Inventory management

Part 3
By
Anita Lee-Post

2003 Anita Lee-Post

 EPQ assumptions
Same as the EOQ except: inventory arrives in
increments & is drawn down as it arrives

2003 Anita Lee-Post

 EPQ: Total cost equation
I max
Annual holding cost H,
2
D
Annaul ordering/setup cost S
Q
D I
Total cost at Q, TC Q S max H
Q 2
where D : Annual Demand
S : Ordering/Setup cost per order
H : Holding cost per unit per year
Q d
I max Total produced - Total used Q - d( ) Q 1
p p
where d : daily demand rate, and p : daily production rate
D Q d
TC Q S H 1
Q 2 p

2003 Anita Lee-Post

 EPQ: Total cost equation continued
D EPQ d
Minimal cost at EPQ, TC EPQ S H 1 -
EPQ 2 p
D
or TC EPQ 2 S annual holding annual setup costs at EPQ
EPQ
2DS
where EPQ
d
H1 -
p
EPQ
Production run days
p
where D : Annual demand
S : Setup cost per production run
H : Holding cost per unit per year
d : Daily demand
p : Daily production rate

2003 Anita Lee-Post

 EPQ example
Given:
Annual demand = 15,000
Setup cost = $500 per production run
Holding cost = $50 per item per year
Number of working days per year = 240
Annual production rate = 25,000
(a) What is the EPQ?
(b) What is the total cost at EPQ?
(c) What is the maximum inventory level?
(d) What is the total number of production run in a year?
(e) What is the length of production run?
(f) What is the time between production?
(g) What is the length of time with no production?
2003 Anita Lee-Post
 EPQ example continued
2DS 2 15000 500
(a) EPQ 866
d 15000
H1 - 501
p 25000
D
(b) Total cost at EPQ 2 S
EPQ
15000
2 500 $17320
866
d 15000
(c) Maximum inventory, I max EPQ 1 8661 346
p 25000
Annual demand
(d) Total number of production runs in a year
EPQ
15000
18
866
EPQ 866
(e) Length of production run, t p 240 8 days
p 25000
240
(f) Time between production run 14 days
18
(g) Length of time with no production run 14 - 8 6 days

2003 Anita Lee-Post

 DQ assumptions
Same as the EOQ, except:
Unit price depends upon the quantity ordered
Adjusted total cost equation:
D Q
TC QD S H PD
Q 2
where D : Annual demand
S : Ordering/Setup cost per order
H : Holding cost per item per year
P : unit price

2003 Anita Lee-Post

 QD procedure
1. Calculate the EOQ at the lowest price
2. Determine whether the EOQ is feasible at that
price (will the vendor sell that quantity at that
price?)
3. If yes, stop if no, continue
4. Check the feasibility of EOQ at the next higher
price
5. Continue until you identify a feasible EOQ

2003 Anita Lee-Post

 QD procedure continued
6. Calculate the total costs (including purchase
price) for the feasible EOQ model
7. Calculate the total costs of buying at the
minimum quantity allowed for each of the
cheaper unit prices
8. Compare the total cost of each option &
choose the lowest cost alternative

2003 Anita Lee-Post

 QD example #1
Given:
annual demand = 100 units
Ordering cost = $45 per order
Holding cost per year = 20% of item cost
Quantity discounts:
Order quantity Cost per item
50 or less $18
51 to 59 $16
60 or more $12

2003 Anita Lee-Post

 QD example #1 continued
The lowest cost per item is $12 if ordered 60
units or more
2DS 2 100 45
EOQ 62 units
H 0.2 12
Ordering 62 units a time qualifies for the lowest
discounted price of $12 per item
The EOQ is found feasible
D EOQ
TC EOQ S H PD
EOQ 2
100 62
$45 0.2 $12 $12 100
62 2
73.5 73.5 1200 $1347

Order at 62 units at a time is the recommended policy

2003 Anita Lee-Post
 QD example #2
Given:
annual demand = 100 units
Ordering cost = $45 per order
Holding cost per year = 20% of item cost
Quantity discounts:
Order quantity Cost per item
50 or less $18
51 to 99 $16
100 or more $12

2003 Anita Lee-Post

 QD example #2 continued
The lowest cost per item is $12 if ordered 100
units or more

2DS 2 100 45
EOQ 62 units
H 0.2 12
Ordering 62 units a time does not qualify
for the discounted price of $12 per item
The EOQ is found infeasible

2003 Anita Lee-Post

 QD example #2 continued
The next lowest cost per item is $16 if ordered
between 51 to 99 units

2DS 2 100 45
EOQ 54 units
H 0.2 16
Ordering 54 units a time qualifies
for the discounted price of $16 per item
The EOQ is found feasible

2003 Anita Lee-Post

 QD example #2 continued
Cost comparisons:
D EOQ
TC EOQ 54 S H PD
EOQ 2
100 54
$45 0.2 $16 $16 100
54 2
85 85 1600 $1,770
D Q
TC Q 100 S H PD
Q 2
100 100
$45 0.2 $12 $12 100
100 2
45 120 1200 $1,365
TC Q 100 yields a lower total cost

Order at 100 units at a time is the recommended policy

2003 Anita Lee-Post

 QD example #3
Given:
annual demand = 100 units
Ordering cost = $45 per order
Holding cost per year = 20% of item cost
Quantity discounts:
Order quantity Cost per item
55 or less $18
56 to 99 $16
100 or more $12

2003 Anita Lee-Post

 QD example #3 continued
The lowest cost per item is $12 if ordered 100
units or more

2DS 2 100 45
EOQ 62 units
H 0.2 12
Ordering 62 units a time does not qualify
for the discounted price of $12 per item
The EOQ is found infeasible

2003 Anita Lee-Post

 QD example #3 continued
The next lowest cost per item is $16 if ordered
between 56 to 99 units

2DS 2 100 45
EOQ 54 units
H 0.2 16
Ordering 54 units a time does not qualify
for the discounted price of $16 per item
The EOQ is found infeasible

2003 Anita Lee-Post

 QD example #3 continued
The remaining cost per item is $18 if ordered
less than 56 units

2DS 2 100 45
EOQ 50 units
H 0.2 18
Ordering 50 units a time at $18 per item
The EOQ is found feasible

2003 Anita Lee-Post

 QD example #3 continued
Cost comparisons:
100 50
TC EOQ 50 $45 0.2 $18 $18 100
50 2
90 90 1800 $1,980
100 56
TC Q 56 $45 0.2 $16 $16 100
56 2
90 81 1600 $1,771
D Q
TC Q 100 S H PD
Q 2
100 100
$45 0.2 $12 $12 100
100 2
45 120 1200 $1,365
TC Q 100 yields the lowest total cost

Order at 100 units at a time is the recommended policy

2003 Anita Lee-Post