Statistical Inventory Control (SIC).
Inventory optimization model or Inventory management technique
Statistical inventory control (SIC) is an inventory management tool which helps in inventory control.SIC is based on statistics (Statistics collected in past) like daily consumption, lead time to replenish inventory, fluctuation in demand etc. In this inventory optimization model ,certain inventory levels are decided based on the statistics which are used to take the decision like when to replenish the inventory, How much quantity to replenish etc. Using SIC Model, we can deal with stock-outs, excess inventory etc. which in turn optimizes inventory cost.
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Terminology Used in Statistical Inventory Control (SIC)
Safety Stock- This is an inventory stock (which is other than a regular requirement of inventory),intentionally hold to cater the unexpected demands and to avoid the stock outs.This is a minimum inventory which you should always have to act as a cushion.
Daily Demand or Consumption - One should know what is the average daily consumption for better planning. How this is used in SIC is explained later.
Lead Time - When you place the order, the time required till you receive a material in your custody is called as lead time. It includes the time required for administrative work, Production at the supplier side, Transportation of material etc.
Reorder Point -This is an Inventory level, which acts as the trigger to place a new order for replenishment of inventory. A new order is placed once current inventory level drops below reorder point.It is calculated based on statistical data which is explained later.
Maximum Inventory - It is maximum inventory level (including safety stock) which is allowed at any point of time. This also plays role in inventory cost optimization.
The scenario used here is for conceptual understanding. Practically, there could be a variation in demand or consumption which will cause a variation in order quantity and the timespan between orders placements.
Assume a scenario where you require a washer for the production of particular assembly and its related data is given below.
Safety Stock - 2,000 Nos.
Average daily Consumption - 1,000 Nos.
Lead Time - 4 Days
Now inventory which will be consumed during lead time is
= Average daily Consumption X Lead Time
= 1,000 X 4 = 4,000 Nos.
So if we add a safety stock which should be always there to inventory which will be consumed during a lead time, then we will come to know about inventory level of reorder point.
Reorder point = Safety Stock + Consumption during lead time.
Reorder point = 2,000+4,000 = 6,000 Nos.
In other words, we should place an order at inventory level (Which is Reorder Point) which is sufficient to cater demand till next arrival of stock.(Keeping in mind that Safety stock should be always there)
So we should place a new order when we have 6,000 Nos. of washers in stock.
Now it is clear that when we should place a new order. I know you might be thinking that how much quantity we should order.
To begin with let’s understand Maximum inventory level.The maximum inventory also includes Safety Stock. (Let’s Assume Maximum allowed inventory level is 12,000 Nos.)
So, Safety Stock + Χ inventory = Maximum inventory level,
Here X inventory which is also called as EOQ (Economic order quantity) which is an order quantity resulted after balancing Order Placement Cost (Administrative, Transportation.etc) and Inventory Carrying Cost.
Now let’s put these inventory levels in the Graph.
•Safety Stock = 2,000 Nos. •Reorder point= 6,000 Nos •Maximum Inventory = 12,000 Nos.
Now Assume on day one, an Inventory is at maximum level i.e. 12,000 Nos. As per daily consumption which is 1,000 Nos. stock will be 6,000 Nos (Which is a Reorder Point) on the 6th day[12,000-(1,000 X 6)]. So as per definition on Reorder point, the new order should be placed at the end of the 6th day.
On 10th Day, inventory level will be dropped further by 4,000 Nos which will be consumed during lead time (4 Days Lead Time X 1,000 Nos. Daily Consumption).So, on 10th-day inventory level will be 2,000 Nos (12,000-6,000-4000).Also, the material will arrive on the 10th day as the order was placed on the 6th day and lead time is 4 days,So inventory level will go to maximum level (12,000 Nos) again.
You can Watch out Video for better understanding.
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