Mini Case: 28- 8
d. What is the EOQ for custom microchips? What are total inventory costs if the
EOQ is ordered?
)S)(F(2
)000,5)(000,1($2
Note that the average inventory of custom microchips is 250 units, and that 10 orders
are placed per year. Also, at the EOQ level, total carrying costs equal total ordering
costs.
e. What is Webster’s added cost if it orders 400 units at a time rather than the
EOQ quantity? What if it orders 600 per order?
Answer: 400 units:
Note the following points:
At any order quantity other than EOQ = 500 units, total inventory costs are higher
than they need be.
The added cost of not ordering the EOQ amount is not large if the quantity
If the quantity ordered is greater than the EOQ, then total carrying costs increase,
but total ordering costs decrease. At Q = 600 units, carrying costs increase by
$2,000, but ordering costs fall by only $1,667, so the net result is an increase in
total costs.
f. Suppose it takes 2 weeks for Webster’s supplier to set up production, make and
test the chips, and deliver them to Webster’s plant. Assuming certainty in
delivery times and usage, at what inventory level should Webster reorder?
(assume a 52-week year, and assume that Webster orders the EOQ amount.)
Mini Case: 28- 10
website, in whole or in part.
g. Of course, there is uncertainty in Webster’s usage rate as well as in delivery
times, so the company must carry a safety stock to avoid running out of chips
and having to halt production. If a 200-unit safety stock is carried, what effect
would this have on total inventory costs? What is the new reorder point? What
protection does the safety stock provide if usage increases, or if delivery is
delayed?
average inventory is now (500/2) + 200 = 450 units. Thus, its total inventory cost,
including safety stock, is $28,000:
TIC = CP(average inventory) + F(S/Q)
= 0.2($200)(450) + $1,000(5,000/500)
= $18,000 + $10,000 = $28,000.
expected 96 units per week, Webster could operate for 392/96 4 weeks versus the
normal two weeks while awaiting delivery of an order.
Mini Case: 28 – 11
h. Now suppose Webster’s supplier offers a discount of 1 percent on orders of 1,000
or more. Should Webster take the discount? Why or why not?
1 percent on each chip, for a total annual savings of 0.01($200)(5,000) = $10,000.
Thus, the net effect is that Webster would save $10,000 – $4,800 = $5,200 if it takes
the discount, and hence it should do so.
i. For many firms, inventory usage is not uniform throughout the year, but, rather,
follows some seasonal pattern. Can the EOQ model be used in this situation? If
so, how?
j. How would these factors affect an EOQ analysis?
1. The use of just-in-time procedures.
Mini Case: 28- 12
j. 2. The use of air freight for deliveries.
j. 3. The use of a computerized inventory control system, wherein as units were
removed from stock, an electronic system automatically reduced the inventory
account and, when the order point was hit, automatically sent an electronic
message to the supplier placing an order. The electronic system ensures that
inventory records are accurate, and that orders are placed promptly.
j. 4. The manufacturing plant is redesigned and automated. Computerized process
equipment and state-of-the-art robotics are installed, making the plant highly
flexible in the sense that the company can switch from the production of one
item to another at a minimum cost and quite quickly. This makes short
production runs more feasible than under the old plant setup.
k. Webster runs a $100,000 cash deficit per month, requiring periodic transfers
from its marketable securities portfolio. Broker fees are $32 per transfer and
Webster earns 7% on its investment portfolio. Can Andrea use the EOQ model
to determine how frequently Webster should liquidate part of its portfolio?
Answer: The EOQ model can be applied directly to this problem.
EOQ =
)P)(C(
)S)(F(2
where F = $32, S = $12($100,000) = $1,200,000 worth of cash
needed each year, and the carrying cost per dollar per year is 7%, which is the
opportunity cost for investing that dollar.
)000,200,1)(32(2
)S)(F(2