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Inventory Management Case StudyAussi Cossi - 20AD Golden Gate Industries trades in Hydraulic tools for the mining industry.

You are considering ways to improve the inventory management for the company .

Activity Patterns and Formulas You have chosen an item to demonstrate the improvement that can be achieved.

Your role as financial manager is to advise management.

GGI TO4500 Hydraulic RamAnnual Demand: D 18,000 units

Case Study Order quantity: Oq 1,200 First day of each month

Unit cost: Cu $15

Pattern of demand: Uniform over timeOrdering costs: Co $60 Annual holding costs: Ch 0.25 of the average cost of inventory carriedLead time orders: Lo 6 working days

Lead time safety stock: Lss 5 working days

Inventory Acquisition and Usage Pattern Working days: W 250 per year

You need to find out the following:Option 1 - High Inventory Levels / Fewer orders / Larger orders

1 What is the total relevant cost of the current inventory policy?Scroll down 2 Calculate the economic order quantity.

Maximum 3 What would be the total relevant cost (including safety stocks)600 if the company used the Economic Order Quantity?

4 What is the re-order point?InventoryLevel

Average400

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Minimum 1 Total relevant cost under current policy0

Safety Stock = Demand per day x Lead time safety stockTime

(D/w) x L

360 Units

Option 2 - Lower Inventory Levels / Frequent orders / smaller orders Average Inventory = Safety Stock + (Order quantity / 2)

SS + Oq/2InventoryLevel 960 Units

Maximum Annual Holding Costs = Average Inventory x Holding cost per unit300 (Cha)

Sa + (Ch * Cu)Average

200 $3,600 Minimum

0

Annual Order Costs = Orders per year x Cost of ordering per unitTime (Coa)

Cu x Co

$900

the lowest possible operating costs and investment, while still meeting demand. Total Relevant Costs (including safety stock) = Annual Holding Costs + Annual Order Costs

Cha + Coa

$4,500

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2 Using the Economic Order Quantity

Economic Prder Quantity

EOQ = (2 x Co x D)/Ch

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Formulas for the Calculations: $576,000

What is the most economic order quantity (EOQ)?:759 Units per order

EOQ = 2 Co D / Ch

3 Total Relevant Costs using EOQ (including Safety Stock)

EOQ = Economic Order Quantity Total Relevant Cost for EOQ (including safety stocks)

Co = Ordering Costs per Order

D = Demand per Year TRC = (Ch x EOQ) + (Ch x SS)

Ch = Holding Costs per Unit per Year

Q = Order Quantity

$4,196

3 Reorder point (ROP) under EOQTotal Annual Ordering Costs

Co = (D / Q) * Co ROP = SS + Demand during lead time

SS + (Demand per day x Order lead time))

Total Annual Holding Costs 792 Units

Ch = (Q / 2) * Ch

Total Relevant Costs (TRC)

TRC = Co + Ch

( Related to any inventory ordering quantity ) Scroll down

Report to management:Total Relevant Cost - Economic Order Quantity

Inventory movement model

Economic Order Quantity formulas

Safety Stock model

Case study details

Calculations using current policy

Calculations using EOQ method

Report to Management

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The question is how much to order and how often in order to achieve

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Order 1 Order 2

Order 1 Order 2 Order 3 Order 4 Order 5

Order 3

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1TRCeoq = Ch * EOQ management (holding costs and ordering costs) of: $4,500

(Related to EOQ ordering quantity) 2Economic Order Quantity method the Total Relevant Cost can be reduced to: $4,196

3 A change to the new policy would cause a cost differential of : $304

4 The optimum reorder point (under the EOQ model) occurs at: 792 Units

Option 3 - With safety stock 5 The optimum quantity to be ordered is: 759 Units

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InventoryLevel

Maximum300

Average200

Minimum100

Safety Stock0

Time

Cost of holding safety stock

Css = SS x Ch

Css Cost of safety stockSS Safety stock (in units)

Our current policy is generating Total Relevant Cost of inventory

Using a revised inventory policy based on the

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Order 1 Order 2 Order 3 Order 4 Order 5