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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 thecompanyâ??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 managerâ??sperformance? What could the company do to encourage the manager tomake decisions more congruent with the goal of reducing totalinventory costs?

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Jamar Ferry
Jamar FerryLv2
28 Sep 2019

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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?

Indicate whether each statement istrue (T) or false (F).

____ 1. Examples of carrying costs of inventory are obsolescence,opportunity cost of investment tied up in inventory, andinspection.

____ 2. The EOQ model does not include quantity discounts lost on inventorypurchases.

____ 3. EOQ minimizes the annual relevant total carrying costs ofinventory.

____ 4. An example of a cost pertaining to inventory that usually isirrelevant to the decision of how much to order is salaries ofstockroom workers.

____ 5. The reorder point decreases if the ordering costs per purchaseorder increase.

____ 6. JIT purchasing should be guided by the EOQ decision model.

____ 7. Adopting JIT purchasing is likely to result in fewer suppliers foreach item and more paperwork.

____ 8. JIT production operates as a push-through system.

____ 9. A key feature of backflush costing is that it tracks manufacturingcosts sequentially.

____ 10. When asingle Inventory Control account is used in backflush costing, thisaccount is restricted solely to direct materials, whether they arein storerooms, in process, or in finished goods.

____ 11. Althoughbackflush costing may not strictly adhere to generally acceptedaccounting principles, the accounting principle of materialityworks in favor of backflush costing when inventories are low.

Brothers Company asks you to look at the company’s inventory position. They think that inventories might be too high as result of the Manager’s tendency to order large quantities. Brothers has decided to examine the situation for one key product – fly rods that cost $320 each to purchase and prepare for sale. Annual sales for the product are 2,500 units (rods), and the annual carrying cost is 10 percent of inventory value. The company has been buying 500 rods per order and placing another order when the stock on hand falls to 100 rods. Each time SSP (SSP is a company that orders rods from Brothers) orders, it incurs a cost equal to $64. Sales are uniform throughout the year.

1. Brothers believes that the Economic Ordering Quantity (EOQ) model should be used to help determine the optimal inventory situation for this product. State the EOQ model.

2. What is the formula for calculating the total inventory cost?

3. What is the EOQ for the fly rods? What will the total inventory cost be for this product if SSP orders the EOQ amount?

4. What is SSP’s added cost if it orders 500 fly rods rather than the EOQ amount? What if it orders 250 rods each time?

5. Suppose it takes three days for SSP to receive its orders and package the rods before they are ready for sale. Assuming certainty in production time and usage, at what inventory level should SSP order more fly rods? (assume 360-day year, that SSP is open every day and that SSP orders the EOQ amount).

6. There is uncertainty in SSP’s usage rate as well as in order delays, so the company must carry a safety stock to avoid running out of the fly roads and facing a loss sale. If SSP carries a safety stock of 50 rods, what effect would this policy have on total inventory cost?

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