Inventory Management

Q.1 Annual demand 48,000 units @ Rs. 20 per unit.

Order cost Rs. 240 per order.
Godown rent Rs. 3 per unit per annum.
Interest @ 5% per annum
Working days - 300 in a year.
Maximum lead time - 10 working days
Minimum lead time - 5 working days
Normal lead time - 8 working days
Maximum daily requirement - 250 units
Minimum daily requirement - 100 units
Required:
1 a EOQ
b No of orders in a year
c Reorder level
d Minimum level
e Maximum (absolute) level

2 The Company is presently ordering this material only once in a month in equal lots.
Required: Calculate annual saving if the company uses EOQ model
as calculated in 1a above instead of ordering in 12 equal lots.

Q.2 K & L Games Ltd. Is re-evaluating its stock control policy. Its daily demand for
wooden boxes are 40 a day of the 250 working days ( 50 weeks) of the year. The
boxes are currently purchased in the batches of 200 from a local supplier for Rs.
20 each. The cost of ordering the boxes is Rs. 640 per order regardless of the
size of the order. The stockholding cost, expressed as percentage are 25% p.a.

Required:
a Determine th economic order quantity and frequency of replenishment.
(Answer:EOQ 1600 No of orders 16.25)
b Recommend whether or not it is worthwhile to make use of the local
supplier discount scheme, shown below.
Order Quantity Discount
1000 5%
5000 10%

c Ignoring the requirement No. b, determine the maximum, minimum

and reorder level with the help of following additional information:
Lead Time 10 to 16 working days
Minimum Usage 25 boxes per day
Maximum Usage 60 boxes per day

1
Q.3 The data given below shows the usage of material JH by Standard Corporation:
1 Annual requirements (52 weeks) 7800 units
2 Unit price Rs. 5.00 each
3 Order cost Rs. 25 per order
4 Carrying cost Rs. 1.56 per unit
5 Lead time 3 weeks
Required:
a) Economic order quantity using EOQ formula.
b) Reorder point
c) Revised reorder point if it is desired to cover a possible lead time
of 5 weeks and usage increases by 60%.
d) Carrying cost of safety stock using your answer of c above.
e) A discount of 2% is offered by supplier if minimum order size is
2,000 unit. Should this offer be accepted?
(Answer:EOQ 500: revised reoder point 1200: )

Q.4 A retail company has been reviewing the adequacy of its stock control systems and has
identified three products for investigation. Relevant details for the 3 products are given
below:

Item EOQ Stock Rate Weekly sales ( Rs. 000) G.P.

(000 tons) (000 tons) per ton Minimum Normal Maximum % of sales
A 25 32.5 2.25 26 28 30 42
B 500 422.7 0.36 130 143 160 46
C 250 190 0.87 60 96 128 37

Outstanding order: Item C order for 250,000 units placed 2 trading days ago.
There are 6 trading days per week. The lead time is 2 weeks.
Required:
a Calculate for each products:
i The minimum and maximum weekly sales units.
ii The stock re-order level
iii The maximum stock control level
b Comment upon the adequacy of the existing control of the three products.

Q5 A Company uses Material Z in the manufacture of product A and B. The

purchase price of Material Z is Rs. 35 per kg. The following forecast
information is provided for the year ahead.
Product A Product B
Sales (units) 24,600 9,720
Finished goods stock increased
by year end (units) 447 178
Production rejection rate (%) 1 2
Material Z usage (kg per complete unit) 15.0 22.0

Additional information:
Average purchasing lead time for Material Z is two weeks.
Usage of Material Z is expected to be even over the year.
2
 Annual stock holding costs are 18% of the material cost.
The cost of placing an order is Rs. 300 per order.
Required:
1 State five items that would be regarded as stock holding costs. Marks: 5
2 Calculate for the year ahead:
a the required production with rejection of Product A and Product B
b the total requirement of Material Z in kgs.
c the economic order quantity for Material Z Marks: 10
(Answer: b) 601,700 units c) EOQ 7,570)

Q6 SP Company purchases many hundreds of components each year from external suppliers
for assembling into products. It uses 40,000 units pa of one particular component. It is
considering converting its purchasing delivery and stock control of this item to a just-in-time
system. This will raise the number of orders placed but lower the administrative and other
costs of placing and receiving orders. If successful, this will provide the model for switching
most of its inwards supplies on to this system. Details of actual and expected ordering and
carrying comsts are given in the table below.
Actual Proposed
Ordering cost per order 100 25
Purchase cost per item 2.50 2.50
Inventory holding cost (%of purchase cost) 20% 20%

To implement the new arrangements will require 'one-off' reorganisation costs estimated at
Rs. 4,000. The effective life span of the new system can be assumed to be 5 years.
Required:
1 Determine the effect of the new system on the economic order quantity (EOQ)
2 Determine whether the new system is worthwile in financial terms.
(Answer: 1) EOQ reduced by 50% 2) Saving of Rs 200)

Q7 Victory is a retailer, specialising in vitamin supplements and health foods claimed to enhance
performance. One of the product by Victory for resale is a performance enhancing vitamin
drink called 'Buzz'.
Victory sells a fixed quantity of 200 bottles of Buzz per week. The estimated holding cost
for a bottle of Buzz is Rs. 2.00 per bottle.
Delivery from Victory's existing supplier takes two weeks and the purchase price per bottle
delivered is Rs. 20. The current supplier charges a fixed Rs. 75 order processing charges
for each order, regardless of the order size.
Victory has recently been approached by another supplier of Buzz with the following offer:
1 The cost to Victory per bottle will be Rs. 19 each.
2 There will be a fixed order processing charge of Rs. 250 regradless of order size.
3 Delivery time will be one week.
4 Victory estimates that due to packaging differences, the holding cost per bottle
will be reduced by Rs. 0.20 per bottle per annum.
Required:
Determine if it would be financially viable to change to this new supplier.
(Answer: Saving of Rs 9108)

3
Q8 A company is reviewing its stock policy, and has the following alternatives available for
the evaluation of stock number 12789.
i Purchase stock twice monthly - 100 units
ii Purchase monthly - 200 units
iii Purchase every three months - 600 units
iv Purchase six monthly - 1200 units
v Purchase annually - 2400 units
It is ascertained that the purchase price per unit is Rs. 8 for deliveries up to 500 units. A
5% discount is offered by the supplier on the whole order where deliveries are 501 up to
1,000 and 10% discount on the total order where deliveries are in excess of 1000.
Each purchase order incurs administration cost Rs. 50.
Storage, interest on capital and other holding costs are Rs. 2.50 per unit of average stock.
You are required to advise management on the optimum order size.
(Answer: Two order per year - total cost Rs. 18,880)

Q9 Modern Distributors Limited (MDL) is a distributor of CALTIN which is used in various industries
and its demand is evenly distributed throughout the year.
The related information is as under
i) Annual demand in the country is 240,000 tons whereas MDL's share is 32.5% thereof.
ii) The average sale price is Rs. 22,125 per ton whereas the profit margin is 25% of cost.
iii) The annual variable cost associated with purchasing department are expected to be
Rs. 4,224,000 during the current year. It has been estimated that 10% of the cost relate
to purchasing of CALTIN.
iv) Presently, MDL follows the policy of purchasing 6,500 tons at a time.
v) Carrying cost is estimated at 1% of cost of material
vi) MDL maintains a buffer stock of 2,000 units
Required:
Compute the amount of saving that can be achieved if MDL adopts the policy of
placing orders based on Economic Order Quantity (Marks:15)
(Answer: EOQ 5570 saving Rs 11,905)

Q 10 ABC has recently established a new unit in Multan. Its planning for the first year of
operation depicts the following:
(i) Cash sales 600,000 units
(ii) Credit sales 1,200,000 units
(iii) Ending inventory Equivalent to 15 days sales
(iv) Number of working days in the year 300
(v) Expected purchase price Rs. 450 per unit -
(vi) Manufacturer offers 2% discount on purchase of 500 units or more as bulk quantity
discount. The company intends to avail this discount.
(vii) Carrying costs include:
- Financial cost of investment in inventory @ 16% per annum.
- Godown rent of Rs. 10,000 per month.
(viii) Ordering costs are Rs. 300 per order.
Required: (Answer: EOQ 4009 cost Rs 282870)
Compute the Economic Order Quantity (EOQ) and the estimated carrying costs and
ordering costs for the first year of operation. (Marks:10)

4
Q 11 A company has determined that the EOQ for its only raw material is 2000 units every
30 days. The company knows with certainity that a four day lead time is required for
ordering. The following is the probability distribution of estimated usage of the raw
material for the month.
Usage Probability
1,800 0.06
1,900 0.14
2,000 0.30
2,100 0.16
2,200 0.13
2,300 0.10
2,400 0.07
2,500 0.04
Stockout will cost the company Rs. 100 per unit, and the average monthly holding cost
is Rs. 10 per unit.
Required:
Determine the optimal safety stock.

Q 12 (a) Karachi Limited is a large retailer of sports goods. The company buys footballs from a
supplier in Sialkot. Karachi Limited uses its own truck to pick the footballs from
Sialkot. The truck capacity is 2,000 footballs per trip and the company has been
getting a full load of footballs at each trip, making 12 trips each year.
Recently the supplier revised its prices and offered quantity discount as under:
Quantity Unit price (Rs.)
2,000 400
3,000 390
4,000 380
6,000 370
8,000 360
Other related data is given below:
All the purchases are required to be made in lots of 1,000 footballs.
The cost of making one trip is Rs. 15,000. The company has the option to hire a
third party for transportation which would charge Rs. 9 per football.
The cost of placing an order is Rs. 2,000.
The carrying cost of one football for one year is Rs. 80.

Required:
(i) Work out the most economical option.
(ii) Compute the annual savings in case the company revises its policy in
accordance with the computation in (i) above. (Marks:10)

(b) Briefly describe:

(i) Stock out costs (ii) Lead time
(iii) Reorder point (iv) Safety stock (Marks: 4)

5
Q 13 Alpha Motors (Pvt.) Ltd. uses a special gasket for its automobiles which is purchased from a
local manufacturer. The following information has been made available by the procurement
department:
Annual requirement (no. of gaskets) 162,000
Cost per gasket (Rs.) 1,000
Ordering cost per order (Rs.) 27,000
Carrying cost per gasket (Rs.) 300

The gaskets are used evenly throughout the year. The lead time for an order is normally 11
days but it can take as much as 15 days. The delivery time and the probability of their
occurrence are given below:

Delivery time (in days) Probability of Occurrence

11 68%
12 12%
13 10%
14 6%
15 4%
Required:
(a) Compute the Economic Order Quantity (EOQ) and the total Ordering Costs based on EOQ.
(Marks: 4)
(b) What would be the safety stock and re-order point if the company is willing to take:
- a 20% risk of being out of stock?
- a 10% risk of being out of stock? (Marks: 8)
Note: Assume a 360 day year.

Q.14 An electric company uses a particular type of thermostat, which cost Rs. 50. The
demand average 800 p.a. and the EOQ has been calculated at 200. Holding costs are
20% p.a. and stock out cost have been estimated at Rs. 20 per item. Demand and lead
time vary, but formuately, the company has kept records of usage as follows.

Usage in lead time No. of times recorded

27 4
32 8
37 12
42 20
47 16
52 12
57 8
The normal reorder level is where probability of stockout is atleast below 50%.
Required:
Calculate the reorder level and safety stock (10 marks)
(Answer: Reorder level 52 units : safety stock 10 total cost Rs. 140)

6
Q.15 A company is reviewing the purchasing policy for one of its raw materials as a result of a
reduction in production requirement. The material which is used evenly throughout the year,
is used in only one of its product, the production of which is currently 12,000 units per annum
Each finished units of the product contains .0.40 kg of the material. 20% of the material is lost
in the production process. Purchases can be made in the multiple of 500 kgs. With a minimum
purchase order quantity of 1000 kgs.
The cost of the material depends upon the purchase order quantity as follows:
Order Qty Cost per kg
Kgs Rs
1,000 1.000
1,500 0.980
2,000 0.965
2,500 0.950
3,000 0.940
Cost of placing and handling each order are Rs. 90 of which Rs. 40 is apportionment of fixed
cost which are not expected to be effected in the short term by the number of order placed.
Annual holding costs of stock are Rs 0.90 per unit of average stock, of which Rs. 0.40 is
expected to be effected in the short term by the annual stock held.

Required:
Calculate the annual cost of purchasing alternative purchase order policies and thus advise
the company regarding the purchase order quantity for the material that will minimize cost.

Q 16 Ore Limited (OL) is a manufacturer of sports bicycles. The company buys tyres from a local
vendor. Following data, relating to a pair of tyres, has been extracted from OL’s records:
Rupees
Cost 1,000
Storage cost based on average inventory 80
Insurance cost based on average inventory 60
Store keeper’s salary (included in absorbed overheads) 8
Cost incurred on final quality check at the time of delivery 10
Other relevant details are as under:
(i) The cost of inventory comprises of purchase price and absorbed overhead expenses
of Rs. 100 per pair.
(ii) The annual demand for tyres is 200,000 pairs.
(iii) The ordering cost per order is Rs. 8,000.
(iv) The delivery cost per order is Rs. 3,000.
(v) OL’s rate of return on investment in inventory is 15%.
(vi) Recently the vendor has offered a quantity discount of 3% on orders of a minimum
of 5,000 pairs.
Required:
Evaluate whether OL should avail the quantity discount from the vendor. (10 marks)

Q 17 (a) Penguin Limited (PL) produces and markets a single product. The company’s management
has raised concerns about the declining sales due to frequent stock-outs. In order to resolve the
problem, the finance manager has gathered following information from PL’s records:

7
 Carrying costs of inventory (excluding financing costs) 8% p.a.
Variable costs of inventory 80% of sales
Fixed costs Rs. 40,000 p.a.
Applicable tax rate 30%

Based on stock-out reports, the finance manager has worked out three policies for the
improvement of sales and the projected data is as follows:
Inventory turnover Sales
Inventory Policy (based on cost of goods sold) (Rs. in 000’)
Existing 8 300,000
PI 7 422,500
PII 6 527,500
PIII 5 620,000

Required:
Which of the above policy would maximize the incremental rate of return on investment in
inventories? (13 marks)

(b) Robin Limited (RL) imports a high value component for its manufacturing process. Following
data, relating to the component, has been extracted from RL’s records for the last twelve
months:
Maximum usage in a month 300 units
Minimum usage in a month 200 units
Average usage in a month 225 units
Maximum lead time 6 months
Minimum lead time 2 months
Re-order quantity 750 units
Required:
Calculate the average stock level for the component. (05 marks)

Q 18 Chocó-king Limited (CL) produces and markets various brands of chocolates having annual
Sept demand of 80,000 kg. The following information is available in respect of coco powder
2015 which is the main component of the chocolate and represents 90% of the total ingredients.
ICAP (i) Cost per kg is Rs. 600.
(ii) Process losses are 4% of the input.
(iii) Purchase and storage costs are as follows:
Annual variable cost of the procurement office is Rs. 6 million. The total number
of orders (of all products) is estimated at 120.
Storage and handling cost is Rs. 20 per kg per month.
Other carrying cost is estimated at Rs. 5 per kg per month.
(iv) CL maintains a buffer stock of 2,000 kg.
Required:
(a) Calculate economic order quantity. (07)
(b) A vendor has offered to CL a quantity discount of 2% on all orders of minimum of
7,500 kg. Advise CL, whether the offer of the vendor may be accepted. (06)