Question

Clippity-Clop Saddle Manufacturing Company purchases its leather from the Orange Tannery in Knoxville, Virginia. The tannery purchases hides from the slaughterhouse for $ 50.00 per hide. A whole hide yields approximately 25 square feet, and the tannery purchases an average of 200,000 hides per year. In order to be transformed in the type of leather that Clippity-Clop purchases, the hides have to be processed. They have to be soaked in brine, washed, limed, de-greased, pickled, and dyed—and it’s actually more complicated than that. Let’s assume that the tannery can process an average of 2,000 hides per week (there are 50 weeks in year) to obtain this type of leather. The Orange Tannery sells 1,200,000 square feet per year of the specific type of leather called “saddle leather” that Clippity-Clop purchases. The costs of setting up the process to make saddle leather is $ 1,300. The tannery keeps the finished leather in a warehouse at a cost of $ 0.15 per square foot per year.

What are the inventory costs for the tannery for the saddle leather it produces?

(a) $ 6,750.00

(b) $ 1,300.00

(c) $ 21,650.00

(d) $ 7,800.00

*(e) $ 15,600.00

Assuming that the costs of inventory for all the types of hides that the tannery processes are similar, what are the tannery’s annual inventory costs for all of its products?

(a) $ 32,500

*(b) $ 65,000

(c) $ 15,600

(d) $ 21,650

(e) $ 45,000

Answer 1

1)

Annual Demand of Saddle leather, D = 1200000 sqft

Demand rate per week, d = 1200000/50 = 24000 sqft per week

Setup cost, S = $ 1300

Holding cost, H = $ 0.15 per sqft

Production rate, p = 2000*25 = 50000 sqft per week

Optimal production quantity, Q = SQRT(2DS/(H*(1-p/d))) (using EPQ model)

= SQRT(2*1200000*1300/(0.15*(1-24000/50000)))

= 200,000 sqft

Inventory costs for the tannery for saddle leather = SD/Q + HQ*(1-d/p)/2

= 1300*1200000/200000 + 0.15*200000*(1-24000/50000)/2

= $ 15,600

ANSWER: (e) $ 15,600

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2)

Annual demand of hides = 200000*25 = 5000000 sqft

Costs of inventory of all types of hides = 15600*5000000/1200000

= $ 65,000

ANSWER: (b) $ 65,000