Calculate the total inventory carrying charge associated with carrying an average of one months annual demand as

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Question:

Calculate the total inventory carrying charge associated with carrying an average of one month’s annual demand as safety stock. Next, calculate the per unit charge associated with carrying an average of one month’s annual demand as safety stock.

Forecasted annual volumes for pistons are 300,000 units.

Unit Price: The supplier quoted a unit price of $12.20 per piston, given the expected demand for pistons.

Replenishment Inventory Carrying Charges: FlexCon will receive pistons once a month from its supplier. The company will assume inventory carrying charges for pistons received at the start of each month and then consumed at a steady rate during the month. For purposes of calculating inventory carrying, the team expects to use the average inventory method. The formula for determining the average number of units in inventory each month is:

((Beginning inventory at the start of each month + Ending inventory at the end of each month)/2)

The team assumes that ending inventory each month is zero units (excluding safety stock, which requires a separate calculation). The production group is expected to use all the pistons that are received at the beginning of each month. The carrying charge applied to inventory on an annual basis is 14% of the unit value of the inventory.

	Beginning Inventory	Ending Inventory	Average Inventory	Inventory Carrying Cost
January	30,000	0	15,000	$0.07115
February	30,000	0	15,000	$0.07115
March	30,000	0	15,000	$0.07115
April	27,000	0	13,500	$0.07115
May	25,000	0	12,500	$0.07115
June	25,000	0	12,500	$0.07115
July	23,000	0	11,500	$0.07115
August	21,000	0	10,500	$0.07115
September	22,000	0	11,000	$0.07115
October	23,000	0	11,500	$0.07115
November	23,000	0	11,500	$0.07115
December	21,000	0	10,500	$0.07115
			Total Inventory Carrying Costs

Total Charge: 21345

Per Unit Charge:0.07115

Safety Stock Requirements: FlexCon has decided to hold safety stock of pistons equivalent to one month’s average demand, at least for the first year of the contract. This results in an inventory carrying charge, which the team must calculate and include in its total cost analysis. While it is likely that FlexCon will rely on, or draw down, safety stock levels at some point in time, for purposes of planning, the team has decided not to estimate when this might occur. Inventory carrying charges include working capital committed to financing the inventory, plus charges for material handling, warehousing, insurance and taxes, and risk of obsolescence and loss. FlexCon’s inventory carrying charge for safety stock is 18% annually, a figure that FlexCon’s finance group provided.