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ADM 3301 Lecture Notes - Lecture 20: Lead Time, Fixed Cost, Carrying Cost

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School
University of Ottawa
Department
Administration
Course
ADM 3301
Professor
Davood Astaraky

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Document Summary

D = annual demand, in units, for the inventory item s = ordering cost per order. H = carrying (or holding) cost per unit per year. P = purchase cost per unit of the inventory item d = average daily demand. Carry cost (h) can be expressed as either (1) a fixed cost, such as h = sh. 50 per unit per year (2) a percentage (typically i) of the item"s purchase cost, (p) h=ixp. Total ordering cost = (no. of orders placed per year) x (order cost per order) = (d/q) x s. Total holding cost = (average inventory level) x (holding cost per unit per year) = (q/2) x h. > total cost = total ordering cost + total carrying cost + total purchase cost. Note:(q/2) is the average inventory level, purchase cost does not depend on q. Recall that at the optimal order quantity (q*):

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Related Questions

Sharon Ltd has in the past ordered rawmaterial T in quantities of 3,000 units which is half a yearҀ™ssupply. Management has instructed you, an inventory costconsultant, to advise them as to the most desired order quantities.The factory closes for 4 weeks annual leave per annum.

You are given the following data:

Inventory usage rate: 125 per week, Lead time: 3 weeks

Unit price: $1.50, Annual requirement: 6,000 units

Order cost: $9.00 per order, Carrying cost: $0.30 per unit peryear Required:

Calculate the economic order quantity.

Calculate the reorder point.

How much would the company save by using this new method?(Assume the order point calculated in part b is used)

Solution:

For Requirement (a) formula is alreadyprovided in lecture slide.

For Requirement (b): Re-Order point =Lead time usage (No of weeks * Usage per week) For Requirement (c):Savings per year by ordering at EOQ (= Existing policy Ҁ“ EOQpolicy) Existing policy = Cost of ordering + Cost of holding +safety stock

Cost of ordering = No of orders perannum * Cost of an order

Cost of holding = Average Inventory *Carrying cost per unit per annum Safety Stock = Usage per week *Lead Time * Carrying cost

EOQ policy = Cost of ordering + Costof holding + Safety stock

For Requirement (c): Savings per yearby ordering at EOQ (= Existing policy Ҁ“ EOQ policy)

Ottis, Inc., uses 640,000 plastic housing units each year in its production of paper shredders. The cost of placing an order is $30. The cost of holding one unit of inventory for one year is $15.00. Currently, Ottis places 160 orders of 4,000 plastic housing units per year. 1. Compute the annual ordering cost. 2. Compute the annual carrying cost. 3. Compute the cost of Ottis's current inventory policy. Is this the minimum cost? Why or why not? 4. Compute the economic order quantity. 5. Comoute the ordering, carrying, and total costs for the EOQ. 6. How much money does the EOQ policy save the compnay over the policy of purchasing 4000 plastic housing units per order?

Effect of management evaluation criteria on EOQ model. Computers4 U purchases one model of computer at a wholesale cost of $200 perunit and resells it to end consumers. The annual demand for thecompanyÒ??s product is 500,000 units. Ordering costs are $800 perorder and carrying costs are $50 per computer, including $20 in theopportunity cost of holding inventory.
Required
1. Compute the optimal order quantity using the EOQ model.
2. Compute a) the number of orders per year and b) the annualrelevant total cost of ordering and carrying inventory.
3. Assume that when evaluating the manager, the company excludesthe opportunity cost of carrying inventory. If the manager makesthe EOQ decision excluding the opportunity cost of carryinginventory, the relevant carrying cost would be $30 not $50. Howwould this affect the EOQ amount and the actual annual relevantcost of ordering and carrying inventory?
4. What is the cost impact on the company of excluding theopportunity cost of carrying inventory when making EOQ decisions?Why do you think the company currently excludes the opportunitycosts of carrying inventory when evaluating the managerÒ??sperformance? What could the company do to encourage the manager tomake decisions more congruent with the goal of reducing totalinventory costs?