Question

Novelty Gifts, Inc. is experiencing some inventory control problems. The manager, Wanda LaRue, currently orders 5,000 units four times each year to handle annual demand of 20,000 units. Each order costs $15 and each unit costs $1.50 to carry. Ms. LaRue maintains a safety stock of 200 units.

A) What is Novelty Gifts' current total annual inventory cost?

B) Calculate the economic ordering quantity (EOQ).

C) What is average inventory under EOQ if Ms. LaRue maintains a safety stock of 200 units?

D) Calculate total annual inventory cost under EOQ.

Answer 1

A) What is Novelty Gifts' current total annual inventory cost?

• Average inventory level = Q/2 = 5,000/2 = 2500 units + 200 units = 2,700 units
• Number of orders placed per year (N) = D/ Q = 20,000/5,000 = 4 orders
• Annual inventory holding cost = (Q/ 2) x H = (2,700)(1.5) = $4,050
• Total annual ordering cost = (D/Q) (S) = (4)(15) = $60
• Total annual cost = $4,050 + $60 = $4,110

B) Calculate the economic ordering quantity (EOQ).

, where

D = 20,000

S = 15

H = 1.5           

Hence, EOQ = 632 units

C) What is average inventory under EOQ if Ms LaRue maintains a safety stock of 200 units?

Average inventory level = 632/2 + 200 = 516 units

D) Calculate total annual inventory cost under EOQ.

• Average inventory level = Q/ 2 = 632/2 = 316 units + 200 units = 516 units
• Number of orders placed per year (N) = D/ Q = 20,000/5,000 = 32 orders
• Annual inventory holding cost = (Q/ 2) x H = (516)(1.5) = $774
• Total annual ordering cost = (D/Q)(S) = (32)(15) = $480

E) Total annual cost = $774+ $480 = $1,254