Tecnologo

MEMORANDUM

To : Aydın Ulucan
From: Fazilet Aydos
Subject: Nightingale Drugstore Inventory Policy

The following report details ordering recommendations for Totalee toothbrushes at the Nightingale Drugstore. Based on the past demand and cost data, the results were generated using EOQ Model to minimize total annual inventory cost.
• Demand is average of 210 toothbrushes permonth.
• Ordering cost is $3,91 per order.
• The price per toothbrush is $1,25 and annual holding cost for the inventory is 12 percent of the capital tied up in the inventory of Totalee toothbrushes.
• If the warehouse located 20 miles from Nightingale is closed, the drugstore has to place orders with a warehouse located 350 miles away and so, it has to wait 5 days after it places anorder to receive the shipment.
• If planned shortages is allowed, the estimation of shortage cost is $1,30 per unit short per year. But shortage cost can change in the range of $0,85 and $25.
• Totalee can charge $1.21 per toothbrush for any order of up to 500 toothbrushes, $1.11 per toothbrush for orders of more than 500 but less than 1000 toothbrushes, and $1.01 per toothbrush for orders of 1000toothbrushes or more.


RECOMMENDED INVENTORY POLİCY

If there are no shortage cost and quantity discount, the drugstore should order 362 toothbrushes when the inventory level reaches 0. This causes $54 total variable inventory cost per year approximately. If this policy is appropriate, 362 toothbrushes should be ordered once at 7,5 weeks (that’s, 7 times each year).
Because of financialproblems, if Totalee decides to close the warehouse located 20 miles from Nightingale, warehouse located 350 miles away will be convenient to place orders. Then, this distance will cause lead time. Therefore, it can be necessary to wait 5 days after the order is placed. In this case, when the inventory level declines to 35 toothbrushes, 362 toothbrushes should be ordered with a total annualvariable inventory cost of $54,37. Lead time does not affect the cost and the quantity of order, changes only the ordering time.
Customers are willing to wait to buy the toothbrushes from Nightingale since they have high brand loyalty and since Nightingale sells the toothbrushes for less. But they will become upset with the inconvenience of shopping at Nightingale and will perhaps begin looking foranother store providing better service. So, making customers wait can be profitable because of the decrease in total holding cost. But on the other hand, this situation creates a cost, shortage cost, because of the losing customer goodwill and future sales.
If planned shortages is allowed to occur, shortage cost is estimated as $1,30 per unit short per year. In this case, 383 toothbrushes shouldbe ordered when the inventory level reaches –5 toothbrushes. That’s, after sending back 5 customers Nightingale should order 383 toothbrushes. When the order reaches to Nightingale 5 days later, inventory level rises to 343 toothbrushes. The total variable inventory cost becomes $51,48 per year with this inventory policy. Planned shortages reduce the total variable cost by $2,89 , in another word,%5,3.
Against the probability that the shortage cost estimation of $1,30 is wrong, I computed the total variable inventory cost for possible minimum and maximum shortage cost values again. Shortage cost can change in the range of $0,85 and $25.
If the shortage cost is $0,85 the order quantity become 393 toothbrushes. Since the shortage cost is very low (because customer loyalty is very high),making customers wait will be profitable (because it decrease the holding cost). After 24 customers return without buying any toothbrush, the order should be placed. Until the order arrives, total 59 customers are sent back (assume all customers want only one toothbrush) . With this inventory policy maximum inventory level becomes 334 toothbrushes and total variable inventory cost declines to...