File: ch13, Chapter 13: Inventory Management

True/False

1. Seasonal inventory allows a firm to maintain a smooth production flow throughout

the year.
Ans: True
Difficulty: Easy

Learning Objective: LO 1

2. Hedging involves buying larger amounts of inventory in anticipation of future price

increases.
Ans: True
Difficulty: Moderate

Learning Objective: LO 1

3. Buffer inventories provide independence between different stages of the production

process.
Ans: True
Difficulty: Moderate

Learning Objective: LO 1

4. The objective of inventory management is to keep enough inventory on-hand to

satisfy customer demand without regard to cost effectiveness.
Ans: False
Difficulty: Easy

Learning Objective: LO 1

5. The conventional approach to inventory management is to maintain a level of

inventory that reflects a compromise between inventory cost and customer service.
Ans: True
Difficulty: Moderate

Learning Objective: LO 2
6. As the level of inventory increases to provide better customer service, quality-related
customer service costs decrease.
Ans: True
Difficulty: Moderate

Learning Objective: LO 2

7. The ability to effectively satisfy internal or external demand in a timely, efficient

manner is referred to as the level of customer service.
Ans: True
Difficulty: Moderate

Learning Objective: LO 2

8. Dependent demand is determined by external market conditions.

Ans: False
Difficulty: Moderate

Learning Objective: LO 3

9. Inventory can take the form of tools and equipment.

Ans: True
Difficulty: Moderate

Learning Objective: LO 3

10. Finished product is an example of a dependent demand item.

Ans: False
Difficulty: Easy

Learning Objective: LO 3

11. Carry costs and ordering costs are inversely related.

Ans: True
Difficulty: Moderate

Learning Objective: LO 3

9. 12. Dependent demand items are typically products for use by the final customer.
Ans: False
Difficulty: Moderate

Learning Objective: LO 3

13. Dependent demand items consist of component parts or materials used in the
production process to produce a final product.
Ans: True
Difficulty: Moderate

Learning Objective: LO 3

14. The three basic costs associated with inventory are holding costs, ordering costs and
shortage costs.
Ans: True
Difficulty: Moderate

Learning Objective: LO 3

15. Product deterioration, spoilage, breakage, and obsolescence are examples of shortage
costs.
Ans: False
Difficulty: Moderate

Learning Objective: LO 3

16. Shortage costs are easier to determine than carrying costs or ordering costs.
Ans: False
Difficulty: Moderate
Learning Objective: LO 3

17. Carrying costs are more difficult to determine than ordering or shortage costs.
Ans: False
Difficulty: Easy

Learning Objective: LO 3

18. Inventory management is concerned with how much to order and when to order.
Ans: True
Difficulty: Moderate
Learning Objective: LO 4

19. Continuous inventory systems are primarily intended for lower cost items because
they are easier to use, and require fewer resources.
Ans: False
Difficulty: Moderate
Learning Objective: LO 4

20. Continuous inventory systems are also referred to as a fixed-order-quantity system.

Ans: True
Difficulty: Moderate
Learning Objective: LO 4

21. Periodic inventory systems initiate a new order when the level of inventory falls to
the reorder to point.
Ans: False
Difficulty: Moderate
Learning Objective: LO 4

22. In ABC analysis, each class of inventory requires different levels of inventory
monitoring and control.
Ans: True
Difficulty: Moderate

Learning Objective: LO 4

23. The reorder point is the level of inventory that promts a new order to be placed in a
continuous inventory system.
Ans: True
Difficulty: Moderate
Learning Objective: LO 4

24. The order quantity for a periodic inventory system remains constant.
Ans: False
Difficulty: Easy

Learning Objective: LO 4

25. The periodic inventory system is often preferred for high quantity, low value items.
Ans: True
Difficulty: Easy
Learning Objective: LO 4

26. The time between orders is variable and the order quantity is constant in the periodic
inventory system.
Ans: False
Difficulty: Moderate
Learning Objective: LO 4

27. Continuous inventory systems often incorporate information technology to improve

the speed and accuracy of data entry and retrieval.
Ans: True
Difficulty: Moderate
Learning Objective: LO 4

28. The ABC classification system is a method for classifying inventory based on the
percentage of total value and the percentage of total quantity.
Ans: True
Difficulty: Moderate
Learning Objective: LO 4

29. Class A items in the ABC classification system require less monitoring and control
than Class C items.
Ans: False
Difficulty: Moderate
Learning Objective: LO 4

30. The economic order quantity (EOQ) model determines the optimal order size that
minimizes total annual inventory costs.
Ans: True
Difficulty: Moderate
Learning Objective: LO 5

31. For a given annual demand, total annual ordering cost is independent of order size.
Ans: False
Difficulty: Hard
Learning Objective: LO 5
32. The EOQ model determines the optimal order size that minimizes the sum of
carrying costs and shortage costs.
Ans: False
Difficulty: Easy
Learning Objective: LO 5

33. The order cycle is the time between receipts of orders in an inventory cycle.
Ans: True
Difficulty: Easy
Learning Objective: LO 5

34. The number of orders can be calculated by dividing the daily demand rate, d, by the
order quantity,
Ans: False
Difficulty: Moderate
Learning Objective: LO 5

35. The average inventory can be calculated by dividing the annual demand, D, by 2.
Ans: False
Difficulty: Easy
Learning Objective: LO 5

36. The economic order quantity occurs when the annual carrying cost is equal to the
annual ordering cost.
Ans: True
Difficulty: Easy

Learning Objective: LO 5

37. With the economic order quantity (EOQ) model, the number of orders increases as
the order size decreases.
Ans: True
Difficulty: Moderate

Learning Objective: LO 5

38. With the economic order quantity (EOQ) model, increasing the order quantity
reduces inventory carrying cost.
Ans: False
Difficulty: Moderate
Learning Objective: LO 5
39. The production quantity model, a variation of the basic EOQ model, assumes non-
instantaneous replenishment.
Ans: True
Difficulty: Hard
Learning Objective: LO 5

40. The quantity discount model evaluates whether using an order size that qualifies for
a price discount is always less cost effective than using the economic order quantity.
Ans: False
Difficulty: Easy

Learning Objective: LO 5

41. A quantity discount is a price discount available if a predetermined number of units

is ordered.
Ans: True
Difficulty: Moderate
Learning Objective: LO 6

42. With the quantity discount model, the basic EOQ total cost formula is modified
to include a term, PD, calculated by taking the purchase price multiplied by
annual demand.
Ans: True
Difficulty: Moderate
Learning Objective: LO 6

43. With the quantity discount model, the first price point examined is the one
associated with the EOQ quantity calculated using the basic model.
Ans: True
Difficulty: Moderate
Learning Objective: LO 6

44. When demand is uncertain, a safety stock is often added to the expected demand
during lead time to prevent a stockout.
Ans: True
Difficulty: Moderate
Learning Objective: LO 7

45. Maintaining a desired service level influences the level of safety stock.
Ans: True
Difficulty: Moderate
Learning Objective: LO 7
 46. Drugstores are one example of a business using a periodic inventory system
because of their dependence on vendor-managed inventory.
Ans: True
Difficulty: Moderate
Learning Objective: LO 8

47. The order quantity cannot be calculated for a periodic inventory system that
experiences variable demand.
Ans: False
Difficulty: Moderate
Learning Objective: LO 8

Multiple Choice

48. A company may purchase larger amounts of inventory for all the following
reasons except
a. to reduce inventory carrying costs.
b. to take advantage of quantity discounts.
c. as a hedge against future price increases.
d. to obtain lower prices purchasing in volume.
Difficulty: Moderate
Learning Objective: LO 1

49. Inventory management includes all the following activities except determining
a. the amount of inventory to keep in stock.
b. customer demand .
c. how much to order.
d. when to order.
Difficulty: Easy
Learning Objective: LO 1

50. ________________ is additional inventory kept at various stages of the

production process to provide independence between stages to avoid work
stoppages.
a. Safety stock
b. Buffer stock
c. Finished stock
d. None of these answer choices is correct.
Difficulty: Easy
Learning Objective: LO 1

51. ________________ is additional inventory kept on hand to meet variations in product

demand.
a. Safety stock
b. Buffer stock
c. Finished stock
d. None of these answer choices is correct.
Difficulty: Easy
Learning Objective: LO 1

52. Inventory costs _________________ when higher levels of inventory are needed to
improve customer service.
a. decrease
b. stay the same
c. increase
d. cannot be estimated
Difficulty: Moderate
Learning Objective: LO 2

53. Customer service is defined as the ability to satisfy ______________ demand.

a. internal
b. external
c. internal and external
d. None of these answer choices is correct.
Difficulty: Moderate
Learning Objective: LO 2

54. The traditional approach to inventory management is to maintain a level of inventory

that
a. minimizes inventory cost.
b. maximizes customer service.
c. maintains a balance between inventory cost and customer service.
d. None of these answer choices is correct.
Difficulty: Moderate

Learning Objective: LO 2

55. Which of the following is not considered a form of inventory?

a. items being transported
b. tools and equipment
c. purchased parts and supplies
d. backorders
Difficulty: Easy
Learning Objective: LO 3

56. Which of the following is not an example of inventory carried to satisfy independent
demand?
a. spare parts
b. finished product
c. raw materials
d. All the answer choices are correct.
Difficulty: Moderate
Learning Objective: LO 3

57. ___________ demand items are used in the process of producing a final product.
a. Dependent
b. Independent
c. Seasonal
d. Cyclical
Difficulty: Moderate
Learning Objective: LO 3

58. Receiving, handling and shipping costs are examples of

a. shortage costs.
b. carrying costs.
c. ordering costs.
d. None of these answer choices is correct.
Difficulty: Moderate
Learning Objective: LO 3

59. In general, as the order size increases

a. ordering costs decrease and carrying costs increase.
b. ordering costs increase and carrying costs decrease.
c. both ordering and carrying costs increase.
d. both ordering and carrying costs decrease.
Difficulty: Moderate
Learning Objective: LO 3

60. The _______________ classification system classifies inventory according to its

dollar value to the firm.
a. periodic
b. continuous
c. ABC
d. EOQ
Difficulty: Moderate

Learning Objective: LO 4

61. A service level of 95% means there is a 0.95 probability

a. of a stockout.
b. that supply will exceed demand.
c. that demand will be met during the lead time.
d. None of these answer choices is correct.
Difficulty: Moderate

Learning Objective: LO 4

62. A continuous inventory system is also known as a

a. fixed-time period system
b. fixed-order quantity system
c. fixed-lead time system
d. fixed-amount system
Difficulty: Easy
Learning Objective: LO 4

63. A periodic inventory system is also known as a

a. fixed-time period system.
b. fixed-order quantity system.
c. fixed-lead time system.
d. fixed-amount system.
Difficulty: Easy

Learning Objective: LO 4

64. A restaurant currently uses 62,500 boxes of napkins each year at a constant daily rate.
If the cost to order napkins is $200.00 per order and the annual carrying cost for one box
of napkins is $1.00, then the economic order quantity for napkins is
a. 62,500 boxes.
b. 10,000 boxes.
c. 5,000 boxes.
d. 2,500 boxes.
Difficulty: Moderate
Learning Objective: LO 5
65. A restaurant currently uses 62,500 boxes of napkins each year at a constant daily rate.
The cost to order napkins is $200.00 per order and the annual carrying cost for one box of
napkins is $1.00. If the restaurant orders the economic order quantity each time an order
is placed, then ______orders are placed during the year.
a. 13
b. 15
c. 20
d. 25
Difficulty: Moderate

Learning Objective: LO 5

66. A restaurant currently uses 62,500 boxes of napkins each year at a constant daily rate
over the 365 days that it is open. The cost to order napkins is $200.00 per order and the
annual carrying cost for one box of napkins is $1.00. If the restaurant orders the
economic order quantity then the time between orders (order cycle) is
a. 125 days.
b. 75.3 days.
c. 32.8 days.
d. 29.2 days.
Difficulty: Moderate
Learning Objective: LO 5

67. A restaurant currently uses 62,500 boxes of napkins each year at a constant daily rate.
The cost to order napkins is $200.00 per order and the annual carrying cost for one box of
napkins is $1.00. If the restaurant orders the economic order quantity then the total
annual inventory cost for napkins is
a. $62,500.
b. $5,000.
c. $2,500.
d. $1,250.
Difficulty: Moderate

Learning Objective: LO 5

68. A restaurant currently uses 62,500 boxes of napkins each year at a constant daily rate.
The cost to order napkins is $200.00 per order and the annual carrying cost for one box of
napkins is $1.00. If the restaurant orders the economic order quantity then the average
inventory for napkins is
a. 62,500 boxes.
b. 31,250 boxes.
c. 5,000 boxes.
d. 2,500 boxes.
Difficulty: Moderate
Learning Objective: LO 5

69. Annual demand for a product is 40,000 units. The product is used at a constant rate
over the 365 days the company is open every year. The annual holding cost for the
product is estimated to be $2.50 per unit and the cost of placing each order is $125.00. If
the company orders according to the economic order quantity (EOQ) formula then its
optimal order size for this product is
a. 2,000 units.
b. 4,000 units.
c. 20,000 units.
d. 40,000 units.
Difficulty: Moderate
Learning Objective: LO 5

70. Annual demand for a product is 40,000 units. The product is used at a constant rate
over the 365 days the company is open every year. The annual holding cost for the
product is estimated to be $2.50 per unit and the cost of placing each order is $125.00. If
the company orders according to the economic order quantity (EOQ) formula then
________ orders are placed annually.
a. 5
b. 10
c. 15
d. 20
Difficulty: Moderate

Learning Objective: LO 5

71. Annual demand for a product is 40,000 units. The product is used at a constant rate
over the 365 days the company is open every year. The annual holding cost for the
product is estimated to be $2.50 per unit, and the cost of placing each order is $125.00. If
the company orders according to the economic order quantity (EOQ) formula, then the
time between orders (order cycle time) is
a. 18.25 days.
b. 24.33 days.
c. 36.5 days.
d. 73 days.
Difficulty: Moderate
Learning Objective: LO 5
72. Annual demand for a product is 40,000 units. The product is used at a constant rate
over the 365 days the company is open every year. The annual holding cost for the
product is estimated to be $2.50 per unit and the cost of placing each order is $125.00. If
the company orders according to the economic order quantity (EOQ) formula then its
total annual inventory cost for this product is
a. $100,000.
b. $50,000.
c. $5,000.
d. $2,500.
Difficulty: Moderate
Learning Objective: LO 5

73. Annual demand for a product is 40,000 units. The product is used at a constant rate
over the 365 days the company is open every year. The annual holding cost for the
product is estimated to be $2.50 per unit and the cost of placing each order is $125.00. If
the company orders according to the economic order quantity (EOQ) formula, then its
average inventory level for this product is
a. 20,000 units.
b. 10,000 units.
c. 2,500 units.
d. 1,000 units.
Difficulty: Moderate
Learning Objective: LO 5

74. Which of the following is not an assumption of the EOQ model?

a. demand is known and constant
b. no shortages allowed
c. lead time is determined by quantity ordered
d. order quantity is received all at once
Difficulty: Moderate
Learning Objective: LO 5

75. The economic order quantity is most widely used for determining how much to order
in
a. a periodic inventory system.
b. a continuous inventory system.
c. an on-demand inventory system.
d. None of these answer choices is correct.
Difficulty: Moderate
Learning Objective: LO 5
76. The quantity discount model considers
a. purchase price.
b. carrying cost.
c. ordering cost.
d. All of these answer choices are correct.
Difficulty: Easy
Learning Objective: LO 5

77. Which of the following is not an assumption of the EOQ model?

a) demand rate is known and constant
b) shortages are allowed
c) lead time is constant
d) order quantity is received all at once
Difficulty: Moderate
Learning Objective: LO 5

78. From a supplier perspective the purpose of a quantity discount is to get the
customer to buy
a. more than the economic order quantity.
b. less than the economic order quantity.
c. the economic order quantity.
d. None of these answer choices is correct.

Difficulty: Easy

Learning Objective: LO 6

79. Consider a university that purchases replacement chairs for its classrooms. The
purchasing manager knows that the annual demand for replacement chairs is 500.
The pricing schedule is as follows:
Order Size Price
100-199 $130
200-499 $122
500+ $120

For the next nine problems, use the following Excel solution to this quantity discount
problem with constant carrying cost.
Carrying cost
= $ 15
Ordering
cost = $ 200
Annual
Demand = 500

Discount
Quantity Price Q Q Total Cost
 100 $130 115.47 115.47 $ 66,732.05
200 $122 115.47 200.00 $ 63,000.00
500 $120 115.47 500.00 $ 63,950.00

80. What is the economic order quantity?

a. 100
b. 115.47
c. 200
d. 500

Difficulty: Moderate

Learning Objective: LO 6

81. What is the inventory ordering cost using the economic order quantity?
a. $200
b. $500
c. $866
d. $1,000

Difficulty: Moderate

Learning Objective: LO 6

82. What is the carrying cost using the economic order quantity?
a. $750
b. $866
c. $,1500
d. $3,750

Difficulty: Moderate

Learning Objective: LO 6

83. What is the annual purchase cost using the economic order quantity?
a. $60,000
b. $61,000
c. $65,000
d. None of these answer choices is correct.
Difficulty: Moderate

Learning Objective: LO 6

84. What is the discount order quantity using a purchase price of $130?
a. 100
b. 115.47
c. 200
d. 500

Difficulty: Moderate

Learning Objective: LO 6

85. What is the discount order quantity using a purchase price of $122?
a. 100
b. 115.47
c. 200
d. 500
Ans: C
Difficulty: Moderate

Learning Objective: LO 6

86. What is the discount order quantity using a purchase price of $120?
a. 100
b. 115.47
c. 200
d. 500

Difficulty: Moderate

Learning Objective: LO 6
87. What is the optimal order quantity?
a. 100
b. 115.47
c. 200
d. 500

Difficulty: Moderate

Learning Objective: LO 6
88. What is the approximate minimum total cost associated with the optimal order
quantity?
a. $66,750
b. $66,732
c. $63,950
d. $63,000

Difficulty: Moderate

Learning Objective: LO 6

89. For a quantity discount problem, the order quantity selected is the one that minimizes
the total annual _________ cost.
a. inventory
b. carrying
c. ordering
d. purchase
Difficulty: Easy

Learning Objective: LO 6

90. The demand for an electronic component is normally distributed with an average
daily demand of 500 units and a standard deviation of 50. The lead-time for the
component is 9 days. If a service level of 95% is desired then the company’s reorder
point for this component is approximately
a. 3,785 units.
b. 4,500 units.
c. 4,627units.
d. 4,747units.
Difficulty: Moderate

Learning Objective: LO 7

91. The demand for an electronic component is normally distributed with an average
daily demand of 500 units and a standard deviation of 50. The lead time for the
component is 9 days. If a service level of 95% is desired, then the company’s safety stock
for this component is approximately
a. 150 units.
b. 247 units.
c. 336 units.
d. 740 units.
Difficulty: Moderate
Learning Objective: LO 7
92. The demand for an electronic component is normally distributed with an average
daily demand of 500 units, and a standard deviation of 50. The lead time for the
component is 9 days. If the company sets a reorder point of 4,650 for this component then
its service level is approximately
a. 50 percent.
b. 84 percent.
c. 92 percent.
d. 98 percent.
Difficulty: Moderate

Learning Objective: LO 7

93. 91.
93. A product’s usage is normally distributed with a weekly average demand of 2,000
units and a weekly standard deviation of 125. The lead time for the product is 4 weeks. If
the company would like to have a service level of 90% for this product then the reorder
point is approximately
a. 8,320 units.
b. 9,218 units.
c. 10,134 units.
d. 11,244 units.
Difficulty: Moderate

Learning Objective: LO 7

92. 94. A product’s usage is normally distributed with a weekly average demand of 2,000
units and a weekly standard deviation of 125. The product’s lead time is 4 weeks.
Currently, the reorder point for this product is 8,200. If the company would like to have a
service level of 95% for this product then
a. it must decrease its safety stock by approximately 412 units.
b. it must decrease its safety stock by approximately 212 units.
c. it must increase its safety stock by approximately 412 units.
d. it must increase its safety stock by approximately 212 units.
Difficulty: Moderate

Learning Objective: LO 7
 Short Answer

95. List several types of uncertainty that may contribute to higher inventory
levels.
Ans:
-receive poor quality materials from supplier
-produce quality defects in the production system
-unanticipated changes in demand
-poor forecasts
-variations in delivery times
-variations in lead times
-uncertain production schedules

Difficulty: Moderate

Learning Objective: LO 1

96. Explain the relationship between ordering costs and carrying costs in the
economic order quantity (EOQ) model.

Ans:
Ordering costs react inversely to carrying costs. As the size of the order increases, fewer
orders
are required, reducing ordering costs. However, ordering larger amounts results in higher
inventory
levels and higher carrying costs. In general, as the order size increases, ordering costs
decrease and
carrying costs increase.
Difficulty: Moderate

Learning Objective: LO 3

97. List and discuss the costs used to determine carrying cost, holding cost
and shortage cost.

Ans:
-facility storage (rent, depreciation, utilities, security, taxes, insurance) -material handling
equipment -labor -record keeping -cost of working capital -product deterioration
(spoilage,
breakage, obsolescence, pilferage)

Difficulty: Moderate
Learning Objective: LO 3

98. Briefly compare and contrast a continuous inventory system to a periodic inventory
system listing the advantages and disadvantages of each.

Ans:
There are two basic types of inventory systems: a continuous (or fixed-order-quantity)
system
and a periodic (or fixed-time-period) system. In a continuous system, an order is placed
for the
same constant amount whenever the inventory on hand decreases to a certain level,
whereas in a
periodic system, an order is placed for a variable amount after the passage of a specific
period of
time. A positive feature of a continuous system is that the inventory is continuously
monitored, so
management always knows the inventory status. This is advantageous for critical items
such as
replacement parts or supplies. However, maintaining a continual record of the inventory
on hand
can also be costly. In the periodic inventory system the inventory level is not monitored
at all
during the time interval between orders, so it has the advantage of little or required record
keeping.
The disadvantage is less direct control which typically results in larger inventory levels
for a
periodic inventory system than in a continuous system to guard against unexpected
stockouts early
in the fixed period.

Difficulty: Moderate
Learning Objective: LO 4

99. Explain when it is better to use the continuous inventory system and when it is better
to use the periodic inventory system. Discuss how the ABC classification system
provides guidance in selecting one versus the other.
Ans:
The continuous inventory system provides for greater monitoring and control. If the
economic
order quantity is used total annual inventory cost is minimized. This system is best suited
for high
value, low quantity items. The periodic inventory system provides no monitoring and
minimal
control. It requires almost no record keeping. This system is best suited for low value,
high quantity
items.

Difficulty: Moderate

Learning Objective: LO 4

100. Make a list of the basic steps involved in using the quantity discount model and
discuss each.
Ans:
First calculate the economic order quantity. Based on this quantity determine the price
based
on this order size. Calculate the total annual inventory cost which includes carrying cost,
ordering
costs and purchasing cost. Determine the minimal quantity that qualifies for the next
price discount.
Using this quantity and the new price calculate the total annual inventory cost which
includes
carrying cost, ordering costs and purchasing cost. Repeat the last step for all
quantity/price options.
Select the order size, Q, with the lowest total annual cost.

Difficulty: Moderate
Learning Objective: LO 6