UNIT IV

MATERIAL PLANNING

Material planning is the process of figuring out what and how much is needed in order to
produce goods within a specified timeframe, and ensuring the timely delivery of those materials.
There are many factors, which influence the activity of material planning. These factors can be
classified as macro and micro-systems.

1. Macro factors: Some of the micro factors which affect material planning are price trends,
business cycles Govt. import policy, etc.

2. Micro factors: Some of the micro factors that affect material planning are plant capacity
utilization, rejection rates, lead times, inventory levels, working capital, the delegation of powers
and communication.

TECHNIQUES USED IN MATERIALS PLANNING:

1. Bill of Materials (BOM) Explosion

Definition: This technique involves breaking down the end product into its individual
components and sub-components.

Process: By using a BOM, planners can determine the exact quantities of each material required
to produce the final product. This helps in accurate forecasting and procurement.

Tools: Explosion charts.

An explosion chart is just a series of bills of materials grouped together in a matrix form
so that combining the requirements for different components can be done. Materials planning are
usually made for a short period on a quarterly basis and at the beginning of every quarter; it is
quite natural to find that some materials are in short supply and some in excess. This can be
ascribed to the wrong forecasting.
To rectify such errors in the estimation of materials, quarterly planning is resorted to. In
engineering industries, even quarterly planning seems to be too long and realistic order is placed
with the suppliers.

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 Fig.: Explosion charts
2. Past Consumption Analysis

 Definition: This technique relies on historical data to predict future material

requirements.

 Process: By analyzing past consumption patterns, planners can estimate future needs.
This is particularly useful for materials that are consumed regularly and do not have a
BOM.

 Tools: Statistical methods like moving averages and standard deviation are often used

3. Forecasting Techniques

 Moving Averages: This method smooths out short-term fluctuations and highlights
longer-term trends by averaging past data points.

 Exponential Smoothing: This technique gives more weight to recent data, making it
more responsive to changes.

 Time Series Analysis: This involves analyzing data points collected or recorded at
specific time intervals to identify trends, cycles, and seasonal variations

4. Material Requirements Planning (MRP)

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  Definition: MRP is a system for calculating the materials and components needed to
manufacture a product.

 Process: It uses the BOM, inventory data, and the master production schedule to ensure
materials are available for production and products are available for delivery.

 Tools: MRP software systems are commonly used to automate and optimize this process

5. Just-In-Time (JIT) Inventory

 Definition: JIT aims to reduce inventory costs by receiving goods only as they are
needed in the production process.

 Process: This requires precise demand forecasting and strong supplier relationships to
ensure timely delivery.

 Benefits: Reduces waste and increases efficiency by minimizing inventory holding costs

6. ECONOMIC ORDER QUANTITY (EOQ)

The economic order quantity (EOQ) refers to the ideal order quantity a company should
purchase in order to minimize its inventory costs, such as holding costs, shortage costs, and
order costs. Economic order quantity is necessarily used in inventory management, which is the
oversight of the ordering, storing, and use of a company's inventory. Inventory management is
tasked with calculating the number of units a company should add to its inventory with each
batch order to reduce the total costs of its inventory.

Formula for Economic Order Quantity

The formula for Economic Order Quantity is:

EOQ = √2×S×D/H

Where:

S=Setup costs (per order, generally including shipping and handling)

D=Demand rate (quantity sold per year)

H = Annual holding cost per unit

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Example of Economic Order Quantity
EOQ considers the timing of reordering, the cost incurred to place an order, and the
costs to store merchandise. If a company is constantly placing small orders to maintain a
specific inventory level, the ordering costs are higher, along with the need for additional storage
space.

For example, consider a retail clothing shop that carries a line of men’s shirts. The shop
sells 1,000 shirts each year. It costs the company Rs.5 per year to hold a single shirt in
inventory, and the fixed cost to place an order is Rs.2.

The EOQ formula is the square root of (2 x 1,000 shirts x Rs.2 order cost) / (Rs.5
holding cost), or 28.3 with rounding. The ideal order size to minimize costs and meet customer
demand is slightly more than 28 shirts.

INVENTORY CONTROL

Meaning
Inventory control is a process of ensuring that a business maintains the adequate quantity
of stock to meet the forecasted demand with minimum holding cost.

Importance

1. Cost Reduction

Inventory control allows businesses to minimize unnecessary holding costs. When you
have excess inventory sitting on your shelves, you tie up capital that could be invested
elsewhere. On the flip side, inadequate inventory can lead to missed sales opportunities, rush
orders, and expedited shipping costs. Striking the right balance through inventory control reduces
carrying costs and improves your bottom line.

2. Customer Satisfaction

Meeting customer demand is a fundamental aspect of any business. When you have a
well-managed inventory system, you can consistently fulfill orders promptly. Timely deliveries
lead to satisfied customers who are more likely to become repeat buyers and recommend your
business to others. This applies to any business, whether you’re offering essay writing service or

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books, or something similar. Inventory control helps you maintain a positive reputation and build
brand loyalty.

3. Effective Planning

Effective inventory management provides valuable data and insights that can be used for
future planning and decision-making. It goes beyond day-to-day operations; and serves as a
strategic tool for long-term planning and growth. By analyzing inventory data, businesses can
identify trends, forecast demand, and make informed decisions about which products may need
promotion or discounting. This strategic approach to inventory control enables companies to stay
competitive in a constantly evolving market.

4. Risk Mitigation

Market conditions are unpredictable. Unexpected events such as economic downturns,

supplier disruptions, or natural disasters can disrupt the supply chain. By having a well-
established inventory management system, you can better prepare for such situations and reduce
the impact on your business. It acts as a buffer, helping you weather the storms that may arise.

5. Space Optimization

Warehousing space is valuable real estate for any business that manages physical
products. Efficient inventory control ensures that your storage space is used optimally. You can
avoid cluttered, disorganized warehouses and make room for new products or expansion. This
streamlining contributes to a more productive workspace.

6. Enhanced Data Accuracy

Inventory control systems offer more accurate tracking of your stock levels. This
minimizes errors such as overstocking, under stocking, or misplaced items. Accuracy in data
entry and tracking leads to better decision-making and a more efficient overall operation. Proper
inventory control is essential for precise financial reporting and compliance. Conversely, poor
inventory control can result in under or overstocking, both of which can harm the customer
experience and the company’s reputation.

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7. Improved Cash Flow

In today’s competitive business landscape, efficient inventory control is not just a best
practice; it is a necessity. Inventory control ensures that a company maintains the optimal level
of stock to meet customer demand. A well-managed inventory system ensures that you allocate
your financial resources effectively. Companies that prioritize inventory control can achieve a
competitive edge, ensuring their long-term success and profitability. By not tying up excessive
capital in unsold stock, you have more liquidity to invest in other areas of your business, whether
it’s marketing, research and development, or new opportunities.

In conclusion, inventory control is the cornerstone of a successful business.

TOOLS OF INVENTORY CONTROL

1. A-B-C Analysis

A-B-C analysis is a basic analytical management tool, which enables any store
managers to expand his effects and energy where the results will be the best. This analysis is
purely based on Selective Management Principle or Pareto's Law. It is also popularly known
as "Always Better Control" or the alphabetical approach, has universal application in many
areas of human endeavour. A-B-C analysis does not depend on the unit cost of the items but
only on its animal usage and not on their importance because all items are important. Analysts
commonly classify inventory into three categories 'A', 'B', and ‘ C ’ . The ‘ A ’ items have a
high annual usage in terms of money investment. 'B' items are average, while ‘C’ items have a
low value of usage. Every item in inventory is ranked and listed in order of items annual value of
usage. At the top of the list would be the high value items, followed by a longer list of medium
value items and finally a long list of low value items. The dividing line between classes of items
is arbitrary. The normal items in most organizations show the following pattern:

1) 10 per cent to I5 per cent of the top number of items account for a b o u t 70 per cent of
the total consumption value. These items are called ‘A’ items.

2) 20 per cent to 25 per cent of the number of items account for 20 per cent of the total
consumption value. These items are called 'B' items.

3) The remaining 65 per cent to 70 per cent of items account for the balance 10 per cent of
the total issue value. These items are called ‘C’ items.

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 It is evident that controlling the small number of items amounting to 0 per cent of the
total number of items will result in the control of 70 per cent of the monetary value of the
inventory held and ordered.

Hence, the main aim of this technique is to distinguish those items that have the most
bearing on the inventory costs, so that management can concentrate efforts on those items that
promise the highest possible pay offs in terms of savings. Thus, with A-B-C analysis more
attention can be paid to few high value items rather than low value ones.

Mechanics of A-B-C Analysis

The mechanics of classifying the items into 'A', 'B' and 'C' categories is described in
the following steps :

1) Calculate rupee annual issues for each item in inventory by multiplying the unit cost by the
number of units issued in a year. It is assumed that the issues and consumption are the same.

2) Sort all items by rupee annual issues in descending sequence .

3) Prepare a list from these ranked items showing item no., unit cost, annual units issued and
annual rupee value of units issued.

4) Starting at the top of the list, compute a running total, item-by-item issue value and the rupee
consumption value i.e. cumulative cost of the items.

5) Compute and print f o r each item the cumulative percentages for the item count and
cumulative annual issue value.

Short Cut Method to the A-B-C Analysis

Compute the average usage value and multiply it by 2.25 to get the dividing line
between classes 'A' and 'B'. The dividing line between class 'B' and class 'C' is taken as half the
average usage value.

The average usage value can be obtained by dividing the total number of items by the
total usage value per year (or month or week, depending on inventory practices). This data is
available with the accounts department. This quick and rough method may have to be adjusted
in the light of experience, or when a sample analysis or a complete analysis is made later.
However, it will provide a reference value to start with.

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Graphical Methods of A-B-C A na lysis

Other than this mathematical analysis, A-B-C classification of stores items can be done
by a graphical representation also.

A graph on cumulative value against the number of items arranged in the descending order list
prepared to visually see the A-B-C categories. Instead of doing A-B-C analysis, as discussed
earlier, many drug stores classify items by this graphical representation which is to be done
purely on the visual assumption of the interpreter. Here as it is shown in the graph the vertical
lines are drawn on the curve of the graph where it is showing the steep bends (as it is shown in
Fig. 1). From this graphical analysis we classify the items (arranged in the serial order in the X-
axis of the graph) into A category, B category, and C category of A-B-C analysis.

Fig 1: Graphical Methods of A-B-C A na lysis

The above graph states that the items in category ‘A’ cover a small portion based on the
number of units in the inventory but constitute a significant portion of the inventory value. The
items in category 'B' have a moderate contribution to quantity and inventory value. The items in
category 'C' cover a significant portion of the inventory in quantity but have a tiny contribution
to inventory value.

Hence, you must remember the basic principles in A-B-C analysis are:

i) the analysis does not depend upon the unit cost of the items but only on its annual
consumption value;

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ii) it does not depend on the importance of the item; and

iii) the limits for A-B-C categorization are not uniform but will depend upon the size of the
undertaking, its inventory as well as number of items controlled.

Purpose of A-B-C Analysis

The object of carrying out A-B-C analysis is to develop policy guidelines for s e l e c t i v e
control.

Normally, once A-B-C analysis has been done, the following broad policy guidelines
can be established in respect of each category (Table 1)

Table 1: Broad Policy Guidelines for the Control of Items as Per A-B-C Classification

Sl. A Items B Items C Items

No. High consumption value Moderate value Low consumption value
1) Very strict control Moderate control Loose control
2) No safety stocks (or very Low safety stocks High safety stocks
low)
3) Frequent ordering or Once in. three months Bulk ordering once in 'six
weekly deliveries months
4) Weekly control Monthly control Quarterly control reports
statements reports
Maximum follow-up and Periodic follow-up Follow-up and in exceptional
5) expediting cases expediting
6) Rigorous value analysis Moderate value analysis Minimum value analysis
7) As many sources as Two or more reliable Two reliable sources for
possible for each item sources each item
8) Accurate forecasts in materials planning Estimates based on past
9 Minimization of waste, Quarterly control over Annual review ova
obsolete and surplus surplus and obsolete surplus and obsolete
(review every 15 days) items material
10 Individual postings Small group postings Group postings
2. V-E-D Analysis

The limitation of A-B-C analysis is that it is based only on monetary value and the rate of
consumption of the items. Sometimes, particularly in a hospital, an item of low monetary value
and consumption (e.g. Injection Adrenaline, Anti-Snake Venom etc.,) may be very vital or even
life saving. Their importance cannot be overlooked simple because they do not appear in A

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category of inventory. Therefore, another parameter of the materials is their criticality. This
could be in terms of the therapeutic value of a drug or intrinsic value of the material in achieving
the objectives of hospital system. V-E-D analysis is based on critical values and shortage costs of
the item. Based on their criticality, the items could be classified into three categories -Vital,
Essential and Desirable.

Mechanics of V-E-D Analysis

V-E-D classification is applicable to a large extent in spare parts management. Stocking a

spare part is based on strategies different from those of raw materials. While the consumption of
raw materials depends directly and definitely on the market demand, the spare part demand, on
the other hand, depends on the performance of plant and machinery. Therefore, the method of
classification designed for one type of inventory may not be compatible with another type of
inventory. Statistically too, it has been noted that the demand for spares follows a Poisson
distribution. Spare parts are classified as vital, essential and desirable to the operation of the
equipment. This implies that 'V' class spares have to be stocked adequately to ensure continuity
in the operations of the plant. Vital spares can cause havoc and bring the wheels of the machines
to a grinding halt, if they are not available. Some risk can be taken in the case of 'E' class spares.
Stocking of desirables, 'D', can be done away with if the lead them for procurement is low. It is
important that this classification should be done with the assistance and concurrence of those
who are responsible for maintenance of stores. Hence for the management of the drug stores also
the same classification can be applied for the drug items. Applying the following principles can
do the classification of the drug items as per V-E-D analysis:

1) Vital items: There are several vital items in the inventory of a hospital, which could make
difference between life and death. There can be serious functional dislocation of patient
care when such items are not available even for short period adversely affecting the
image of the hospital. Such item should always be stocked in sufficient quantity to ensure
their constant availability. Top management should control this group of items.

2) Essential items: The shortage of such items can be tolerated for a short period. If these
items are not available for a few days or a week, functioning of the hospital can be
adversely affected (drugs like Antibiotics etc.). Top/middle level management ' should
preferably control these items.

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 3) Desirable item: The shortage of these items will not adversely affect the patient care or
hospital functional even if the shortage is prolonged (Items like vitamins). . Middle/lower
level management should control desirable items.

As against the cost criteria in A-B-C analysis he V-E-D analysis is based on subjective
analysis by a group of physicians. The group is required to sit together and decide/classify the
store items according to it are critically into vital, essential and desirable category. The criticality
of the item will be depending upon the objective and the functioning of the hospital in general
and the various service departments in specific. Hence, the V-E-D classification will vary from
hospital to hospital and even within the hospital, department to department.

Such an analysis enables the administrator to give more attention to vital and essential items.

3. X-Y-Z Classification

In contrary to A-B-C classification, which is based on value of annual consumption, X-

Y-Z classification is based on value of inventory available on a particular date in the store. This
classification is required to be done at least once in a year. X items are those items whose stock
value is high, while Z items are those whose stock values are low.

Understandably Y items fall between the two categories. This classification helps in
identifying the items, which are being extensively stocked. If this is not properly done in time
one may find C items in the X category. Therefore, controls should be developed for A-B-C
items in conjunction with X-Y-Z items.

As V-E-D classification is based on the criticality of the item, at times it can be used in
the case of some special materials, which are difficult to obtain. A combination of V-E-D and X-
Y-Z methods may give some indication about the items that should be disposed off so as to trim
the inventories.

Procedure to Carry out X-Y-Z Analysis

After annual stock-taking is over, arrange the closing stock values of items in descending
order, enter the respective cumulative values against each item; the descending number of item is
computed as a percentage of the total of all items in stores; the cut-off points are set depending
on the distribution.

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4. F-S-N Classification

The classification of the items is based on the consumption pattern or the movement of
the items from the store. Items are classified as fast moving, slow moving and non-moving based
on their consumption pattern. If there is rapid change in technology, this classification should be
updated more often.

F-S-N analysis is especially useful to control obsolescence, spillage and deterioration in

all kinds of items. Cut-off points for fast-, slow- and non-moving items usually depend on the
characteristics of the items, their value and utility for operations. For example, zero issues may
be placed in the non-moving class, as many as 10 issues in the past two years may be placed in
the slow-moving category, and more than 10 issues in the fast-moving category.

Combination or X-Y-Z and F-S-N Classification

The combination of X-Y-Z and F-S-N classification can be more successfully applied to
control the piling up of obsolete items. Disposal of obsolete items becomes important to prevent
building up of the inventory over the years. Organizations have to choose between obsolete items
as dead investment or prevent obsolescence by timely and appropriate control. The X-Y-Z and F-
S-N classification exercise (Table 2) will help in timely prevention of obsolescence.

Table 2: Combination of X-Y-Z and FS-N Classification for Control of Store Items

Classification F Items S Items N Items

X Items Impose tight inventory Reduce stock to low Dispose of items at the best
control level price
Y Items Apply normal inventory Keep low level of Dispose of as quickly as
control stock possible
Z Items Increase stocks to Keep low level of Dispose of even at low price
reduce clerical work stock

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