Question

A manufacturer of lawn mowers and snow blowers (OLAF), has historically purchased 500 bearings per week from a local supplier who charges $0.9 per bearing. You, the newly-employed logistics manager of OLAF, have already identified another potential source willing to supply the bearings at $0.8 per bearing. Of course, before making a decision, you evaluate the performances of the two suppliers. The local supplier has an average lead time of 2 weeks and has agreed to deliver the bearings in batches of 2,000. Based upon past on-time performance, you estimate that the lead time has a standard deviation of one week for the local supplier. On the other hand, the new supplier has an average lead time of 8 weeks with a standard deviation of 4 weeks and requires a minimum batch size of 4,000 bearings. OLAF currently uses a continuous review policy for managing inventory and aims for a cycle service level of 95 percent. Weekly demand has a mean of 500 with a standard deviation of 100, and the holding cost is 10 percent of the purchase price. Calculate the total cost of working with a) the local, b) the new supplier. Give a decision as to which one you should go with.

Answer 1

Calculating the total cost for each supplier involves assessing holding and ordering costs along with factoring in service level and demand variability. The local supplier has lower batch sizes and less lead time variability, while the new supplier offers a lower per-unit cost at the expense of larger batch sizes and more lead time uncertainty. A detailed comparison of these costs, adjusted for service levels and economies of scale, will reveal the more cost-effective option.

Step-by-step explanation:

Calculating the total cost of working with suppliers involves considering several factors in supply chain management, such as the cost of the bearings, lead time, demand variability, and inventory policies. For the local supplier and the new supplier, we need to calculate the holding cost based on the batch size and purchase price, the ordering cost, and consider the service level and demand variability to ensure that the inventory policy is met.

For the local supplier, the holding cost is 10% of the purchase price, which would be $0.09 per bearing. Since the local supplier delivers bearings in batches of 2,000, the holding cost would be 2,000 * $0.09 = $180. The ordering cost would be the cost per order, which would be 2,000 bearings at $0.9 each, totaling $1,800 per order. Assuming a normal distribution of demand and lead time, you would use the service level and the standard deviation of lead time and demand to determine the safety stock and reorder point.

For the new supplier, the holding cost is also 10% of the purchase price, now at $0.08 per bearing, resulting in a holding cost of 4,000 * $0.08 * 0.1 = $32. The ordering cost is 4,000 bearings at $0.8 each, totaling $3,200 per order. The larger batch size and higher variability of lead time might require a larger safety stock, affecting the total cost.

By comparing the holding and ordering costs adjusted for the service level and variability, along with the purchase costs, you can decide which supplier is more cost-effective. This decision will take into account the economies of scale and balance between ordering, holding, and purchase costs.