CONTINUOUS REVIEW INVENTORY SYSTEMS: PRACTICE PROBLEMS

1. An office orders stationery from a supplier. The cost of paper is $20 per ream. The
ordering cost is $33 per order. The annual cost of carrying the inventory is 0.25 (25%) of
the unit cost per ream. The annual demand is 43,200 reams of paper. What is the annual
carrying cost of inventory, assuming that the EOQ is ordered?
Ans: $1,800
2. The annual demand for a product is 15,000 units. The ordering cost is $240 per order and
each unit costs $21.50. Annual capital, taxes, storage, and spoilage costs average 0.20
(20%) of the unit cost. What is the annual cost if using the EOQ method to set the order
quantity? (round off to 1 decimal place)
Ans: $5,564.2
3. The average daily demand for white wine at a restaurant is 68 bottles, with a standard
deviation of 15 bottles. The lead time for delivery from the supplier, a California winery,
is nine days from the time of order. The restaurant operates seven days a week. If the
restaurant follows a continuous review reorder point system and wants to offer a 99%
service level, how much safety stock should be maintained? (round up to the next integer)
Ans: 116 bottles

4. Demand at Craden for disposable coffee cups averages 10,000 per month (4.33 weeks),
with a standard deviation of 1,000 cups. The lead time is four weeks from time of order
to delivery. If Craden uses a continuous review inventory system with an order quantity
of 20,000 cups and desires a 98% service level, calculate the following (final answer for
each part to be rounded off to the next integer):
a. The safety stock of cups
Ans: 4,652 units
b. The reorder point for cups
Ans: 13,890 units
c. The average inventory of cups
Ans: 14,652 units
 PERIODIC REVIEW INVENTORY SYSTEMS: PRACTICE PROBLEMS

1. Demand for an item is 1,664 units per year with a standard deviation of 60. A periodic
review system is used with an order interval of four weeks. Order lead time is three
weeks. Assume 52 weeks per year.
a. How many orders will be placed per year?
Ans: 13
b. What is the average order size?
Ans: 224 units
c. What target inventory is required for a 97% service level? (round up to nearest integer)
Ans: 266 units

2. An office orders stationery from a supplier every two weeks with a lead time of 0.5
weeks. The cost of paper is $0.51 per ream. The annual cost of carrying the inventory is
0.22 (22%) of the unit cost per ream. Weekly demand is 425 reams of paper with a
standard deviation of 75 reams (consider z = 1.645).
a. What is the annual carrying cost of cycle inventory?
Ans: $47.70
b. What is the annual carrying cost of safety stock?
Ans: $21.90

3. Demand at Carey for disposable coffee cups averages 10,000 per month (4.33 weeks)
with a standard deviation of 1,000 cups. The lead time is three weeks from time of order
to delivery. If Carey uses a periodic review inventory system with a monthly review
period and desires a 98% service level (use single-tailed z-table), calculate the following:
a. The safety stock of cups
Ans: 2673 cups
b. The target inventory for cups
Ans: 19601 cups
 NEWSVENDOR MODEL

1. Tony Express Creations Inc. is a manufacturer of party hats, primarily for the Halloween season. (80
percent of their yearly sales occur over a six-week period.) One of their popular products is the Elvis
wig, complete with sideburns and metallic glasses. The Elvis wig is produced in China, so Tony
Express must make a single order well in advance of the upcoming season. Raymond, the owner of
Tony Express, expects demand to be 25,000 and the following is his entire demand forecast:

Q Prob (D = Q)
5000 0.0181
10000 0.0733
15000 0.1467
20000 0.1954
25000 0.1954
30000 0.1563
35000 0.1042
40000 0.0595
45000 0.0298
50000 0.0132
55000 0.0053
60000 0.0019
65000 0.0006
70000 0.0002
75000 0.0001

The Elvis wig retails for $25, but Tony Express’s wholesale price is $12. Their production cost is $6.
Leftover inventory can be sold to discounters for $2.50.
a. Suppose Tony Express orders 40,000 Elvis wigs. What is the chance they will have to
liquidate 10,000 or more wigs with a discounter?
Ans: 0.7852 or 78.52%

b. What order quantity maximizes Tony Express’s expected profit?

c. If Tony Express wants to have a 90 percent in-stock probability, then how many Elvis wigs
should be ordered?
Ans: 40,000 units

d. If Tony Express orders 50,000 units, then how many wigs can they expect to have to
liquidate with discounters?
Ans: 25,070 units
2. EnvoTable is a retailer of specialty organic and ecologically friendly foods. In one of their
Cambridge, Massachusetts, stores, they plan to offer a gift basket of Tanzanian teas for the holiday
season. They plan on placing one order and any leftover inventory will be discounted at the end of
the season. The expected demand 𝜇 for this store is 4.5 units and the density function for the demand
𝑒 −𝜇 𝜇 𝑑
of 𝑑 units is 𝑃(𝐷 = 𝑑) = 𝑑! . The gift basket sells for $55, the purchase cost to EnvoTable is $32,
and leftover baskets will be sold for $20.
a. If they purchase only 3 baskets, what is the probability that some demand will not be
satisfied?
Ans: 𝟏 − (𝑷(𝑫 = 𝟎) + 𝑷(𝑫 = 𝟏) + 𝑷(𝑫 = 𝟐) + 𝑷(𝑫 = 𝟑)) = 𝟎. 𝟔𝟎𝟑𝟒 or 𝟔𝟎. 𝟑𝟒%

b. If they purchase 5 baskets, what is the probability that they will have to mark down at least 3
baskets?
Ans: 𝑷(𝑫 = 𝟎) + 𝑷(𝑫 = 𝟏) + 𝑷(𝑫 = 𝟐) = 𝟎. 𝟏𝟑𝟔𝟖 or 𝟏𝟑. 𝟔𝟖%

c. Suppose they purchase 4 baskets. How many baskets can they expect to sell?
Ans: 3.46 baskets

d. Suppose they purchase 6 baskets. How many baskets should they expect to have to mark
down at the end of the season?
Ans: 1.94 baskets

e. Suppose EnvoTable orders 5 baskets. What is its expected profit?

A simplified version of Del Piero’s pasta product – all 200 retailers in Sonipat are served by a single
Distribution Centre (DC). To attract more pasta-loving kids, Del Piero bundles a free toy for each unit of
pasta packet. Procuring toys involves high lead time as they must be outsourced from China through a 3PL
service provider. At the time of placing an order for the toys, demand (units of toys) for the promotion at
each retailer is assumed to follow a normal distribution with µ = 2251 and σ = 1600.

Consider the following cases and give suitable responses:

Case (a). DC places one order each for all retailers to the 3PL. DC also desires an in-stock probability of at
least 85 percent for each retailer. What is the optimal order size for each order? Evaluate the risks in this
decision.
Ans: 4,555 units for each retailer, a total of 9,11,000 units

Case (b). Suppose that DC orders based on the situation in case (a) and keeps the entire quantity as a
combined inventory to be served as and when needed by the retailer. DC estimates that the coefficient of
variation (cv)1 of demand in this arrangement is half of the cv of demand in case (a). What is DC’s in-stock
probability in this case? Comment on the trade-offs involved in this case.
Ans: 99.8 percent service level

Case (c). Suppose that DC now places an aggregate single order for all 200 retailers. Each retailer will
receive deliveries from DC inventory as and when needed. Again assume that the coefficient of variation of
demand in the aggregate order is half of that in case (a). What is the optimal order size in case (c)? Compare
the risks in this decision with the risks you determined in case (a). Assume that the desired service level is
same as in case (a).
Ans: 6,80,600 units