Question

A museum of natural history opened a gift shop 2 years ago. Managing inventories has become a problem. Low inventory turnover is squeezing profit margins and causing cash flow problems. One of the top-selling SKUs in the container group at the museum's gift shop is a bird feeder. Sales are 18 units per week, and the supplier charges $60 per unit. The cost of placing an order with the supplier is $45. Annual holding cost is 25 percent of a feeder's value, and the museum operates 52 weeks per year. Management chose a 390-unit lot size so that new orders could be placed less frequently. What is the annual cycle-inventory cost of the current policy of using a 390-unit lot size? Would a lot size of 468 be better? (i.e., costs related to cycle stock only)

Answer 1

The annual cycle-inventory cost of the current policy using a 390-unit lot size is $6,840. A lot size of 468 would have a higher annual cycle-inventory cost of $8,010.

Step-by-step explanation:

To calculate the annual cycle-inventory cost of the current policy, we need to consider the holding cost and the ordering cost. The holding cost is 25% of the feeder's value, which is $60. So the annual holding cost per unit is $15 ($60 * 0.25). The lot size is 390 units, so the total holding cost is $5,850 ($15 * 390). The ordering cost is $45 per order, and with sales of 18 units per week, the number of orders placed per year is 22 (52 weeks / 2 years). So the total ordering cost is $990 ($45 * 22). Therefore, the annual cycle-inventory cost of the current policy is $6,840 ($5,850 + $990).

Now let's consider a lot size of 468 units. The total holding cost would be $7,020 ($15 * 468), and the total ordering cost would still be $990. Therefore, the annual cycle-inventory cost with a lot size of 468 units would be $8,010 ($7,020 + $990).

Based on these calculations, the current policy of using a 390-unit lot size is more cost-effective, as it has a lower annual cycle-inventory cost of $6,840 compared to a lot size of 468 units which has a higher cost of $8,010.