Foster Drugs, Inc., handles a variety of health and beauty products. A particula
ID: 396043 • Letter: F
Question
Foster Drugs, Inc., handles a variety of health and beauty products. A particular hair conditioner costs Foster Drugs $2.95 per unit. The annual holding cost rate is 20% of the value of the hair conditioner. Every week, Foster Drugs experiences demand for 150 units of this hair conditioner.
a. Now assume that Foster Drugs’ supplier has lead time of 1 week in getting a shipment processed and delivered and the weekly demand described above is normally distributed with an average of 150 units and a standard deviation of 40 units. What is the firm’s reorder point if they are willing to tolerate a stockout of 1% in any one cycle?
c. Assuming that the safety stock found in part c. is kept as a constant buffer throughout the course of the year, how much does this increase Foster Drugs holding cost by (compared to a model when demand is deterministic)?
Explanation / Answer
Chance of stockout = 1%
Cycle probability = 100 – 1 = 99% ( 0.99)
Corresponding Z value for cycle probability of 0.99 = NORMSINV ( 0.99) = 2.3263
Standard deviation = 40 units
Safety stock = Z value x Standard deviation
= 2.3263 x 40 = 93.052 ( 93 rounded to nearest integer)
Reorder point = Average weekly demand x Lead time ( weeks ) + safety stock
= 150 x 1 + 93
= 243