- Which of the two inventory management methods; Re-Order Point (continuous revi

Question

- Which of the two inventory management methods; Re-Order Point (continuous review) and Periodic Review, will in general have a lower average inventory at a given service level? Why?

- A bookshop estimates that the average demand for a popular notepad is 12,000 notepads per week with a standard deviation of 3000 notepads. The current inventory policy calls for replenishment orders of 156,000 notepads. The average lead-time from the distribution is 5 weeks with a standard deviation of 2 weeks. If management wants a 95 percent service level, what should the reorder point be?

Explanation / Answer

(1)

In periodic review, we have fixed the review period. We don't have direct control on the inventory build-up process there. On the other hand, for a continuous review method, we are supposed to place an order based on the reorder point i.e. the ordering is directly dependent on the inventory level and we will have the maximum inventory level equal to the order size plus the expected safety stock. So, in general, the continuous review process will give us lower average inventory level.

(2)

D = weekly demand = 12000
S = SD of weekly demand = 3000
Q = order size = 156000
L = average lead time = 5 weeks
S1 = SD of lead time = 2 weeks
Service level is 95% so, Z = NORMSINV(0.95) = 1.645

Safety Stock (SS) = Z x SLT

Where SLT = Std Deviation of lead time demand = (S2 x L + S12 x D2)1/2 = sqrt((3000^2)*5+(2*12000)^2) = 24920

So, SS = 1.645 x 24920 = 40990

Reorder point (ROP) = D x L + SS = 12000 x 5 + 40990 = 100990

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