Inventory Analysis
Client Problem
Our client, a distributor of materials handling equipment, was considering a contract to maintain the materials and supplies inventory and the spare parts inventory for two plants of a large North American mining concern. The client would be responsible for the complete inventory investment including purchase price, holding costs, and order costs for more than 12,000 items with an average working stock investment of more than $3 million. To adequately prepare a bid (and indeed determine if it even wished to bid on this opportunity), our client needed an analysis of the inventory stores of the mining operations.
What We Did
Data on the current inventory stores for the two plants were provided to us. We began by developing a Pareto classification (ABC analysis) of the inventory then held by the mining company. This analysis was needed to evaluate the total transaction costs that our client would incur if it should take on the project and the potential return that it would receive on its investment in working stock and holding costs. We then conducted a standard, deterministic economic order quantity (EOQ) analysis to calculate the EOQ, average inventory quantity and cost, annual order cost, and annual holding cost for each item. We also conducted a probabilistic inventory analysis which considered safety stocks necessary to maintain a desired service level (protection against stockouts).
Results
The ABC analysis of the inventory stores revealed that the mining concern maintained a significant store of items that had not issued at all during the prior two years. Approximately 40 percent, or more than $1.3 million worth of inventory, went unused meaning that our client would have had to maintain a significant investment in inventory that had little, if any, turnover (and therefore little profit potential). The high service level requested (95 percent) imputed such a high shortage cost to some items that the safety stock investment required would have been several times the working stock investment. The inventory analysis we provided to our client allowed it to prepare a pro-forma cash flow forecast for use in its bid.
Our client, a distributor of materials handling equipment, was considering a contract to maintain the materials and supplies inventory and the spare parts inventory for two plants of a large North American mining concern. The client would be responsible for the complete inventory investment including purchase price, holding costs, and order costs for more than 12,000 items with an average working stock investment of more than $3 million. To adequately prepare a bid (and indeed determine if it even wished to bid on this opportunity), our client needed an analysis of the inventory stores of the mining operations.
What We Did
Data on the current inventory stores for the two plants were provided to us. We began by developing a Pareto classification (ABC analysis) of the inventory then held by the mining company. This analysis was needed to evaluate the total transaction costs that our client would incur if it should take on the project and the potential return that it would receive on its investment in working stock and holding costs. We then conducted a standard, deterministic economic order quantity (EOQ) analysis to calculate the EOQ, average inventory quantity and cost, annual order cost, and annual holding cost for each item. We also conducted a probabilistic inventory analysis which considered safety stocks necessary to maintain a desired service level (protection against stockouts).
Results
The ABC analysis of the inventory stores revealed that the mining concern maintained a significant store of items that had not issued at all during the prior two years. Approximately 40 percent, or more than $1.3 million worth of inventory, went unused meaning that our client would have had to maintain a significant investment in inventory that had little, if any, turnover (and therefore little profit potential). The high service level requested (95 percent) imputed such a high shortage cost to some items that the safety stock investment required would have been several times the working stock investment. The inventory analysis we provided to our client allowed it to prepare a pro-forma cash flow forecast for use in its bid.