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Material Costing

Assignment for Self Practice

Q.1 If the price of material is ₹ 15 per unit and the annual consumption is 4,000 units the interest
and store keeping charges are 20 % of the value and the cost of placing the order and receiving
the goods is ₹ 60 how much material should be ordered at one time.

Answer: At Economic Order Quantity cost is least therefore we should calculate it.

Economic Order Quantity = √

A= Annual consumption; C= Carrying Cost/ Holding Cost; O= Ordering Cost

Annual consumption of raw material= 4,000 units.

Holding Cost= 20% of Cost of material, i.e. 20% of 15 = ₹ 3 per unit.

Economic Order Quantity = √ = 400 units

400 units should be ordered at one time.

Q.2 Two components, A and B used as follows:

Normal usage: 50 units each per week
Minimum usage: 25 units each per week
Maximum usage: 75 units each per week
Re-Order Quantity: A: 300 units; B: 500units
Re-order period: A: 4 to 6 weeks; B: 2 to 4 weeks

Calculate for each component (a) Re-order level, (b) Minimum level, (c) Maximum Level, and (d)
Average stock level.
Answer:
(a) Re-order level = Maximum consumption x Maximum lead time
For component A:
= 75 units X 6 weeks = 450 units.
For Component B:
= 75 units X 4 weeks = 300 units.
(b) Minimum Level of stock = Re-order level – (Average consumption X Average re-order period)
For component A:
= 450 units – (50 units X 5 weeks); 450 – 250 units = 200 units.
For component B:
= 300 units – (50 units X 3 weeks); 300 units – 150 units = 150 units.
(c) Maximum level = Re-order level + Re-order Quantity – (Minimum consumption X Minimum re-
order period)
For component A:
= 450 units + 300 units – (25 units X 4 weeks); = 650 units

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For component B:
= 300 units + 500 units – (25 units X 2 weeks); = 750 units
(d) Average Stock level = Maximum stock level + Minimum Stock level
2
For component A:
= 650 + 200 = 425 units
2
For Component B:
= 150 + 750 = 450 units
2
Alternatively it can also be computed as follows:
Average stock = Minimum stock level + ½ of Re-order Quantity
For component A = 200 units + ½ of 300 = 350 units
For Component B = 150 units + ½ of 500 = 400 units

Working Notes

1. Calculation of average time:

Component A = {4 + 6}/ 2 = 5 weeks
Component B = {2 + 4}/2 = 3 weeks

Q.3 The following information pertaining to a firm is given below:

 Annual consumption: 12000 units (360 days)

 Cost per unit: ₹1
 Cost per order: ₹ 12
 Inventory carrying cost(%): 20
 Lead time (maximum, normal and minimum) days 30; 15; 5 respectively
 Daily Consumption 45; 33; 15

Calculate inventory levels.

Answer:

(A)

Economic Order Quantity = √

A= Annual consumption; C= Carrying Cost/ Holding Cost; O= Ordering Cost

= Economic Order Quantity = √ = 1200 units

1200 units should be ordered at one time.

(B)

i. Re-order level = Maximum consumption – Maximum lead time

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= 45 units X 30 days = 1350 units.

ii. Minimum Level of stock = Re-order level – (Average consumption X Average re-order period)
= 1350 units – (33 units X 15 days); 1350 – 495 units = 855 units.

iii. Maximum level = Re-order level + Re-order Quantity – (Minimum consumption X Minimum re-
order period)

= 1350 units +1200 units – (15 units X 5 days) = 2475 units

iv. Average Stock level = Maximum stock level + Minimum Stock level
2
= 2475 + 855 = 1665 units
2
Alternatively it can also be computed as follows:
Average stock = Minimum stock level + ½ of Re-order Quantity
= 855 units + ½ of 1200 = 1455 units

Working Note:

1. Calculation of ordering cost per unit

₹ 1 X 20% = 0.20

Q.4 PK Company limited has been buying a given time in lot of 1200 units which is a six month
supply; the cost per unit is ₹ 12 and order cost is ₹ 8 per order and carrying cost is 25 per cent.
You are required to calculate the saving per year by buying in Economical lot quantities.

Answer:

Calculation of Economic Order Quantity

Economic Order Quantity = √

A= Annual consumption; C= Carrying Cost/ Holding Cost; O= Ordering Cost

= Economic Order Quantity = √ = 113.13708 units or 114 units.

Calculation of carrying cost = ₹ 12 X 25% = ₹ 3

Calculation of expected saving in cost if units are buying in Economic lot quantities.

Cost at present scenario:

Order size = 1200 units; Number of units required in a year = 2400 units;

Number of contract required = 2400/ 1200 = 2 orders.

Cost per order = ₹ 8; Total order cost = 8 X 2 = ₹ 16

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Carrying cost = Average stock X Carrying cost per unit per annum; Average stock = ½ of order size

Average stock = ½ of 1200 = 600 units, carrying cost = 600 units X ₹ 3 per order = ₹ 1800

Total cost of carrying and ordering = ₹16 + ₹ 1800 = ₹ 1816.

Now calculation of cost at economic lot quantity scenario:

Order Size = 114 units, Number of orders required to be placed = 2400/114 = 21.0526 or 22 orders.

Total ordering cost = ₹ 8 X 22 orders = ₹ 176

Average stock = 114 X ½ = 57 units

Carrying cost = 57 units X ₹ 3 = ₹ 171.

Total ordering cost and carrying cost = ₹ 347

Saving in cost = Cost at present scenario – cost at economic order quantities

= ₹ 1816 - ₹ 347 = ₹ 1469

Q.5 Ganges Pump Company Ltd. uses about 75,000 valves per year and the usage is fairly
constant at 6,250. The valves cost of ₹ 1.50 per unit when bought in large quantities and carrying
cost is estimated to be 20 per cent of average inventory investment on an annual basis. The cost
of place an order and process the delivery is ₹ 18.

It takes 45 days to receive delivery form the date of an order and the safety sock is 3,250 valves is
desired.

You are required to determined (1) Economic Order Quantities and frequency of orders, (2) The
order point, and (3) The most Economic order Quantities if the valves cost is ₹ 4.50 each instead
of ₹ 1.50 each.

Answer:

Calculation of Economic Order Quantity

(1) Economic Order Quantity = √

A= Annual consumption; C= Carrying Cost/ Holding Cost; O= Ordering Cost

= Economic Order Quantity = √ = 3,000 units.

Calculation of carrying cost = ₹ 1.5 X 20% = ₹ 0.3

Frequency of order or Number of Orders = 75,000/3,000 = 25 orders.

(2) Order point or Re- order Quantity = {Maximum Consumption X Maximum lead time} + safety
margin

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= {6250 X 1.5} + 3250 = 12,625 units

If cost is ₹ 4.50 per unit the evaluation of Economic order Quantitates
Then ordering cost is 20% of ₹ 4.50 = ₹ 0.90

Economic Order Quantity = √

= Economic Order Quantity = √ = 1732.0508 units or 1733 units.

Q.6 Precision Engineering Factory ltd. consumes 50,000 units of a component per year. The
ordering, receiving, handling cost is ₹ 3 per order while the trucking cost is ₹ 12 per order.
Further details are as follows deterioration and obsolescence cost ₹ 0.004 per unit per year;
Storage cost is ₹ 1000 per year for 50,000 units. Interest cost is ₹ 0.06 per unit per year. Calculate
the economic order quantity.

Answer:

(1) Economic Order Quantity = √

A= Annual consumption; C= Carrying Cost/ Holding Cost; O= Ordering Cost

= Economic Order Quantity = √ = 4225.77127units or 4226 units.

Working Note

(1) Calculation of carrying cost :

Interest cost = ₹ 0.06 per unit per year
Deterioration and obsolescence cost = ₹ 0.004 per unit per year
Storage cost = [1,000/ 50,000]= ₹0.02 per unit
₹0.084 per unit per annum
(2) Calculation of ordering cost
Storage cost per unit = 1000/50,000 = ₹ 0.02
Handling cost = ₹ 3 per unit, Trucking Cost = ₹ 12 per unit; Total ordering cost = ₹ 15

Q.7 A customer has been ordering 5,000 special design metal columns at the rate of 1000 per
order during the past year. The production cost is ₹ 12 per unit - ₹ 8 for materials and labour and
₹ 4 for overheads (fixed) cost. It cost ₹ 1500 to set up for one run of 1000 column and inventory
carrying cost is ₹ 20 per cent. Since the customer may buy at least 5,000 columns this year, the
company would like to avoid making five different production runs. Find the most economic
production run.

Answer:

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(1) Economic Order Quantity = √

A= Annual consumption; C= Carrying Cost/ Holding Cost; O= Ordering Cost

= Economic Order Quantity = √ = 2500 units.

Working Note

Since we need to find the economic production run therefore installation cost is used instead of cost of
column.

(1) Calculation of carrying cost :

20 per cent of 12 = ₹2.4 per run

Q.8 Royal Industries Ltd. manufactures plastic lunch boxes in a moulding process. On an annual
basis, the industry makes 1000 lunch boxes at a cost of ₹ 4 per unit. The industry differently cost
of carrying the item in the finished goods inventory are 20% of inventory value per year and the
setup cost per production run is ₹200. What is the optimum production run?

Answer:

(1) Optimum production run = √

A= Annual consumption; C= Carrying Cost/ Holding Cost; O= Ordering Cost

Optimum Production Run = √ = 707.1067 runs or 708 runs.

Q.9 M/s Tubes Ltd. is manufactures of picture tubes for T.V. The following are the details of
operation during the current year:

Average monthly market demand (tubes)

2000
Ordering cost (per order)
₹100
Inventory Carrying Cost (per cent per annum)
20
Cost of Tubes (per tubes)
₹500
Normal usage (tubes per week)
100
Minimum Usage (tubes per week)
50
Maximum Usage (tubes per week)
200
Lead time to supply (weeks)
6-8

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Compute from the above:

i. Economic Order Quantity. If the supplier is willing to supply quartely1500 tubes at a

discount of 5 percent, is it worth accepting?
ii. Maximum level of stock
iii. Minimum level of stock
iv. Re-order level

Answer:

(1) Economic Order Quantity = √

A= Annual consumption; C= Carrying Cost/ Holding Cost; O= Ordering Cost

= Economic Order Quantity = √ = 101.98039 units or 102 units.

Evaluation of proposal given by supplier:

Annual normal use of tubes = 100 tubes X 52 weeks = 5200 tubes.

Number of orders required to fulfill the demand = 5200/ 1500 = 3.46666 or 4 orders.

Ordering cost = ₹ 100 X 4 = ₹400

Cost of one tube = 500 – 5% = ₹ 475 (Due to discount given by supplier)

Total cost of Tubes = 5200 tubes X ₹ 475 = ₹ 24,70,000

Carrying cost = Average stock X cost per unit per annum; Average stock = ½ of order size

Average stock = ½ of 1,500 = 750 units; cost per unit per annum = 475 X 20% = ₹ 95

Total carrying cost = 750 units X ₹ 95 = ₹71,250

Total cost = ₹ 24,70,000 + ₹ 400 + ₹ 71,250 = ₹ 25,41,650

Calculation of cost at Economic order Quantity

Number of orders required = 5200/102 = 50.9803 or 51 orders.

Ordering cost = ₹ 100 X 51orders = ₹ 5100

Cost of tubes = ₹ 500 X 5200 tubes = ₹ 26,00,000

Carrying cost = 500 X 20 % = ₹ 100

Total carrying cost = 51 X ₹100 = ₹ 5100

Total Cost = ₹26,00,000 + ₹ 5,100 +₹ 5,100 = ₹

26,10,200

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Total cost incurred at Economic Order Quantity = ₹26,10,200

Total cost incurred at offer given by supplier = ₹ 25,41,650

Since cost incurred at the discounted price is lower than the Economic order quantity therefore
proposal should be accepted by company.

(ii) Maximum Level of Stock = Re-order level + Re-order Quantity –(Minimum usage – Minimum lead
time)

= 1600 + 102 – (50 units X 6 weeks) = 1402 units.

(iii) Re-order level = Maximum consumption X Maximum lead time

= 200 tubes X 8 weeks = 1600 units.

(iv) Minimum level of Stock = Re-order level – (Average usage X Average lead time)

= 1600 units – (7 weeks X 100 units) = 900 units.

Working Notes:

Annual normal use of tubes = 100 tubes X 52 weeks = 5200 tubes.

Ordering cost per order = ₹ 100

Carrying cost of inventory = 20 % of ₹ 500 = ₹ 100

Q.10 Shri Ram enterprise manufactures a special product “Zed”. The following particulars were
collected for the current year.

Monthly Demand of “Zed”, 1000 units

Cost of placing an order, ₹ 100
Annual carrying cost per unit, ₹ 15
Normal usage, 50 units
Maximum usage, 75 units per week
Minimum usage, 25 units per week
Re-order period, 4 to 6 weeks.
Compute form the above (i) Re-order Level (ii) Maximum stock level (iii) Re-order Quantity (iv)
Minimum Stock level (v) Average stock level

Answers:

(i) Re-order Level = Maximum consumption X Maximum lead time

= 75 units X 6 weeks = 450 units.
(ii) Maximum Level of Stock = Re-order level + Re-order Quantity –(Minimum usage – Minimum
lead time)
= 450 + 187 – (25 units X 4 weeks) = 537 units.

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(iii) Re-order Quantity or Economic Order Quantity = Economic Order Quantity = √

A= Annual consumption; C= Carrying Cost/ Holding Cost; O= Ordering Cost

= Economic Order Quantity = √ = 186.18986 units or 187 units.

Annual consumption = 52 weeks X 50 units = 2600 units

Ordering Cost = ₹ 100; Carrying Cost = ₹ 15
(iv) Minimum level of Stock = Re-order level – (Average usage X Average lead time)

= 450 units – (5 weeks X 50 units) = 200 units.

(V) Average Stock level = Maximum stock level + Minimum Stock level

2
= 537 + 200 = 368.5 units or 369 units.
2
Alternatively it can also be computed as follows:
Average stock = Minimum stock level + ½ of Re-order Quantity

Q.11 From the details given below, calculate (a) Re-order Level (b) Maximum Level (c) Minimum
level (d) Danger Level

Re- order quantity is to be calculated on the basis of following information:

Cost of placing a purchase order is ₹ 20.

Number of units purchased during the year is 5,000. Purchase cost inclusive of transportation
cost is ₹ 50. Annual cost of storage per unit is ₹ 5. Details of lead time: Average 10 days;
Maximum: 15 days; Minimum 6 days; For emergency purchases 4 days.

Rate of consumption: Average- 15 units per day; maximum 20 units per day.

Answer:

(i) Re-order level = Maximum Consumption X Maximum Lead time

= 20 units X 15 days = 300 units.
(ii) Maximum level of stock= Re-order level + Re-order Quantity* – (minimum consumption X
Minimum lead time)
= 300 units + 200 units* – (15 units X 4 days) = 440 units.
(v) Minimum level of Stock = Re-order level – (Average usage X Average lead time)
= 300 units – (15 units X 10 days) = 150 units.
Danger level of Stock = Average consumption X Lead time for Emergency purchase
= 15 units X 4 days = 60 units.

Working Note:

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(i) *Re-order Quantity or Economic Order Quantity = Economic Order Quantity = √

A= Annual consumption; C= Carrying Cost/ Holding Cost; O= Ordering Cost

= Economic Order Quantity = √ = 200 units.

Since purchase cost is inclusive of transportation cost therefore cost of purchase is = ₹50 - ₹ 20 = ₹ 30.

Q.12 The purchase department of an organization has received an offer on quantity discount on
its order of material as under:

Price per tonne Tonnes

₹ 1400 Less than 500
₹ 1380 500 and less than 1000
₹ 1360 1000 and less than
₹ 1340 2,000
₹ 1320 2,000 and less than
3,000
3,000 and above
The annual requirement of the material is 5,000 tonnes. The delivery charges per order is ₹
1,200 and the annual stock holding cost is estimated at 20 % of the average inventory. The
purchase department wants you to consider the following purchases options and advise which
among them will be the most economic order quantity presenting the information in a tabular
form:

The purchase quantity options to be considered are : 400 tonnes, 500 tonnes, 1000 tonnes, 2000
tonnes and 3000 tonnes.

Answer:

Statement showing evaluation of total cost at different order size:-

Particulars 400 tonnes 500 tones 1,000 2,000 3,000

tonnes tonnes tonnes
Number of order (w.n.1) 12.5 orders 10 orders 5 orders 2.5 orders 1.6666
Ordering cost per order ₹1,200 ₹ 1,200 ₹ 1,200 ₹ 1,200 ₹ 1,200
Total Ordering cost (a) ₹15,000 ₹ 12,000 ₹ 6,000 ₹ 3,000 ₹ 2,000
Total carrying cost (w.n.2) (b) 56,000 69,000 1,36,000 2,68,000 3,96,000
Purchase price ₹ 1,400 ₹ 1,380 ₹ 1,360 ₹ 1,340 ₹ 1,320
Total purchasing cost (unit x ₹ ₹ ₹ ₹ ₹
price)(c) 70,00,000 69,00,000 68,00,000 67,00,000 66,00,000
Total cost (a+b+c) 70,71,000 69,81,000 69,42,000 ₹ ₹
69,71,000 69,98,000
Since least cost is ₹ 69,42,000 therefore company should select this option.

Working Notes:

i. Calculation of number of order at different lot size:

Number of order = Annual Requirement / number of units in one order

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= 5000/ 400 = 12.5 order; 5000/500= 10 orders; 5000/1000= 5 orders; 5,000/2,000 = 2.5 orders;
5,000/3000 = 1.6666 orders.
ii. Calculation of carrying cost:
Carrying cost = 20 % of average inventory
Average inventory = ½ of order size, i.e.
400 tonnes X ½ = 200; 500 X ½ = 250 tonnes, 1000 tonnes X ½ =500 tonnes; 2,000 X ½ = 1,000;
3,000 tonnes ½ = 1,500 tonnes.
Now, carrying cost = (₹ 1400 x 200) x20% = ₹ 56,000; (₹ 1380 x 250) x 20% = ₹ 69,000; (₹ 1360 x
500) x 20% = ₹ 1,36,000 ; (₹ 1340 x 1,000) x 20% = 2,68,000; (₹ 1320 x 1,500) x 20% = ₹ 3,96,000

Q.13 G ltd. produces which has a monthly demand of 4,000 units. The product requires a
component X which is purchased at ₹ 20. For every finished product, one unit of component is
required. The ordering cost is ₹ 120 per order and the holding cost is 10 percent per annum.

You are required to calculate:

i. Economic order Quantity

ii. The minimum lot size to be supplied is 4,000 units, what is the extra cost, that
company has to incur?
iii. Minimum carrying cost company has to incur?

Answer:

(i) Economic Order Quantity = √

A= Annual consumption; C= Carrying Cost/ Holding Cost; O= Ordering Cost

= Economic Order Quantity = √ = 2,400 units.

Annual consumption of component = 1 x 12 x 4,000 = 48,000 units; Ordering cost = ₹120 per order;
holding Cost = 10% of (48,000 x ₹ 20) = ₹ 96,000/48,000units = ₹ 2 per unit per annum

(ii) Calculation of total cost incurred at 4000 units is supplied in an order.

Purchase price = 48,000 x ₹ 20 = ₹ 96,000
Number of order required = 48,000/4,000 = 12 orders.
Cost per order = ₹ 120; total ordering cost = ₹ 120 x 12 orders = ₹ 1,440;
Total carrying cost = Average inventory x cost per unit per annum
Average inventory = ½ of order size = ½ of 4,000 = 2,000; total Carrying cost = 2 x 2,000 =
₹4,000

Total cost = ₹ 96,000 + ₹ 1440 + ₹ 4,000 = ₹ 1,01,440

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Now, calculation of Total cost at Economic Order Quantity:-

Order size = 2400 units, Number of orders = 48,000/2400 = ₹ 20 orders. Total ordering cost = 20 x ₹ 120
= ₹ 2,400.

Cost of component = ₹ 96,000, Ordering Cost = 20 orders x ₹ 120 = ₹ 2,400; Carrying cost = (½ of 2400
units) x 2 = 2,400

Total Cost = ₹ 96,000 + ₹ 2,400 + ₹2,400 = ₹ 1,00,800

Extra cost at 4,000 units = ₹ 1,01,440 – ₹ 1,00,800 = ₹ 640

(iii) Minimum carrying cost has to incur by company = ₹ 2,400.

Q.14 A company manufactures a product from a raw material, which is purchased at ₹ 60 per kg.
The company incurs a handling cost of ₹ 360 plus freight of ₹ 390 per order. The incremental
carrying cost of inventory of raw material is ₹ 0.50 per kg per month. In addition, the cost of
working capital finance on the investment in inventory of raw material is ₹ 9 per kg per annum.
The production of the product is 1,00,000 units and 2.5 units are obtained from one kg of raw
material.

Required:-

 Calculate the economic order quantity of raw material

 Advise, how frequently orders from procurement be placed.
 If the company proposes to rationalize placement of orders on quarterly basis, what
percentage of discount in the price of raw material should be negotiated.

Answer:-

(i) Economic Order Quantity = √

A= Annual consumption; C= Carrying Cost/ Holding Cost; O= Ordering Cost

= Economic Order Quantity = √ = 2,000 kilograms.

(ii) Number of orders = 40,000 kgs/2000kgs = 20 orders. Frequency of order = 365/20 = 18.25
days or 19 days.
(iii) Calculation of Discount demanded by the company form supplier:

Calculation to cost incurred if material is purchased as quarterly basis:-

Total material consumed in a year = 40,000 kg, Material purchased on quarterly basis =
40,000 kg/ 4 = 10,000 kg.
Carrying cost= ₹ 15 per kg x average inventory, ₹ 15 x ½ of 10,000 = 75,000
Ordering cost = cost per order x number of order; 750 x 4 = ₹ 3,000
Total cost = ₹ 75,000 + ₹ 3,000 = ₹ 78,000

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Calculation of cost at Economic order quantity :-

Number of order = 40,000/2,000 = 20 orders.

Carrying cost = ½ of order size x carrying cost per unit per annum, ½ of 2,000 x ₹ 15 = ₹ 15,000.

Ordering cost = ₹ 750 per order x 20 orders = ₹ 15,000

Total cost = ₹ 15,000 + ₹ 15,000 = 30,000

Extra cost on quarterly purchase = ₹ 78,000 - ₹ 30,000 = ₹ 48,000

Discount demanded by company is not less than ₹ 48,000.

Percentage of discount = 48,000/(40,0000 x 60) = 0.02 or 2 percent

Working Notes:

Raw material consumed to get 1,00,000 units = 1,00,000/2.5 = 40,000 kg.

Ordering cost = ₹ 360 + ₹ 390 =750 per kg
Carrying cost = ₹ 0.50 per kg x 12 months = ₹ 6 per kg + ₹ 9 per kg = ₹15 kg per annum

Q.15 The complete Gardner is deciding on the economic order quantity of two brands of lawn
fertilizers. Super grow and Nature’s own. The following information is collected:-

Fertilizer
Particulars
Super Grow Nature's Own
Annual Demand 2000 bags 1280 bags
Relevant ordering cost per purchase order ₹ 1200 ₹ 1400
Annual relevant carrying cost per bag ₹ 480 ₹ 560
Required:

I. Compute Economic order quantity for Super Grow and Nature’s own.
II. For the economic order Quantity what is sum of the total annual relevant ordering cost
and annual and total annual relevant carrying cost of Super grow and nature’s own?
III. For the EOQ, compute the number of deliveries per year for Super grow and Nature’s own.

Answer:-

Super Grow

(i) Economic Order Quantity = √

Annual consumption of raw material= A

Carrying Cost/ Holding Cost= C

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Ordering Cost= O

A= 2000 units, O= 1200, C= 480

Economic Order Quantity = √ = 100 bags

(ii) Calculation of relevant ordering and carrying cost
Order cost = 1200,
Number of orders = 2000/100 = 20orders,
Total ordering cost= 20 X 1200 = ₹ 24,000
Carrying cost = Average stock X Carrying cost per unit per annum i.e. (½ of 100) X 480 = ₹
24,000
Total ordering and carrying cost = ₹ 48,000
(iii) Number of deliveries = number of order i.e. 20 deliveries.

Nature’s Own

(i) A= 1280 units, O= 1400, C= 560

Economic Order Quantity = √ = 80 bags

(ii) Calculation of relevant ordering and carrying cost

Order cost = 1400,
Number of orders = 1280/80 = 16 orders,
Total ordering cost= 16 X 1400 = ₹ 22,400
Carrying cost = Average stock X Carrying cost per unit per annum i.e. (½ of 80) X 560 = ₹ 22,400
Total ordering and carrying cost = ₹ 44,800
(iii) Number of deliveries = number of order i.e. 16 deliveries.

Q.16 PQR tubes Ltd. are manufactures of pictures rubes for T.V. The following are the details of
the operations during the current financial year:-

Ordering cost (per order) ₹ 100

Inventory carrying cost (per annum) 20%
Cost of the tubes (per tube) ₹ 500
Normal usage (tubes per week) 100
Minimum usage (tubes per week) 50
Maximum usage 200
Lead rime to supply 6-8
week

Required:-

I. Economic order quantity. If the supplier is willing to supply quarterly 1500 units at a
discount of 5% is it worth accepting it?
II. Re-order level

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III. Maximum level of stock

IV. Minimum level of stock

Answer:

I. Economic Order Quantity = √

Annual consumption of raw material= A

Carrying Cost/ Holding Cost= C

Ordering Cost= O

Annul usage of tubes = 52 weeks x 100 tubes per week = 5200 tubes, O= 100, C= 20 % of ₹ 500
= 100

Economic Order Quantity = √ = 101.9803 or 102 tubes.

Evaluation of suppliers offer:-

Cost if units purchased at Economic order quantity:-\

Total ordering cost = number of orders x cost per order; Number of orders = 5200/ 102 = 50.9803 or
51 orders.

Total ordering cost = 51 x ₹ 100 = ₹ 5,100

Total carrying cost = Average stock x carrying cost per annum per unit: average stock = ½ of order
size,

Total carrying cost = (½ of 102 bags) x ₹ 100 = ₹ 5100; Purchase cost = 5200 tubes x ₹ 500 =
26,00,000

Total cost = ₹ 26,10,200

Evaluation of total cost at Suppliers offer:-

Quarterly supply = 1500 units. Offer price = ₹ 500 – 5% of 500 = ₹ 475

Total cost of purchase = 5,200 x 475 = 24,70,000;

Carrying cost = ½ of 1500 x (₹ 475 x 20%) per unit per annum = 71,250

Ordering cost = ₹ 100 per order x 4 orders = ₹ 400; Total cost = 24,70,000 + + 400 =₹ 25,41,650

Since total outflow of fund is least in the suppliers offer as compare to economic order level therefor
suppliers offer can be accepted and it provide cost saving of ₹ 68,550(₹ 26,10,200 – ₹ 25,41,650)

II. Re order level = Maximum usage x maximum lead time; = 200 tubes x 8 weeks = 1600 units.

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III. Maximum level of stock = Re-order level + Re-order quantity – (Minimum lead time x
minimum consumption)
= 1600 tubes + 102 tubes (50 tubes x 6 weeks) = 1402 tubes.
IV. Minimum level of stock = Re-order level -(Average lead time x Average consumption)
= 1600 tubes – (100 tubes x 7 weeks) = 900 tubes.

Q.17A company has the option to procure a particular material from two sources:

 Source I : assure that defectives will not be more than 2% of supplied quantity.
 Source II: does not give any assurance, but on the basis of past experience of supplies
received from it , it is observed that defective percentage is 2.8%.

The material is supplied in lots of 1,000 units. Source II supplies the lot at a price, which is lower
by ₹ 100 as compare to source I. The defective units of material can be rectified for use at a cost
of ₹ 5 per unit.

You are required to find out which of the two sources is more economical.

Answer:

Statement showing the evaluation of most economical source:

Particulars Source I Source II

Material supplied (in units) 1000 1000
Defective units 2% 2.8%
Total defectives units (1 x 2) 20 28
Rectification cost per unit ₹5 ₹5
Total rectification cost ₹ 100 ₹ 140
Additional cost charged in source I ₹ 100 NIL
TOTAL COST ₹ 200 ₹ 140
As we can see that cost in source II is lower than the source I therefore Source II should be selected for
supplies.

Q.18 A factory uses 4,000 varieties of inventory. In term of inventory holding and inventory
usage, the following information is completed.

Number of varieties of Percentage % value of inventory % of inventory usage

inventories holding (average) (in end product)
3,875 96.875 20 5
110 2.750 30 10
15 0.37550 50 85
4,000 100 100 100
Classify inventory as per ABC analysis with reasons.

Answer:

(a) 15 number of varieties of inventory item should be classified as ‘A’ category (as per ABC
analysis) as, while they constitute less than one percent (0.375 per cent) of total number of
inventory items handled by the store, their value is 50 percent. Besides, these verities (15)

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account for 85 per cent of total inventory usage (in-end product). Thus this group is the most
important.
(b) 3875 number of inventory items should be classified as ‘C’ category as they constitute 96.875
per cent of total varieties of inventory items handled by store, such inventories account for only
20% of value and 5% of total inventory usage (in-end product). Thus this group is the most
important.
(c) 10 number of inventory item should be classified as ‘B’ category as they occupy intermediate
position between ‘A’ category (15 items) and ‘C’ category (3,875) items. These items (110)
require more attention than ‘c’ category items but less attention than ‘A’ category item as per
ABC analysis. In financial term also, these items require 30 per cent investment (less than A
category but more than C category) with 2.75 per cent of total number of varieties of inventory
handled by stores; such is much higher for C category (96.875 per cent) and lower for A
category (0.375 per cent).

Q.19 One parcel containing two vital components were received by a factory and the invoice
relating the same is discloses the following:

I material 500 kg @ ₹ 2 per kg

₹ 1000
II material 600 kg @ ₹ 1.60 per kg
₹ 960
Insurance
₹ 39.20
Road Tax
₹ 98
Freight, etc.
₹ 55
Transit loss of 10 kg of material I and 6 kg of material II was noted. However, no insurance
claim could be made. Find the issue rate per unit of each material, if the provision of
obsolescence of 10 per cent be made find the revised issue rates.

Answer: Statement showing the evaluation of issue rate of per unit:-

Particulars Material I Material II

Purchase price ₹ 1,000 ₹ 960
Insurance (in ratio of value)(1000:960) ₹ 20 ₹ 19.20
Road Tax(in ratio of value)(1000:960) ₹ 50 ₹ 48
Freight, etc. (in ratio of quantity)(5:6) ₹ 25 ₹ 30
Total cost ₹ 1095 1057.2
Total Material purchased 500 kg 600 kg
Loss-in-transit 10 kg 6kg
Net material received 490 kg 594 kg
Provision for obsolescence 10% of quantity received 49 kg 59.4 kg
Quantity available for issue 441 kg 534.6 kg
Issue price ₹ 2.4829 ₹ 1.9775
Note:- Provision for obsolescence is in respect of rates at which material to be used. In case
provision is required against costing then it will increase the cost.

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Q.20 A manufacturer of Surat purchased three chemicals, A, B, and C from Mumbai. The
invoices give the following information:-

Chemical A 3,000kgs @ ₹ 4.20 per kg

₹12,600
Chemical B 5,000 kgs @ ₹ 3.80 per kg
₹ 19,000
Chemical C 2,000 kgs @ ₹ 4.75 per kg
₹ 9,500
Road tax
₹ 2055
Railway freight
₹ 1,000
Total cost
₹ 44,155
A shortage of 200 kgs in chemical A, of 280 kgs in chemical B and of 100 kgs in chemical C was
noticed due to brokerages. At Surat , the manufacturer paid octori duty @ 0.10 per kg. He also
paid cartage, ₹ 22 for chemical A , ₹ 63.12 for chemical B and ₹ 31.80 for chemical C. Calculate
the stock rate that would you suggest for pricing issue of chemicals assuming a provision of
5per cent towards further deterioration.

Answer:

Calculation of issue price of Chemical A, B and C:-

Particulars Chemical Chemical B Chemical C

A
Purchase price ₹ 12,600 ₹ 19,000 ₹ 9,500
Add: Road tax (in ratio of purchase value)* ₹ 630 ₹ 950 ₹ 475
Add: Railway freight (in ratio of quantity purchased)* ₹ 300 ₹ 500 ₹ 200
Add: Octroi duty @ 0.10 per kg of material received ₹ 280 ₹ 472 ₹ 190
Add: Cartage ₹ 22 ₹ 63.12 ₹ 31.80
Total (a) ₹ 13,832 ₹ 20, ₹ 10,396.8
985.12
Quantity of Chemical purchased (b) 3,000 kg 5,000 kg 2,000 kg
Breakage loss (c) 200 kg 280 kg 100 kg
Net quantity received (b - c) 2800 kg 4720 kg 1900 kg
Less: provision for deterioration 5% of quantity 140 kg 236 kg 95 kg
received
Quantity available for issue (d) 2660 kg 4,484 kg 1,805 kg
Cost of issue per kg ₹ 5.2 ₹ 4.68 ₹ 5.76

Q.21 A company manufactures 5,000 units of a product per month. The cost of placing an
order is ₹ 100. The purchase price of a raw material is ₹ 10 per kg. The re-order period is 4 to
8 weeks. The consumption of raw material is varies from 100 kgs to 450 kgs per week, the
average consumption being 275 kgs. The carrying cost of inventory is 20 per cent per annum.
You are required to calculate:-

 Re-order level

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 Re-order Quantity
 Maximum level of stock
 Minimum level of stock
 Average stock level

Answer:-

I. Re-order level = Maximum consumption x maximum lead time

= 450 kg x 8 weeks = 3600 kg.

II. Re-order quantity or Economic Order Quantity = √

Annual consumption of raw material= A

Carrying Cost/ Holding Cost= C

Ordering Cost= O

Annul consumption of material = 52 weeks x 275 kgs = 14,300 kg, O= ₹ 100, C= 20 % of ₹ 10 = 2

Economic Order Quantity = √ = 1195.8260 or 1196 kg.

III. Maximum level of stock = Re-order level + Re-order quantity – (Minimum lead time x minimum
consumption)

= 3600 kg + 1196 kg (100 kg x 4 weeks) = 4396 kg.

IV. Minimum level of stock = Re-order level -(Average lead time x Average consumption)
= 3,600 kg – (6 weeks x 275 kg) = 1950 kg.
V. Average level of stock = (Maximum level of stock +Minimum Level of stock)/2
= (4396 kg + 1950 kg)/2 = 3173 kg.
Or
Average stock = Minimum stock level + ½ of Re-Order quantity; = 1950 kg + ½ of 1196 kg = 2548
kg.

Q.22 RST ltd. has received an offer of quantity discount on its order of material unde:-

Price per tonne Tonnes Number

₹ 9,600 Less than 50
₹ 9,360 50 and Less than 100
₹ 9,120 100 and Less than 200
₹ 8,880 200 and Less than 300
₹ 8,640 300 and above

The annual requirement for the material is 500 tonnes. The ordering cost per order is ₹ 12,500
and the holding cost is estimated at 25% of the material per annum.

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Required :-

i. Compute most economic purchase level

ii. Compute EOQ if there are no quantity discount and the price per tonne is ₹ 10,500.

Answer:

i. Statement showing the most economical purchase level:- Annual requirement of material = 500
tonnes
Number of tonnes 40 tonnes 50 tonnes 100 200 tonnes 300 tonnes
purchased(a) tonnes
Cost of material per tonne(b) ₹ 9600 ₹ 9360 ₹ 9120 ₹ 8,880 ₹ 8,640
Value of one order(a x b)=c ₹ 3,84,000 ₹ 4,68,000 ₹ 9,12,000 17,76,000 ₹
25,92,000
Total cost of purchase(500 x 48,00,000 ₹ ₹ ₹ ₹
rate)(d) 46,80,000 45,60,000 44,40,000 43,20,000
Ordering cost per order(f) ₹ 12,500 ₹ 12,500 ₹ 12,500 ₹ 12,500 ₹ 12,500
Number of orders(d/c) (e) 12.5 10 5 2.5 1.6666
Total ordering Cost(e x f)=g ₹ 1,56,250 ₹ 1,25,000 ₹ 62,500 ₹ 31,250 ₹20,833
Total carrying cost * (h) ₹ 48,000 ₹ 58,500 ₹ 1,14,000 ₹ 2,22,000 ₹ 3,24,000
Total cost (c + f +g) ₹ ₹ ₹ ₹ ₹
50,04,250 48,63,500 47,63,500 46,93,250 46,64,833
Most economical level of quantity is at 300 tonnes.

* Total carrying cost = average inventory x carrying cost per unit per annum; Average inventory = ½ of
order size

At 40 tonnes= ½ of 40 tonnes x (₹ 9600 x 25%) = ₹ 48,000

At 50 tonnes = ½ of 50 tonnes x (₹ 9360 x 25%) = ₹ 58,500
At 100 tonnes = ½ of 100 tonnes x (₹ 9,120 x 25%) = ₹1,14,000
At 200 tonnes = ½ of 200 tonnes x (₹ 8,880 x 25%) = ₹ 2,22,000
At 300 tonnes = ½ of 300 tonnes x (₹ 8640 x 25%) = ₹ 3,24,000
II.

VI. Economic Order Quantity = √

Annual consumption of raw material= A

Carrying Cost/ Holding Cost= C

Ordering Cost= O

Annul consumption = 500 tonnes, O= ₹ 12,500, C= 25 % of ₹ 10,500 = ₹ 2625

Economic Order Quantity = √ = 69 tonnes.

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Q.23 SK enterprise manufactures a special product “ZE”. The following particulars were collected
for the year 2004:-

Annual consumption
12,000 (360 days)
Cost per unit ₹1
Ordering Cost ₹ 12 per order
Inventory carrying cost 24%
Normal lead time 15 days
Safety stock 30 days
consumption

Required:- i) Re-order quantity (ii) Re-order level (iii) What should be the inventory level
(ideally) immediately before the material order is received?

Answer:-

i) Re-order Quantity or Economic Order Quantity = √

Annual consumption of raw material= A

Carrying Cost/ Holding Cost= C

Ordering Cost= O

Annul consumption = 12,000 units, O= ₹ 12, C= 24 % of ₹ 1= ₹ 0.24

Economic Order Quantity = √ = 1095.4451 units or 1096units.

ii) Re-order level = (Normal lead time x Daily consumption) + safety stock
= {15 days x (12,000/360) } + 1000 units = 1,500 units.
iii) Minimum level of stock = Re-order level – (normal consumption x average lead time)
= 1,500 units - (33.33333 units x 15 days) = 1,000 units.

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