Chapter four

Materials Management

4.1 Purchasing
4.2 Inventory Control
After completing this chapter, you should be able to:
Define the materials.
List different types of materials
Define the term inventory.
List the different types of inventory.
Explain periodic and continuous review systems.
Describe the costs that are relevant for inventory management.
Describe the basic EOQ model and its assumptions and solve typical
problems.
Describe situations in which the fixed-order interval model is appropriate,
and solve typical problems.
Materials Management definition:

Material : is a type of physical thing, such as glass, metals

woods, stones, or plastics, having qualities that allow it to be

used to make other things.

Materials Management can be said to be that the process of

which coordinates, supervises and carry out the tasks

associated with the flow of materials to through and out of an

organization in an integrated fashion.

 Material management: is a scientific technique, concerned
with Planning, Organizing &Control of flow of materials, from
their initial purchase to destination.
‘Materials Management’: is a term used to connote/mean
“controlling the kind, amount, location, movement and timing
of various commodities used in production by industrial
enterprises”.
Materials Management: is the planning, directing, controlling
and coordinating those activities which are concerned with
materials and inventory requirements.
 AIM OF MATERIAL MANAGEMENT
To get
1. The Right quality
2. Right quantity of supplies
3. At the Right time
4. At the Right place
5. For the Right cost
 Materials Management Spectrum(range) of Control

•Underlying spectrum: is to provide effectiveness to a function

that must start from planning stage and will end when the finished
products are finally distributed.
1. Planning : sets the goal and indicates the available sources of
finance.
2. Scheduling : specifies the requirements, the quantum and the
delivery schedules.
3. Purchasing and Procurement: select and retain vendors; and
contracts with them.
4. Inspection and Quality control: conduct test checks for
conformance to specifications.
5. Stores and Inventory control: determine inventory
status, undertake maintenance and upkeep.
6. Material Handling: controls physical movement at any
stage the material is.
7. Distribution Logistics: controls flow and distribution,
and finally, traffic, shipment and dispatch conclude with
final delivery.
 Purchasing
Purchasing: is the act of buying the goods and services that a
company needs to operate manufacture products.
Purchasing: is the function of production management
which finds sources for supplies, negotiates contracts with
suppliers, and progresses deliveries of bought materials and
components.
Like marketing, purchasing is a commercial function, but it is

more closely related to production control than to

marketing.
 Purchasing classes
There are two main classes of purchases:
1. Bought items, which a company buys because it cannot make
them.
2. subcontracted items, which a company could make (it has the
necessary facilities, skills and know-how) but does not make
because it is short of capacity, or because it can buy them more
cheaply than it can make them.
 Purchasing methods
There are three main methods of buying:
1. Batch buying,
2. Schedule buying
3. Call-off Purchasing method.
1. Batch buying: purchasing starts with a requisition for a specified
quantity of an item, all for delivery by the same date.

Batch buying is also the traditional form of purchasing used

in continuous manufacture.
Items were purchased in batches for stock.
Cont.
This method was generally associated with the cycle of
1. Enquiry meteyek mereja
2. Quotations and waga meteyek
3. Orders
mazezgn
Problems with Batch buying
The problems with this approach were that it did not usually find the
most reliable supplier and, because the supplier frequently changed.
Long lead times were necessary to give the supplier time to find
materials, plan methods, and obtain tools for the work.

Orders were normally delivered as a single delivery batch and

quantity; stocks were therefore very high.
2. Schedule buying: starts in the same way with a requisition for a
specified quantity, but the order is accompanied by a delivery
schedule, calling for the delivery of specified quantities at a series
of future delivery dates.
This method tended to reduce the stock level, and also to
reduce stock holding costs.
In practice, schedule buying was mainly used to regulate the
supply of special materials and bought parts, in mass production.
This method was reasonably reliable if one allowed a high level
of buffer stocks.
3.The call-off: method may again specify a total order quantity; it
will usually be accompanied by a delivery forecast or schedule,
showing the probable requirements for a series of future periods.
However, the supplier may only deliver in each period the exact
quantity specified in a call-off note, issued for that period.
The requirements for call-off method
For safety, the supplier should maintain a record of the moving
average of the call-off quantities, so that he can adjust the
manufacturing rate if the average demand rises or falls.
The customer should also undertake to adjust his long-term
delivery forecast if actual call-off varies from that forecast by more
than a specified quantity.
 Purchase process
Define Objective: Specify objectives, Constraints, and
Criteria of Materials Purchase
Collect Information: Identification of materials and
specification, Look for possible sources, Collect data on
Price and other terms of suppliers, Delivery schedule,
Rejection and replacement terms, Compensation for
shortages, Payment terms, Guarantee, Transportation and
package; Establish time constraints.
Cont.
Develop options: Locate possible vendors/seller, Quantity
and price considerations
Evaluate & decide: Examine consequences of selecting
various alternatives measuring against criteria of evaluation;
Testing against overall objectives and selecting the best
option(s).
Implement: start action to carry out the decision taken,
Monitoring the implementation of decision, Review the
decision if necessary.
 Inventory and inventory system
Inventory : is the term for the goods available for sale and raw
materials used to produce goods available for sale

Inventory: is a stocks of materials used to facilitate

production or to satisfy customer. It include raw-materials,
work-in-progress and finished goods.
Inventory acts as a shock absorber between the demand
and supply rates of different nature.
Inventories are vital to the successful functioning of
manufacturing & retailing organizations.
 Inventory system
An inventory system is a set of policies that monitors and
controls inventory
An inventory management system :is the process by which you
track your goods throughout your entire supply chain, from
purchasing to production to end sales
It determines how much of each item should be kept, when low
items should be replenished, and how many items should be
ordered or made when replenishment is needed.
 purpose of Inventory
Inventories serve a number of functions. Among the most important are
the following:
1. To meet predictable customer demand.
2. To smooth production requirements
3. To reduce the risk of stock outs
4. To take advantage of order cycles.
5. To hedge against price increases
6. To permit operations
7. To take advantage of quantity discounts
 TYPES OF INVENTORY
1. Raw Material and Production Inventories: These are raw materials and
other supplies, parts and components which enter into the product during
the production process and generally form part of the product.
2. In-process Inventories: These are semi-finished WIP, and partly
finished products formed at various stages of production. Also named as
Decoupling Inventories to decouple or disengage different parts of the
production system.
3. Finished product inventories: these are the types of inventories that
finished its process. It leaves the processing line.
4. MRO Inventories: Maintenance, repairs and operating supplies which
are consumed during the production process and generally do not form
part of the product itself are referred to as MRO Inventories. e.g. oils and
 SELECTIVE INVENTORY CONTROL (SIC)
An important aspect of inventory management is that items held in
inventory are not of equal importance in terms of dollars invested,
profit potential, sales or usage volume, or stock out penalties.
Main techniques in selective inventory control
ABC Analysis
GOLF Analysis
SOS Analysis
HML Analysis
SDE Analysis
FSND Analysis
 A-B-C approach 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.
Typically, three classes of items are used: A (very important),
B (moderately important), and C (least important).
This classification can be based on many criteria, including
annual sales revenue, average profit margin, annual sales
volume or annual consumption value.
The graph below shows how ABC analysis conforms with the
Pareto Principle. You can see that 20% of the annual sales
volume comes from a small number of A category items, while a
large number of B, C and D items make up the remaining 20%
 Cost of Inventory
Four basic costs are associated with inventories: purchase, holding,
ordering, and shortage costs.

Holding costs;
Setup costs
Ordering costs; and
Shortage costs.

.
Order quantity models

There are three order size models are used commonly here:

1. The basic economic order quantity model.

2. The economic production quantity model.

3. The quantity discount model

 Economic Order Quantity Model
Assumptions:
1. Production is instantaneous. There is no capacity constraint and
the entire lot is produced simultaneously.
2. Delivery is immediate. There is no time lag between production
and availability to satisfy demand.
3. Demand is deterministic. There is no uncertainty about the
quantity or timing of demand.
4. Demand is constant over time. In fact, it can be represented as a
straight line, so that if annual demand is 365 units this translates into
a daily demand of one unit.
5. Products can be analyzed singly. Either there is only a single
product or conditions exist that ensure reparability of products.
Inventory versus time in the EOQ model

The inventory cycle: profile of inventory level over time

 Cont.

Average inventory level and number of orders per year are inversely
related: As one increases, the other decreases
Annual carrying cost :is computed by multiplying the average
amount of inventory on hand by the cost to carry one unit for one
year. symbol H to represent the average annual carrying cost per
unit, the total annual carrying cost is
 Annual ordering cost:
Annual ordering cost will decrease as order size increases
because, for a given annual demand, the larger the order size, the
fewer the number of orders needed.
Annual ordering cost is a function of the number of orders per
year and the ordering cost per order:

Because the number of orders per year, D/Q, decreases as Q

increases, annual ordering cost is inversely related to order size,
 Cont.
The total annual cost (TC) associated with carrying and ordering
inventory when Q units are ordered each time is

An expression for the optimal order quantity, Q 0 , can be obtained

using calculus. The result is the formula
Cost Trade-Offs in Determining Inventory Levels
Example:
1. 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.
a. What is the EOQ?
b. How many times per year does the store reorder?
c. What is the length of an order cycle?
d. What is the total annual cost if the EOQ quantity is ordered?
Solution
Reading Assignment:
1. The economic production quantity model.
2. The quantity discount model.
 Quiz One
1. Write at lease four aim of material management.
2. Calculate from the following given data :
Annual consumption 6,000 units
Cost of ordering 60 birr
Carrying costs 2 birr per unit per year
a. What is the EOQ ?
b. How many times per year does the store reorder?
c. What is the total annual cost if the EOQ quantity is ordered?