NIGHTINGALE INVENTORY PROBLEM

First we will list the data available to us to solve the 5 questions related to Inventory
Control at Nightingale Drugstore which Robert, the protagonist, heads. We will be using
the Economic Order Quantity Model to solve this process.

Demand = D = 250 toothbrushes /month

= 250 x 12 = 3000 toothbrushes /year

Price = P = $1.25 /toothbrush

Ordering Cost = hours spent to place each order x cost of ordering per hour

K = 20 minutes/60 minutes x $18.75 per hour

= 0.333 hour x $18.75

= $ 6.25 /order

Annual Holding Cost = holding cost rate x the value of toothbrush

H = h x P= 0.12 x $1.25

= $0.15 /toothbrush in inventory /year

Working Days = W = 12 x 30 = 360 days

There is a demand of 250 toothbrushes on average per month.

Ordering cost is $6.25 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.
A warehouse is currently located 20 miles near the drugstore and hence the time of
delivery of the inventory is assumed to be negligible. If the warehouse is shut then
the other warehouse is located 350 miles away and it takes 5 days for the inventor to
be delivered then.
Allowing planned shortages, the shortage cost estimated is $1.50 per unit short per
year. But shortage cost can change in the range of $0 and $20 and is not a certainty.
Totalee charges differently for the products in one case. 1.25 till 500, 1.15 from 500
till 1000 toothbrushes and 1 if more than 1000 toothbrushes.

Questions are solved as follows using the EOQ models:

A) What is the optimal inventory policy?

How many toothbrushes to be ordered and how frequently?

1
 What is the total variable cost per year with this policy?

Solution:

RECOMMENDED INVENTORY POLCY

Since there is no shortage cost and quantity discounts are absent and the
inventory reaches instantaneously then the store must order 500 toothbrushes per order
when the inventory reaches the level of 0. This has to be done every 8.66 weeks and the
variable cost per year with this policy comes out to be $75.

Q=(2*K*D/H)0.5 toothbrushes /order

Where, Q= quantity ordered : K= Ordering Cost per order : D=Number of toothbrushes :

H=holding cost.

Q=(2*6.25*3000/0.15)0.5

Q=500 toothbrushes/order.

The Reorder point means at what value of inventory do we restack.

Since reordering is instantaneous, reorder point = 0.

Hence optimally order should be 500 toothbrushes when the inventory is over i.e
inventory becomes 0.

Number of Orders per year = D/Q = 3000 / 500 = 6 orders per year

Time between orders = Q/D = 500 / 3000 = 0.166 years = 8.66 weeks

Total Variable Inventory Cost = Total Annual Cost of Ordering + Total Annual Cost of
Holding

= K*D/Q + Q*H/2

= 6.25 x 3000 / 500 + 500 x 0.15 / 2 = 37.5 + 37.5

= $ 75.

B) Lead Time = T = 5 days

In this case, how many Totalee toothbrushes should Robert order each time, and when
should he order?

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Solution: The quantity of toothbrushes ordered does not change. The existence of lead
time affects the ordering time.

Reorder point = r = L.D = (Lead Time/Number of days in year)*Number of

toothbrushes needed=(5/360) x 3000 = 41.66= 42 (for ensuring tighter control)

Results: Robert should therefore order 500 toothbrushes when the inventory level
reaches 42 toothbrushes.

c) Shortage Cost = P = $1.50 per unit short per year

Solution:

Here Q= (2*Cost of Ordering*Number of Brushes/Holding Cost) 0.5 X

(Holding Cost +Shortage cost)/Shortage

Cost

Q= (2*K*D/H)0.5 X (H+P/P)0.5
= (2*6.25*3000/0.15)0.5 X (0.15+1.50/1.50)0.5 = 500*1.0488=524.40

r= L/WD x D = 5/360 x 3000 = 41.66(reorder point)

Maximum Shortage = S = (H*Q/H+P) = 0.15*524.40/1.65= 47.67 toothbrushes

Reorder Point = r - S = 41.66 47.67 = -6.0033= -6.

Total Variable Inventory Cost = Total Order Cost + Total Holding Cost + Total Shortage
Cost

2 2

= K*D/Q + H*((Q-S) /2Q) + P*((S) /2Q)

2 2

= 6.25 x 3000/524.40 + 0.15 x((524.40-47.67) /2 x 524.40) + 1.50 x((47.67) /2

x 524.40)

= 35.75 + 32.50 + 3.25

= 71.50 $ per year.

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Results: In the case of no shortages, reorder point was 41.66. Because customers are
ok with waiting hence Robert can plan shortages and 41.66 is no longer the most efficient
time to order. A shortage of atlest 41.66 is appropriate to make profit. So, Robert should
order 500 toothbrushes when the inventory level reaches 6 toothbrushes. Total annual
variable cost decreases to $71.50 from $75 in the case of shortage allowance.

d) Shortage Cost = ( $0 , $20) per unit short per year

What effect would changing the estimate of the unit shortage cost have on the
inventory policy and total variable inventory cost per year found with $1.50 shortage
cost?

Solution:

If shortage cost is lowest value =P=$0;

2* K * D H P 2 6.25 3000 0.15 0.85 37500

Q 542.32
H P 0.15 0.85 0.1275

toothbrushes

H 0.15
S Q 542.32 81.35
H P 0.15 0,85
Maximum Shortage = toothbrushes

Reorder Point = r - S = 41.66 81.35 = -39.69

2 2

Total Variable Cost = K.D/Q + H. ((Q-S) /2Q) + P.((S) /2Q)

2 2

= 6.25 x 3000/542.32 + 0.15 x((542.32-81.35) /2 x 542.32) + 0.85 x((81.35) /2

x 542.32)

= 34.57 + 29.38 + 5.18

= $69.13 /year

If shortage cost is highest =P= $20

2 KD HP 2 6.25 3000 0.15 20 755625

Q 501.87
H P 0.15 20 3.00

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 H 0.15
S Q 501.87 3.736
H P 0.15 20
Maximum Shortage = toothbrushes

Reorder Point = r - S = 41.66 3.736 = 37.924

2 2

Total Variable Cost = K.D/Q + H. ((Q-S) /2Q) + P.((S) /2Q)

2 2

= 6.25 x 3000/501.87 + 0.15 x((501.87-3.736) /2 x 501.87) + 20 x((3.736) /2 x

501.87)

= 37.36 + 37.08 + 0.278

= $74.718 /year

Results: If shortage cost is $0, Robert orders 542.32 toothbrushes when the inventory
level reaches 39.69 toothbrushes.
If shortage cost is $20, then he orders 501.87 toothbrushes when the inventory level
reaches 37.924 toothbrushes.
This means that when the shortage cost is lower, Robert orders more toothbrushes at the
end of a longer period. Otherwise he orders less, almost 38 toothbrushes, at higher
frequency since the shortage cost is high and he does not want to delay the customers
wish. This makes him order before the inventory level become zero.
The difference between total variable costs is very low.
A little table is shown here with the various shortage costs mentioned:

Pmin = $0 Qmax = 542 , Total Variable Cost min = $69.13

P = $1.50 Q = 524.40 , Total Variable Cost = $71.50

Pmax = $20 Qmin = 501.87 , Total Variable Cost max = $74.718

The estimation of unit shortage cost has a small effect on the inventory policy and
especially, TVC.

e) Totalee will charge $1.25 per toothbrush up to 500 toothbrushes, $1.15 per toothbrush
more than 500 but less than 1000 toothbrushes, and $1.00 per toothbrush for orders of
1000 toothbrushes or more

Solution:

When P=price changes, only H changes in the formula for Q since H = hP

Holding Cost = H = hP = 0.12P

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 1 1 1
2 2 2

Q = (2KD/H) = (2 x 6.25 x 3000 /H) = (37500 /H)

Total cost = TC = KD/Q + HQ/2 + CD = 18750 /Q + HQ/2 + 3000C

Quantity Unit Cost H Q Best Q Total Cost

(C)

<500 $1.25 0.15 500 500 (37.5+37.5+3750)=3825

500-1000 $1.15 0.138 521.3 521.3 (35.96+35.96+3450)=3521.96

>=1000 $1.00 0.12 559.01 1000 (18.75+60+3000)=3078.75

Results: Under the discount policy applicable to Nightingale Drugstore, Robert should
order 1000 toothbrushes even though he needs only 500 toothbrushes. This ordering
policy decreases total annual inventory cost to $3078.75 from $3825. Robert, therefore,
reduces the cost by $746.25. Because of this cost reduction it makes sense to order 1000
and not 500 per order.

So, Robert should order 1000 toothbrushes when the inventory level reaches 41.66
toothbrushes in the case of no planned shortages.