Aggregation safety inventory

P Disaggregate Safety Inventory Aggregate Safety Inventory... 

Example 12-9 and the previous discussion highlight instances in which physical aggregation of inventory at one location may not be optimal. However, aggregating safety inventory has clear benefits. We now discuss various methods by which a supply chain can extract the benefits of aggregation without having to physically centralize all inventories in one location. 

Next, we discuss how aggregation can help reduce the amount of safety inventory in the supply chain. 

Our goal is to understand how aggregation in each of these cases affects forecast accuracy and safety inventories. Consider k regions, with demand in each region normally distributed with the following characteristics ... 

There are two ways to serve demand in the A regions. One is to have local inventories in each region and the other is to aggregate all inventories into one centralized facility. Our goal is to compare safety inventories in the two cases. With a replenishment lead time of L and a desired cycle service level CSL, the total safety inventory in the decentralized case is (using Equation 12.5) ... 

The safety inventory savings on aggregation increase with the desired cycle service level CSL. 

TABLE 12-3 Safety Inventory in the Disaggregate and Aggregate Options ... 

For a CSL of 0.95, safety inventory required for the aggregate option (using Equation 12.16) is given as... 

Retailers such as Gap also use information centralization effectively. If a store does not have the size or color that a customer wants, store employees can use their information system to inform the customer of the closest store with the product in inventory. Customers can then either go to this store or have the product delivered to their house. Gap thus uses information centtal-ization to virtually aggregate inventory across all retail stores even though the inventory is physically separated. This allows Gap to reduce the amount of safety inventory it carries while providing a high level of product availability. 

Another important factor that must be considered when making stocking decisions is the reduction in safety inventory that results from aggregation. If aggregation reduces the required safety inventory for a product by a large amount, it is better to carry the product in one central location. If aggregation reduces the required safety inventory for a product by a small amount, it may be best to carry the product in multiple decentralized locations to reduce response time and transportation cost. 

In both cases, exploiting substitution allows the supply chain to satisfy demand using aggregate inventories, which permits the supply chain to reduce safety inventories without hurting product availability. In general, given two products or components, substitution may be oneway (i.e., only one of the products [components] substitutes for the other) or two-way (i.e., either product [component] substitutes for the other). We briefly discuss one-way substitution in the context of manufacturer-driven substitution and two-way substitution in the context of customer-driven substitution. 

Substitution allows the server manufacturer to aggregate danand across the components, reducing safety inventories required. The value of substitution increases as demand uncertainty increases. Thus, the manufacturer should consider substitution for components displaying high demand uncertainty. 

Without component commonality and postponement, product differentiation occurs early on in the supply chain, and most of the supply chain inventories are disaggregate. Postponement allows the supply chain to delay product differentiation. As a result, most of the inventories in the supply chain are aggregate. Postponement thus allows a supply chain to exploit aggregation to reduce safety inventories without hurting product availability. We illustrate the benefits of postponement in Example 12-12 (see worksheet Example 12-12). A more nuanced discussion of the value of postponement is given in Chapter 13. 

Now, consider the option whereby mixing is postponed until after the customer orders. Safety inventory is held in the form of base paint, whose demand is an aggregate of demand of the 100 colors. Because demand in all 100 colors is independent, p = 0. Using Equation 12.15, the standard deviation of aggregate weekly demand of base paint is... 

INVENTORY AGGREGATION Firms can significantly reduce the safety inventory they require... 

Low demand Aggregate aii inventories, if needed, use fast mode of transportation for fiiiing customer orders. Aggregate oniy safety inventory. Use inexpensive mode of transportation for repienishing cycie inventory. 

However, if we prioritize access to capacity for product 1 (which has a higher variability), then the new lead times, using the formulas provided earlier, would be Z, = 1.12 and L2 = 4.03 days. With these lead times, notice that the corresponding safety stock for the first product would be 272.55 units (which decreases from the earlier case), while the safety stock for the second product would be 103.15 units (which increases from the earlier case). Note that the total inventory across both products is now 375.72 units. This decrease in inventory reflects the benefit of tailoring access to the supply chain based on product demand characteristics. Notice that giving priority to the more variable product permits its lead time to decrease, thus decreasing the safety stock for that product. But clearly this comes at a cost to the less variable product, whose lead time increases but at a slower rate. Thus, we have traded off lead time customization for an aggregate decrease in the overall inventory. 

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