for an organization for production or any of its other activities. VED analysis stands for Vital, Essential, and Desirable.

V: Vital

Vital items which render the equipment or the whole line operation in a process totally and immediately inoperative or unsafe; and if these items go out of stock or are not readily available, there is loss of production for the whole period.

E: Essential category

The essential category includes inventory, which is next to being vital. These, too, are very important for any organization because they may lead to a stoppage of production or hamper some other process. But the loss due to their unavailability may be temporary, or it might be possible to repair the stock item or part.

The management should ensure optimum availability and maintenance of inventory under the “Essential” category too. The unavailability of inventory under this category should not cause any stoppage or delays.

D: Desirable

Desirable items which are mostly non-functional and do not affect the performance of the equipment.

As the common saying goes “Vital Few, trivial many”, the number of vital spares in a plant or a particular equipment will only be a few while most of the spares will fall in ‘the desirable and essential’ category.

However, the decision regarding the stock of spares to be maintained will depend not only on how critical the spares are from the functional point of view (VED analysis) but also on the annual con­sumption (user) cost of spares (ABC: analysis) and, therefore, for control of spare parts both VED and ABC analyses are to be combined.

FSN Analysis

FSN analysis is an inventory management technique. It is an important aspect in logistics. The items are classified according to their rate of consumption. The items are classified broadly into three groups:

F: means Fast moving

S: means Slow moving

N: means Non-moving.

The FSN analysis is conducted generally on the following basis:

• The last date of receipt of the items or the last date of the issue of items, whichever is later, is taken into account.
• The time period is usually calculated in terms of months or number of days and it pertains to the time elapsed since the last movement was recorded.

FSN analysis helps a company in identification of the following

The items considered to be “active” may be reviewed regularly on more frequent basis.

Items whose stocks at hand are higher as compared to their rates of consumption.

Non-moving item have zero consumption are generally absolutely.

Interpretation

• Fast-moving goods comprise of 10% or lesser of the average cumulative stay calculated.
• Slow-moving goods comprise of 20% or lesser of the average cumulative stay calculated.
• Non-moving goods comprise of 70% or lesser of the average cumulative stay calculated.

SDE Analysis

S: Scarce items

Refers to scarce items, items which are in short supply. Usually these are raw materials, spare parts and imported items.

D: Difficult items

Stands for difficult items, items which are not readily available in local markets and have to be procured from faraway places, or items for which there are a limited number of suppliers; or items for which quality suppliers are difficult to get.

E:

Refer to items which are easily available in the local markets.