Page 391 - Orlicky's Material Requirements Planning

370 PART 4 Looking Backward and Forward

change in carrying cost and lot-size inventory no longer exists owing to the interrela-
tionship of the parts.
Inventory carrying cost continues to figure in the determination of lot sizes where
warranted by the economics of ordering, but other factors (see Chapter 8) exert a more
direct influence on the lot size, which usually varies from order to order. Changes in lot
sizes and in lot-size inventory therefore cannot be predetermined quantitatively on the
basis of a change in carrying cost alone.
The other policy variable used in conventional aggregate inventory management is
the service level, which enters into the traditional calculation of safety stock. In a stock
replenishment system environment, the quantity of safety stock for end items is comput-
ed individually for each item in the inventory, and its principal determinant is the stan-
dard deviation of past demands per period from their arithmetic mean. A normal distri-
bution of these demands being assumed, a desired service level, that is, incidence of item
availability, determines the number of deviations represented by the safety stock.
Historically, it was believed that the higher the service level desired, the higher was the
safety stock, and vice versa. The investment in this inventory category therefore can be
controlled by manipulating the service-level value. The principle has been invalidated by
more recent developments such as actively synchronized replenishment (ASR), which
reduces inventory while at the same time increasing customer service levels. In any case,
this statistical safety-stock technique tends to become irrelevant because safety stock is
normally not planned at the component item level in an MRP system.

ABC Inventory Classification
2
ABC inventory classification is a popular inventory control technique that is an adapta-
tion of Pareto’s law. In a study of the distribution of wealth and income in Italy, Vilfredo
Pareto observed in 1897 that a very large percentage of the total national income was con-
centrated in a small percentage of the population. Believing that this reflected a univer-
sal principle, he formulated the axiom that the significant items in a given group nor-
mally constitute a small portion of the total items in the group and that the majority of
items in the total will, in the aggregate, be of minor significance. Pareto expressed this
empirical relationship mathematically, but the rough pattern is 80 percent of the distrib-
ution being accounted for by 20 percent of the group membership.
The 80-20 pattern holds in most inventories, where it can be shown that approximately
20 percent of the items account for 80 percent of total cost (unit cost times usage quanti-
ty). In the typical ABC classification, these are designated as A items, and the remaining
80 percent of the items become B’s and C’s, representing the middle 30 percent that
account for 15 percent of cost and the bottom 50 percent that account for 5 percent of cost,
respectively.

2 Introduced by H. Ford Dickie in “ABC Inventory Analysis Shoots for Dollars,” Factory Management and
Maintenance, July 1951.