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1. Operations Management Solutions Manual

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Operations Management Solutions Manual

Operations Management Solution Manual (Chapter 12). 1. 164 CHAPTER 12 MANAGING INVENTORY C H A P T E R Managing Inventory DISCUSSION QUESTIONS 1. The four types of inventory are:  Raw material—items that are to be converted into product  Work­in­process (WIP)—items that are in the process of being converted  Finished goods—completed items for which title has not been transferred  MRO—(maintenance, repair, and operating supplies)— items that are necessary to keep the transformation process going 2. The advent of low­cost computing should not be seen as obviating the need for the ABC inventory classification scheme. Although the cost of computing has decreased considerably, the cost of data acquisition has not decreased in a similar fashion.

Business organizations still have many items for which the cost of data acquisition for a “perpetual” inventory system is still considerably higher than the cost of the item. 3. The purpose of the ABC system is to identify those items that require more attention due to cost or volume. 4. Types of costs—holding cost: cost of capital invested and space required; shortage cost: the cost of lost sales or customers who never return; the cost of lost good will; ordering cost: the costs associated with ordering, transporting, and receiving the items; unit cost: the actual cost of the item.

5. Assumptions of EOQ model: demand is known and constant over time; lead time is known and constant; receipt of inventory is instantaneous; quantity discounts are not possible; the only variable costs are the costs of placing an order or setting up production and the cost of holding or storing inventory over time and if orders are placed at the right time, stockouts or shortages can be completely avoided. 6. The EOQ increases as demand increases or as the setup cost increases; it decreases as the holding cost increases. The changes in the EOQ are proportional to the square root of the changes in the parameters. 7. Price times quantity is not variable in the EOQ model, but is in the discount model. When quality discounts are available, the unit purchase price of the item depends on the order quantity.

8. Advantages of cycle counting: 1. Eliminating the shutdown and interruption of production necessary for annual physical inventories 2.

Eliminating annual inventory adjustments 3. Providing trained personnel to audit the accuracy of inventory 4. Allowing the cause of errors to be identified and remedial action to be taken 5. Maintaining accurate inventory records 9. A decrease in setup time decreases the cost per order, encourages more and smaller orders, and thus decreases the EOQ. 10. Discount points below the EOQ have higher inventory costs, and the prices are no lower than at the EOQ. Points above the EOQ have higher inventory costs than the corresponding price break point or EOQ at prices that are no lower than either of the price breaks or the EOQ. (It depends on whether there exists a discount point above the EOQ.) 11. Service level refers to the percent of customers to whom the product or service is delivered when and as promised. 12. If the same costs hold, more will be ordered using an economic production quantity, because the average inventory is less than the corresponding EOQ system.

13. In a fixed­quantity inventory system, when the quantity on hand reaches the reorder point, an order is placed for the specified quantity. In a fixed­period inventory system, an order is placed at the end of the period. The quantity ordered is that needed to bring on­hand inventory up to a specified level. 14. The EOQ model gives quite good results under inexact inputs; a 10% error in actual demand alters the EOQ by less than 5%.

15. Safety stock is inventory beyond average demand during lead time, held to control the level of shortages when demand and/or lead time are not constant; inventory carried to assure that the desired service level is reached. 16. The reorder point is a function of: demand per unit of time, lead time, customer service level, and standard deviation of demand. 17. Most retail stores have a computerized cash register (point­ of­sale) system. At the time of purchase, the computer system simultaneously rings up the bill and reduces the inventory level in its records for the products sold. 18. Advantage of a fixed period system: There is no physical count of inventory when items are withdrawn. Disadvantage: There is a possibility of stockout during the time between orders. ETHICAL DILEMMA Setting service levels to meet inventory demand is a manager’s job. Setting an 85% service level for whole blood is an important. 165 CHAPTER 12 MANAGING INVENTORY judgment call on the part of the hospital administrator. Another major disaster means a certain shortage, yet any higher level may be hard to cost justify. Many hospitals do develop joint or regional groups to share supplies. The basic issue is how to put a price tag on lifesaving medicines. This is not an easy question to answer, but it makes for good discussion.

ACTIVE MODEL EXERCISES ACTIVE MODEL 12.1: Economic Order Quantity (EOQ) Model 1. What is the EOQ and what is the lowest total cost? EOQ  200 units with a cost of $100 2. What is the annual cost of carrying inventory at the EOQ and the annual cost of ordering inventory at the EOQ of 200 units? $50 for carrying and also $50 for ordering 3. From the graph, what can you conclude about the relationship between the lowest total cost and the costs of ordering and carrying inventory? The lowest total cost occurs where the ordering and inventory costs are the same. 4. How much does the total cost increase if the store manager orders 50 more hypodermics than the EOQ? 50 fewer hypodermics?

Ordering more increases costs by $2.50 or 2.5%. Ordering fewer increases costs by $4.17 or 4.17% 5. What happens to the EOQ and total cost when demand is doubled? When carrying cost is doubled? The EOQ rises by 82 units (41%) and the total cost rises by $41 (41%) in either case.

6. Scroll through lower setup cost values and describe the changes to the graph. What happens to the EOQ? The curves seem to drop and move to the left. The EOQ decreases. 7. Comment on the sensitivity of the EOQ model to errors in demand or cost estimates. The total cost is not very sensitive to mistakes in forecasting demand or placing orders. ACTIVE MODEL 12.2: Production Order Quantity Model 1. What is the optimal production run size for hubcaps?

283 2. How does this compare to the corresponding EOQ model? $70.71 4. How does this compare to the corresponding EOQ model? The total cost is less than the cost for the equivalent EOQ model. END-OF-CHAPTER PROBLEMS 12.1 An ABC system generally classifies the top 70% of dollar volume items as A, the next 20% as B, and the remaining 10% as C items. Similarly, A items generally constitute 20% of total number of items, B items are 30%; and C items are 50%. Item Code Number Average Dollar Volume Percent of Total $ Volume 1289  400  3.75 = 1,500.00 44.0% 2347  300  4.00 = 1,200.00 36.0% 2349  120  2.50 = 300.00 9.0% 2363  75  1.50 = 112.50 3.3% 2394  60  1.75 = 105.00 3.1% 2395  30  2.00 = 60.00 1.8% 6782  20  1.15 = 23.00 0.7% 7844  12  2.05 = 24.60 0.7% 8210  8  1.80 = 14.40 0.4% 8310  7  2.00 = 14.00 0.4% 9111  6  3.00 = 18.00 0.5% $3,371.50 100% (rounded ) The company can make the following classifications: A: 1289, 2347 (18% of items; 80% of dollar­volume). C: 6782, 7844, 8210, 8310, 9111 (45% of items; 2.7% of dollar­ volume).

12.2 (a) You decide that the top 20% of the 10 items, based on a criterion of demand times cost per unit, should be A items. (In this example, the top 20% constitutes only 58% of the total inventory value, but in larger samples the value would probably approach 70% to 80%.) You therefore rate items F3 and G2 as A items. The next 30% of the items are A2, C7, and D1; they represent 23% of the value and are categorized as B items. The remaining 50% of the items (items B8, E9, H2, I5, and J8) represent 19% of the value and become C items. Annual Item Demand Cost ($) Demand  Cost Classificatio n A2 3,000 50 150,000 B B8 4,000 12 48,000 C C7 1,500 45 67,500 B D1 6,000 10 60,000 B E9 1,000 20 20,000 C F3 500 500 250,000 A G2 300 1,500 450,000 A H2 600 20 12,000 C I5 1,750 10 17,500 C J8 2,500 5 12,500 C (b) Borecki can use this information to manage his A and B items more closely and to save ordering costs on his less important C items by ordering only when A or B items are being ordered from the same supplier. (c) A2 could easily move to the A category based on annual dollar volume. In a small sample, 30% of the items can be placed in the A category if deemed appropriate.