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Hi, John,
the question from Kaplan kit:
The following statements refer to different types of inventory control systems and procedures.
1. A just-in time system implies relatively low reorder costs.
2. Periodic review means ordering inventory when it falls below the designated safety inventory level.
3. Use of the economic order quantity model means that holding and ordering costs should be the same.
Which of the above statements is/are correct?the answer are 1 and 3, I struggled to understand why the holding and ordering cost should be same.
the explanation is:’holding costs and ordering costs are balanced off, with the EOQ being at the point where these are equal to each other.’
I thought the main aim for implementing EOQ is to minimise the total cost from ordering and holding, should they necessarily be equal to each other?
could you explain this, thank you!
regards.
Although the object certainly is to minimise the total (holding plus ordering) cost, the minimum total cost will occur when the total holding cost is equal to the total ordering cost.
You can prove this using algebra, but that is not ever required in the exam. Best is to look at an example (I work through an example in my free lectures) and you will see that at the EOQ the two total costs are the same. If you are still unconvinced then look at the free Paper MA (was F2) lectures on EOQ where I draw the graph of what is happening (because this is really a Paper MA question).
I got it! thanks for your help!
I do feel that the questions in kaplan kit sometimes appear a little tricky and the explanations are always less detailed, lol
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