Which one of the following costs is constant for the fixed order quantity model
Economic Order QuantityEconomic Order Quantity (EOQ) is the level of inventory that minimizes the total cost of holding and ordering inventory over a period of time. Usually the time period is one year. Show
The total cost of inventory is the sum of the purchase, ordering and holding costs. As a formula: TC = PC + OC + HC, where TC is the Total Cost; PC is Purchase Cost; OC is Ordering Cost; and HC is Holding Cost. Relation to Lean ManufacturingThe risk when using the EOQ is that ordering costs and lead times may be regarded as constant. Within lean, the goal is to reduce lead times and setup times using methods such as SMED and Kanban. At any time, optimal order size can be calculated, but when the optimal order size is 1, we have reached one-piece production, a final goal in lean manufacturing. AssumptionsTo determine the Economic Order Quantity, these costs must be analyzed further. Some assumptions are required:
VariablesWe will use the following variables:
It is important to note which variables are annualized, which are per-order and which are per-unit. Do the easy mathUsing the variables, here are the components of the first equation (TC = PC + OC + HC): PC = P x D : Purchase Cost = unit Purchase cost times the annual Demand OC = (D x O) / Q : Order Cost = annual Demand times cost per Order, divided by the order Quantity (number of units) HC = (H x Q) / 2: Holding Cost = annual unit Holding cost times order Quantity (number of units), divided by 2 (because throughout the year, on average the warehouse is half full). So TC = PC + OC + HC = (P x D) + ( (D x O) / Q) + ( (H x Q) / 2). Determine the minimumTo minimize TC for Q, determine the first derivative of this formula and solve for zero. dTC(Q)/dQ = d ( (P x D) + ( (D x O) / Q) + ( (H x Q) / 2) )/dQ = (H / 2) – (D x O) / ( Q2 ) ) = zero To solve for Q*: (the optimal order Quantity): (H / 2) = (D x O) / ( Q*2 ) ) Therefore Q*2 = 2 x (D x O) / H. Thus Q* = the square root of 2 x (D x O) / H, and does not depend on the unit purchase cost. In English: the optimal order Quantity is the square root of 2 times the annual Demand times the cost of one Order divided by the annual cost to Hold one unit. References: 1 Matching Supply with Demand: An Introduction to Operations Management 2 Operations Management By Oskar Olofsson
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Create free account What is fixed order quantity model?Fixed Order Quantity happens when only a fixed quantity can be ordered at one time to keep a tight control on inventory. Typically, a minimum number is set in the database and once inventory hits that number, a maximum number of goods is reordered.
What are fixed order costs?Order Costs
The fixed cost remains the same for any order that is placed by the business to a vendor. This type of fixed cost will include the cost of the company's facilities and the maintenance cost of the computer system used to process purchase orders.
Which of the following is an assumption of the basic fixed order quantity inventory model?Answer and Explanation: The correct option is c). Price per unit of product is constant. A fixed order quantity (FOQ) can be defined as the inventory management technique in which the organizations place the inventory order when the stock reduces to re-order stock point.
Which of the following is usually included as an inventory holding cost?Inventory holding costs are calculated as part of the total inventory costs within a single supply chain. Costs include warehousing, insurance, labor, transportation, depreciation, inventory shrinkage, damaged or spoiled inventory, obsolescence, and opportunity costs.
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