The annual demand for an item of raw materials is 4000 units and the purchase price is expected to be £90 per unit. The incremental cost of processing an order is £135 and the cost of storage is estimated to be £12 per unit.
(a) What is the optimal order quantity and the total relevant cost of this order quantity?
(b) Suppose that the £135 estimate of the incremental cost of processing an order is incorrect and should have been £80. Assume that all other estimates are correct. What is the cost of this prediction error, assuming that the solution to part (a) is implemented for one year?
(c) Assume at the start of the period that a supplier offers 4000 units at a price of £86. The materials will be delivered immediately and placed in the stores. Assume that the incremental cost of placing this order is zero and the original estimate of £135 for placing an order for the economic batch size is correct. Should the order be accepted?
(d) Present a performance report for the purchasing officer, assuming that the budget was based on the information presented in (a) and the purchasing officer accepted the special order outlined in (c).