A reorder level is set that allows inventory to be drawn down to the buffer stock level within the lead time if average usage rates are experienced. Replenishment orders are placed in a fixed predetermined amount that is timed to be received at the end of the supply lead time.
The parameters that define a fixed reorder quantity system are Q, the fixed amount ordered at one time, and the reorder point, ROP.
Fixed reorder quantity systems are common where a perpetual inventory record is kept or where the inventory level is under sufficiently close surveillance so that notice can be given when the recorder point has been reached. One of the simplest methods for maintaining this close watch on inventory level is the use of the “two-bin” system. In this system, the inventory is physically or conceptually separated into two bins, one of which contains an amount equal to the reorder inventory level, ROP. The balance of the stock on hand is placed in the order bin and day-to-day needs are drawn from it until it is empty. At this point, it is obvious that the reorder level has been reached, and a stock requisition is issued. Then stock is drawn from the second bin, which contains an amount equal to the average used during the lead time plus a buffer stock. The stock is replenished when the order is received, the separation into two bins is made again and the cycle is repeated. This system is simple for a clerk to understand; however, it requires continuous monitoring of inventory levels.
Periodic Reorder System:
A common alternative system of control fixes the reorder cycle instead of the reorder quantity. In such systems, the inventory status is reviewed on a periodic basis, and an order is placed for an amount that will replenish inventories to a planned maximum level. The reorder quantity therefore varies from one review period to the next.
An economic reorder cycle can be approximated by computing EOQ; the economic reorder cycle would then be EOQ / R, where R is the annual requirement. For example, if EOQ = 7500 units and annual requirements are R = 100,000 units, then the economic cycle would be 7500 / 100,000 = 0.075 years, or 3.9 weeks. This would probably be rounded to 4 weeks.
The periodic reorder system has some advantages in production cycling, where high value items require close control, in the control of items that may deteriorate with time, and where a number of items can be ordered from the same supplier. In the latter situation, it may be possible to gain shipping cost advantages by grouping orders normally sent to a common supplier. In addition, the periodic system makes operating efficiencies possible by reviewing the status of all items at the same time. Because of these advantages, the review cycle is commonly set by considerations other than just the individual item economic reorder cycle.
Perhaps the single most important advantage of the periodic reorder system is that the periodic review of inventory and usage levels provides the basis for adjustments to take account of demand changes. This is particularly advantageous with seasonal items. If demand increases, order sizes increase; if demand decreases, order sizes decrease. The main disadvantage of this system is that inventory holding costs are usually higher than those associated with the continuous review system.
Optional Replenishment System:
Control systems that combine regular review cycles and order points are also encountered in practice. In such systems, stock levels are reviewed on a periodic basis, but orders are placed only when inventories have fallen to a predetermined reorder level. At that time, an order is placed to replenish inventories to the level that is sufficient for buffer stocks plus the expected requirements for one cycle, as in the periodic system.
Such systems combine the advantages of periodic review systems and order point systems. These have the lowest total costs; however; the determination of three decision variables is quite difficult.