| Question and Answer |
(A) Economic Ordering Quantity (B) No. of order to be placed per year (C) Time gap between two consecutive orders; and (D) Optimum inventory cost (excluding cost of raw materials). (E) If the minimum lot size to be supplied is 4,000 units, what is the extra cost the company has to incur?
(a) Systematic Risk and Unsystematic Risk:
Systematic Risk: Systematic risk, also known as market risk or non-diversifiable risk, refers to the risk that affects the entire market or a particular segment of the market. It is caused by factors that are beyond the control of an individual company or investor. Systematic risk is inherent in the overall market conditions and cannot be eliminated through diversification.
Examples of systematic risk factors include economic recessions, interest rate changes, inflation, political instability, natural disasters, and market volatility. These factors impact a wide range of investments and cannot be avoided by diversifying the investment portfolio.
Since systematic risk affects the entire market, it is impossible to eliminate or reduce it through individual investment decisions. Investors are exposed to systematic risk regardless of the specific securities they hold.
Unsystematic Risk: Unsystematic risk, also known as specific risk or diversifiable risk, refers to the risk that is specific to a particular company, industry, or investment. It can be reduced or eliminated through diversification, which involves investing in a variety of assets with different risk profiles.
Examples of unsystematic risk factors include company-specific events such as management changes, product recalls, labor strikes, and competitive pressures. These risks are specific to a particular company or industry and can be mitigated by spreading investments across different assets or sectors.
By diversifying their portfolio, investors can reduce unsystematic risk because the negative impact of specific events on one investment can be offset by the positive performance of other investments. However, diversification cannot eliminate systematic risk since it affects the overall market.
In summary, systematic risk is the risk that affects the entire market or a specific segment, while unsystematic risk is the risk specific to individual companies or investments. Systematic risk cannot be eliminated through diversification, while unsystematic risk can be reduced by spreading investments across different assets.
(b) Puja Ltd. – Economic Ordering Quantity (EOQ) and Inventory Cost:
To calculate the economic ordering quantity (EOQ) and other related parameters, we can use the following formulas:
EOQ = √[(2 * Annual Requirement * Cost of Placing an Order) / Cost per Unit]
(A) Economic Ordering Quantity: EOQ = √[(2 * 16,000 * Rs. 2,300) / Rs. 60] ≈ √(73,600,000 / 60) ≈ √(1,226,666.67) ≈ 1,106 units (rounded)
(B) Number of Orders per Year: Number of Orders = Annual Requirement / EOQ = 16,000 / 1,106 ≈ 14.47 (rounded)
Since the number of orders cannot be in fractions, we will round it up to 15.
(C) Time Gap between Two Consecutive Orders: Time Gap = 1 year / Number of Orders = 1 / 15 ≈ 0.0667 years (approximately 2.44 weeks)
(D) Optimum Inventory Cost (Excluding Cost of Raw Materials): Optimum Inventory Cost = EOQ * Cost per Unit + (EOQ / 2) * (Insurance on Inventory + Obsolescence + Storage Cost) = 1,106 * Rs. 60 + (1,106 / 2) * (0.125 * Rs. 60 + 0.075 * Rs. 60 + Rs. 6,400) = Rs. 66,360 + 553 * (7.5 + 4.5 + 6,400) = Rs. 66,360 + 553 * 10,912.5 = Rs. 6,037,160 (approx.)
(E) Extra Cost for Minimum Lot Size of 4,000 units: Extra Cost = (Minimum Lot Size – EOQ) * Cost per Unit = (4,000 – 1,106) * Rs. 60 = 2,894 * Rs. 60 = Rs. 173,640
Puja Ltd. will incur an extra cost of Rs. 173,640 if they choose to maintain a minimum lot size of 4,000 units instead of the calculated EOQ of 1,106 units.
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