Sinotech Ltd (Sinotech) is a distributor of semiconductors products. It purchase
ID: 2515289 • Letter: S
Question
Sinotech Ltd (Sinotech) is a distributor of semiconductors products. It purchases an integrated circuit (IC) product called Black Stone' from a global semiconductors manufacturer at a wholesale cost of $200 and resells it to end customers. Sinotech forecasts that demand of Black Stone' in 2018 is 500,000 units. Ordering costs are $800 per order and carrying costs are $50 per unit, including the opportunity cost of holding inventory Required: (a) Compute the optimal order quantity using the EOQ model (b) Determine the following: (3 marks) (6 marks) (i) The number of orders per year; (ii) The annual relevant total cost of ordering and carrying inventory (c) A new financial controller joined Sinotech early this year. He suggested the Management to implement a JIT system. From his analysis, the order quantity will reduce to 560 units. To cope with the higher ordering frequency, the purchasing team is required to improve the supply process and the ordering cost is expected to be cut down to $150 per order. What will be the annual relevant total cost of ordering and carrying Black Stone' (4 marks) in inventory under the JIT system? (d) The controller believes that the JIT system has advantages over using the (4 marks) EOQ Model. Do you agree and why?Explanation / Answer
Solution:
Part a – Optimal Order Quantity
Optimal order quantity is the quantity at which company has minimum cost.
Optimal Order Quantity = ((2 x Annual Demand x Ordering Cost per order) / Carrying Cost per unit per annum)1/2
= ((2*500,000*800)/50)1/2
= (16,000,000)1/2
= 4,000 Units
Part b(i) – Number of Orders per year = Total Annual Demand / Optimal Order quantity
= 500,000 / 4000
= 125 orders
Part b (ii) – Total relevant total cost
$$
Total Ordering Cost
(Number of orders 125 * Ordering Cost per order 800)
$100,000
Total Carrying Cost
(1/2 x Optimal order quantity 4,000 x carrying cost per unit per annum 50)
$100,000
Total Relevant Cost
$200,000
Part c –
JIT stands for Just in Time. Under this system company procures the material when they need. No Inventory or material or very minimum inventory level is maintained in JIT.
Order Quantity = 560 Units
Number of orders needed per year = Total Annual Demand / Order Quantity
= 500,000 / 560
= 893 orders
Ordering Cost per order = $150 per order
Total Ordering Cost = Number of Orders 893 x Ordering cost per order 150 = $133,950
$$
Total Ordering Cost
(Number of orders 893 * Ordering Cost per order 150)
$133,950
Total Carrying Cost
(1/2 x Order quantity 560 x carrying cost per unit per annum 50)
$14,000
Total Relevant Cost
$147,950
Part d –
Yes, the total annual relevant cost under JIT is $147,950 however under EOQ it is $200,000.
Company will save annually $52,050
Part e –
The management should consider following factors before adopting JIT system:
(i) There should be regular supply of material at regular interval throughout the production process.
(ii) Quality of Material should be good.
(iii) Credibility of Supplier in the market.
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$$
Total Ordering Cost
(Number of orders 125 * Ordering Cost per order 800)
$100,000
Total Carrying Cost
(1/2 x Optimal order quantity 4,000 x carrying cost per unit per annum 50)
$100,000
Total Relevant Cost
$200,000