Concept:
The Annual cost of the inventory is given as
TC = Material Cost + Holding Cost + Downtime cost
The down cost means the cost associated with the changeover, this change over may be due to the time taken in loading the machine, loading-unloading the raw material bins, or simply the time which is taken to make the system start working upon the new inventory.
Material cost = Cost per piece (C) × Annual usage value
Holding cost = \(\frac{Q}{2} \times C \times \frac{r}{{100}}\)
Where r is the holding cost rate per year
Q is the inventory ordered at a time
Downtime cost for one order = Cost of downtime/hr × Change over time
The downtime cost and the holding cost are the two variable costs here, therefore for the optimum cost they should be equal to each other
\(\frac{Q^*}{2} \times C_h = \frac{D}{Q^*}\times C_d\)
\(EOQ\left( {{Q^*}} \right) = \sqrt {\frac{{2D{C_d}}}{{{C_h}}}} \)
Where D is the demand/year, Ch is Holding cost/unit/year, Cd is the downtime cost/order
Calculation:
Given, for case (i)
Q = 1000, C = Rs. 10, r = 10% and Cost of downtime = 200/hr, Change over time = 2 hrs
Then,
\(C_h=10\times\frac{10}{100}=Rs;1/unit/year\)
\(C_d=200\times2=400/order\)
\(\left( {{Q^*}} \right) = \sqrt {\frac{{2D{C_d}}}{{{C_h}}}} = \sqrt {\frac{{2 \times 1000 \times 400}}{1}} = 894.427;Units\)
Total cost for Case 1
\({T_{c1}} = \frac{{{Q^*}}}{2} \times {C_h} + \frac{D}{{{Q^*}}} \times {C_d} + D \times C\)
\({T_{c1}} = ;\frac{{894.427}}{2} \times 1 + \frac{{1000}}{{894.427}} \times 400 + 1000 \times 10 = Rs.;10894.427\)
Case (ii)
800 units are ordered from vendor X then total cost from vendor X, only the units will change other conditions (holding and downtime cost) will remain the same as the vendor is the same
For quantities ordered from the vendor x
\(Q_x^* = \sqrt {\frac{{2 \times 800 \times 400}}{1}} = 800;units\)
Total cost for vendor x
\({T_{cx}} = \frac{{Q_x^*}}{2} \times {C_h} + \frac{D}{{Q_x^*}} \times {C_d} + D \times C;\)
\({T_{cx}} = \frac{{800}}{2} \times 1 + \frac{{800}}{{800}} \times 400 + 800 \times 10 = Rs.;8800;\)
For vendor Y
Q = 200, C = Rs. 5, r = 100% and Cost of downtime = 200/hr, Change over time = 6 minutes
Then,
\(C_h=5\times\frac{100}{100}=Rs;5/unit/year\)
\(C_d=200\times\frac{6}{60}=20/order\)
\(Q_y^* = \sqrt {\frac{{2 \times 200 \times 20}}{{50}}} = 40;units\)
\({T_{cy}} = \frac{{Q_y^*}}{2} \times {C_h} + \frac{D}{{Q_y^*}} \times {C_d} + D \times C\)
\({T_{cx}} = \frac{{40}}{2} \times 5 + \frac{{200}}{{40}} \times 20 + 200 \times 5 = Rs.;1200\)
Total cost for the second case
Tc2 = Tcx + Tcy = 8800 + 1200 = Rs. 10000
\(% reduction = \frac{{{T_{c1}} - {T_{c2}}}}{{{T_{c1}}}} \times 100 = \frac{{10894.427 - 10000}}{{10894.427}} \times 100 = ;8.209% \)
Note:
If all the quantities are ordered through a single order then,
Calculation:
Given, for case (i)
Q = 1000, C = Rs. 10, r = 10% and Cost of downtime = 200/hr, Change over time = 2 hrs
Then,
\({T_{c1}} = 1000 \times 10 + \frac{{1000}}{2} \times 10 \times \frac{{10}}{{100}} + 200 \times 2 = Rs.;10900\)
Case (ii)
800 units are ordered from vendor X then total cost from vendor X, only the units will change other conditions will remain the same as the vendor is the same
\({T_{cx}} = 800 \times 10 + \frac{{800}}{2} \times 10 \times \frac{{10}}{{100}} + 200 \times 2 = Rs.;;8800\)
For vendor Y
Q = 200, C = Rs. 5, r = 100% and Cost of downtime = 200/hr, Change over time = 6 minutes
\({T_{cy}} = 200 \times 5 + \frac{{200}}{2} \times 5 \times \frac{{100}}{{100}} + 200 \times \frac{1}{{10}} = Rs.;;1520\)
Therefore \({T_{c2}} = 8800 + 1520 = Rs.;10320\)
Now the percentage reduction in cost in case (ii)
\(% reduction = \frac{{{T_{c1}} - {T_{c2}}}}{{{T_{c1}}}} \times 100 = \frac{{10900 - 10320}}{{10900}} \times 100 = 5.321;% \)
Since %reduction in EOQ model is more compared to the single order therefore the correct answer will be 8.209%.