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00
variable charge 5.00 per day
Purchase Cost
Annual Demand = 57,600.00
Purchase Cost = 480,000.00
Order Cost
Delivery Cost = 12.00 Number of Deliveries
=12 x 10,000
Delivery Cost = 120,000.00
Import Cost =
Import Fee = =300 x 240 cartons
Import Cost = 72,000.00
Custom Cost 2,400.00
Holding Cost
Maximum number of carton s 20.00
Average number of cartons 10.00
Variables Charge 18,250.00
Fixed Charge 1,000.00
Cold Storage 19,250.00
Electricity 10,000.00
EOQ =
Costs
Purchase Cost
Order Cost
Delivery Cost
Import Cost
Custom Cost
Holding Cost
Cold storage
Using EOQ Model will save Jason $42,200 (703,650 - 661,450) annually.
Working $
As before 480,000
Total = $48,450
10,000
661,450
Economic order quantity (EOQ) is the order quantity of inventory that minimizes the total cost of inventory management.
Two most important categories of inventory costs are ordering costs and carrying costs. Ordering costs are costs that are in
Ordering costs and carrying costs are quite opposite to each other. If we need to minimize carrying costs we have to place
We need to minimize the total inventory costs and EOQ model helps us just do that.
Total inventory costs = Ordering costs + Holding costs
By taking the first derivative of the function we find the following equation for minimum cost
EOQ = SQRT(2 × Quantity × Cost Per Order / Carrying Cost Per Order)
Example
ABC Ltd. is engaged in sale of footballs. Its cost per order is $400 and its carrying cost unit is $10 per unit per annum. The
Solution
EOQ = SQRT(2 × 20,000 × 400/10) = 1,265 units
Annual demand is 20,000 units so the company will have to place 16 orders (= annual demand of 20,000 divided by order s
Average inventory held is 632.5 ((0+1,265)/2) which means total carrying costs of $6,325 (i.e. 632.5 × $10).
tory management.
are costs that are incurred on obtaining additional inventories. They include costs incurred on communicating the order, transportation
sts we have to place small order which increases the ordering costs. If we want minimize our ordering costs we have to place few order
unit per annum. The company has a demand for 20,000 units per year. Calculate the order size, total orders required during a year, tot
00 divided by order size of 1,265). Total ordering cost is hence $64,000 ($400 multiplied by 16).
cating the order, transportation cost, etc. Carrying costs represent the costs incurred on holding inventory in hand. They include the op
osts we have to place few orders in a year and this requires placing large orders which in turn increases the total carrying costs for the
ders required during a year, total carrying cost and total ordering cost for the year.
ory in hand. They include the opportunity cost of money held up in inventories, storage costs, spoilage costs, etc.
the total carrying costs for the period.
Order Cost Sample Computation
Annual demand 120,000.00 units
Exected cost in 2014 5,500.00 per order
Total ordering cost based 12,000.00 units
24,000.00 units
* It should be observed that the lower the number of orders means lower total ordering cost
The higher the number of order, the higher total ordering costs.
wer total ordering costs.
Carrying Cost
500,000.00 900,000.00
Carrying Cost per unit 4.00 4.00
Average Inventory Cost 250,000.00 450,000.00
Total Carrying Cost 1,000,000.00 1,800,000.00
EOQ (Order Size):
Annual Demand 24000 units
Cost per Unit 20.00
Annual Cost 480,000.00
Cost per order 750
Carrying Cost Percentage 20%
CarryingCost Per Unit 4.00
60,000.00
EPR / EPQ