Question

To calculate the inventory holding cost for a particular flow unit, there are 2 factors (h and r) applied to its unit cost (C.) How are these 2 factors applied?

a. Combined as a total ratio of the warehousing and handling expenses compared to the annual average inventory value.
b. Combined as independent variables where each is expressed as a %, associated with the company's physical holding costs, and opportunity cost.
c. Differentiated and optimized to minimize the element of total inventory cost for the period of time (typically a year).
d. None of the above

Answer 1

The inventory holding cost for a flow unit is calculated using two independent variables, physical holding costs and opportunity cost, each expressed as a percentage of the unit cost.

Step-by-step explanation:

To calculate the inventory holding cost for a particular flow unit, the two factors, physical holding costs (h) and opportunity cost (r), are applied to its unit cost (C). The correct application is described as: b. Combined as independent variables where each is expressed as a percentage, associated with the company's physical holding costs, and opportunity cost. The physical holding costs could include storage, insurance, and other related expenses, whereas the opportunity cost represents the potential gains the company foregoes by investing resources in inventory rather than elsewhere.

Understanding these costs allows a firm to manage its inventory effectively, aiming to minimize the total inventory cost over a period, often typically a year, thus aligning with the concept of economies of scale, where the average cost of production decreases as the quantity of output increases.