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Operations Research
Notes As it will not be accommodative and feasible to discuss all these parameters in length in this
chapter, only few important of them are discussed.
Notes There are three basic questions of inventory control which every manager addresses:
1. What items should be stock?
2. When should the order be placed to replenish inventory?
3. How much should be ordered in each replenishment?
13.1 Right Quantity of Raw-material
Determination of right quantity of raw-material is a major task faced by a buyer. Say if an
industry requires 1,000 units in the form of raw materials per annum, whether it is going to
purchase all the 1,000 units at a time by placing a single order or whether it is going to buy once
a month or once in two months or six months etc. If the cost aspect is considered here i.e., if the
firm is going to order for 1,000 units at a time means, it will have to invest huge amount at a time
and the storage or cost of carrying or stocking comes into picture. Even the stock will be
unnecessarily piled-up and the working capital gets blocked-up irrespective of the fact that the
large buying is always cushioned by quantity discount. Otherwise, if the firm is going to order
say – twelve times for 1,000 units, then the ordering cost or cost of placing an order every time,
the availability of required raw-material, price fluctuation, etc., come-up into picture. In other
words, if the firm buys the raw-material, in large quantities, the carrying cost will be high and
if it buys frequently or at frequent intervals to avoid overstocking, the ordering cost will be
high. The next question is how to balance the cost at a reasonable point? The emergence of
Economic Order Quantity (EOQ) concept has helped in answering the question. EOQ, as the very
name says that the order quantity which is about to be placed is economical.
Two types of costs are associated with the order quantity are:
1. Ordering Cost: The cost which is incurred to place an order is ordering cost. For example,
clerical expenses, expenses for scrutinizing the quotations, cost of inspection, follow-up
etc. Hence, the total ordering cost is determined with the help of a mathematical formula:
Where, T.O.C = Total Ordering Cost
O.C./Order = Ordering Cost per Order
U = Annual usage
Q = Order quantity
2. Carrying Cost: The cost incurred in stocking or storing the lot purchased is the carrying
cost. For example, store-keeping cost, material handling cost, insurance, cost of risks; loss
of interest on capital invested on inventory, etc. Usually, this is represented in terms of
percentage on purchase price of average quantity to be held and is determined with the
help of a mathematical formula:
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