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Inventory Management^247

There is obviously a very large choice of procurement and stockholding patterns; what

is needed is to find that pattern which keeps total procurement and holding costs at the

lowest possible level.

Figure : Costs of Holding Inventory

This means that carrying costs increase with the quantity of inventory on hand and as

the inventory go down the carrying costs also go down. But with the declining amount

of inventory held restocking costs go up as there are more number of orders and more

number of receipts of orders. As total costs are the sum of the carrying and restocking

costs we need to find a level where it is minimum. This is depicted graphically in the

figure above.

Mathematically speaking carrying costs are given by:

2

Total Carrying Costs Interest Costs Cost per unit Average Inventory

Q

TCC = I¥P¥

= ¥ ¥

Here Q/2 is the average inventory, I the interest rate and P the price per unit.

Similarly Restocking Costs are given by

Q

TRC = FC¥S

Total Restocking Costs = Fixed Costs per order ¥ Number of restocking times

Here S = total quantity consumed in a year.

As we know that total costs are a sum of these two individual costs. We can say

Q

TC I P Q FC S

TC TOC TRC

= ¥ ¥ + ¥

= +

= ¥

2

Total Costs Carrying Costs Restocking Costs

Figure 18.5: Costs of Holding Inventory

Cost in rupees of

holding inventory

Size of inventory

orders (Q)

Total costs of

holding inventory

Carrying costs

Restocking costs

Q*

Optimal size of inventory order