Question

. Basic EOQ model The local Verizon dealer must decide how many Model XYZ cell phones to order for his business. Each phone wholesales for $30. Demand for the phone has been running at an average of 8 per day for the 300 days of operation each year. The cost of ordering is estimated to be $50 per order and the holding cost is estimated to be 25% of the wholesale cost. a. What quantity should he purchase? b. If the lead time for the phones is five working days, what would be the reorder point? _____ c. At the economic order quantity number, describe the relationship between yearly ordering costs and yearly holding costs. d. Given the rapid technological evolution in cell phones, would you feel comfortable ordering this quantity? Why or why not? e. If you decided to order only 80 units per order, what premium would you be paying to protect yourself from obsolescence of the phones? (Note: Find the total cost of inventory at the EOQ and the total cost of inventory when ordering 80 per order. Use the equation for the total cost.)

Answer 1

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Annual demand, D = 8*300 = 2400

Order cost, S = $ 50

Holding cost, H = 30*25% = $ 7.5

a) Optimal purchase quantity (Q) = SQRT(2DS/H) (EOQ model)

Q = SQRT(2*2400*50/7.5) = 179

b) Reorder point = Daily demand * Lead time = 8*5 = 40

c) At the economic order quantity, yearly ordering cost is equal to yearly holding cost.

d) This order quantity is equal to 22.4 days of sales (=179/8 = 22.4) . Given the technological evolution, where new phones are launched every other day, when the old models/technology get outdated, it is not advisable to carry such a high stock. So, I would not feel comfortable ordering this quantity.

e) Total inventory cost of EOQ lot size policy = (D/Q)*S + (Q/2)*H = (2400/179)*50 + (179/2)*7.5 = $ 1342

Total inventory cost of Q=80 lot size policy = (D/Q)*S + (Q/2)*H = (2400/80)*50 + (80/2)*7.5 = $ 1800

Premium = 1800-1342 = $ 458