Order Point System
An order is placed when the quantity of an item in inventory falls to a predetermined level, that is the order point (OP). So, an order must be placed when there is enough stock on hand to satisfy demand during lead time.
Demand during lead time (DDLT): demand from the time the order is placed until the new stock arrives. This is the only time that stockout is possible!
DDLT varies from the average:
- Half the time demand is greater than the average = stockout
- Half the time demand is less than the average = extra stock/ safety stock (SS)
The formula for calculating the order point: OP = DDLT + SS
Two systems:
1. Q-Qmin system: fixed order size, usually calculated based on the EOQ
2. Min-max system: variable order size, usually calculated as the difference between the actual quantity available at the time of order and the maximum quantity
Periodic Review System
An order is placed based on the quantity of a particular item on hand, which is determined at specified, fixed-time intervals. So, the quantity on hand plus the quantity ordered must be sufficient to last until the next shipment is received.
Target level (maximum-level inventory): the demand during lead time plus the demand during the review period plus safety stock.
- The formula is: T = D (R + L) + SS
D = demand per unit of time
R = review-period duration
L = lead-time duration
SS = safety stock
Order quantity is the minimum inventory level (T) minus the quantity on hand at the review period (I)
The formula is: Q = T - I
Formula: safety stock = σ (service level) * safety factor
By multiplying the standard deviation (a measure of demand variability) by the safety factor (derived from the desired service level), the formula calculates the amount of extra stock needed to mitigate the risk of stockouts.
Describes how many sigma’s are needed for X service level
USE TABLE
For 84% service level the safety factor is 1, indicating the need for 1*sigma in safety stock
Normal distribution
A bell shaped curve, which is symmetrical about the mean
- Half the time demand is greater than average
- Half the time demand is less than average
Actual demand
- The actual demand will be within ± 1 sigma app. 68% of the time (34.1% x2)
- The actual demand will be within ± 2 sigma app. 95% of the time.
- The actual demand will be within ± 3 sigma app. 99% of the time.
Safety stock
Only needed when the actual demand is higher than the average
USE PERCENTAGES!
So, e.g. 34.1% of the time the demand will be higher than average, within 1 sigma
Service level
A measure of satisfying demand through inventory or by the current production schedule in time to satisfy the customers’ requested delivery dates and quantities
A safety stock of zero has a service level of 50%
If the safety stock is 1 sigma, there will be enough safety stock to provide protection for (able to deliver) 84% of the time (50% + 34%)
Contract management
The process that ensures all parties comply with a contract and fully meet their obligations
- Deciding on the right type of contract for the product, service or project
- Allow for specific arrangements on how to change the contract when circumstances change
Challenge in contracting: overcome opportunism (each contract partner primarily serves their own self-interest)
The three phases of contract management
- Pre-contractual stage
- Contractual stage
- Post-contractual stage
The pre-contractual stage
- Basic design and engineering: developing the technical specifications of the work
- Sending out the invitation to tender (tendering)
The contractual stage and contract execution
- Contract negotiation and closure: based on competitive bids, the buyer will preselect one or two contractors with whom they will negotiate. The parties will agree on the base price, and now contract negotiations can start. The result is a contract, which is the basis for future collaboration
- Detailed project engineering and planning: making budgets, determining materials and -volumes, hiring subcontractors, acquiring government permits etc.
- Subcontracting and procurement
- Project execution
- Testing and delivery
- Maintenance and guarantee period
The post-contractual stage
- Claims: settling claims from the buyer and/or sub(contractor)
Agency theory relative to contract management
“(…) the agency problem finds its origin in the risks that parties face when collaborating.”
After contracting, parties discover that they have different/opposing interest, goals and objectives. Then they experience asymmetry in terms of contribution to the collaboration
Methods to reduce the risks of agency problems
- Clear Contracts: Defining terms, responsibilities, and expectations to align interests.
- Monitoring and Incentives: Implementing performance measures and incentive structures to ensure agents act in the principal’s best interest.
- Mitigating Risks: Addressing potential conflicts and opportunistic behavior by agents through proper oversight and enforcement mechanisms.
