e being carried. The university and hospital’s computerized materials-management system was about a decade old and generally worked well; however, employees often ignored or did not update key information. Thus, data integrity was a major problem in this information system. One department’s head nurse explained that many de

Drew the director of the operations of the university explained that the university was under pressure to cut expenses, and hospital inventory did not seem to be under control.

As Caroline reviewed her notes, she was struck by the variations in order sizes and order frequencies for the hospital’s stock-keeping units (SKUs). For some SKUs, inventory ran out before new orders came in, whereas for other SKUs, excessively high stock levels were being carried. The university and hospital’s computerized materials-management system was about a decade old and generally worked well; however, employees often ignored or did not update key information. Thus, data integrity was a major problem in this information system.

One department’s head nurse explained that many departments were afraid of running out of regular stock items. University purchasing didn’t understand the importance and nature of hospital inventory, and they were slow to respond. The nurse cited the months-long period university purchasing process needed to place new items on the regular stock list, and the long lead times sometimes involved in receiving orders requisitioned from the university’s approved vendor list.

Because the university was a state institution, strict bidding and purchasing procedures had to be followed for both regular stock and special orders. For example, three written bids were required for an individual order of $2,000 or more. The processing of these bids often took up to two months. For orders between $800 and $1,999, three telephone bids were necessary. In these situations, purchases could be made only from the lowest bidder. Orders under $800, or items on the state contract list, could be ordered over the phone, without any bids. State contract list items were those for which statewide needs had been combined and one contract left to cover all of them.

Caroline had gathered information on the costs of ordering and storing hospital supplies. For order costs, she estimated that, on average, the purchasing, account payables, and receiving personnel spent three hours processing a single purchase order. A single purchase order typically included four SKUs (i.e., each SKU on a purchase order was called a line item). The average hospital storeroom’s wage was $17.50 an hour; with employee benefits and associated overhead, the cost of one worker-hour came to $23.

For inventory-holding costs, the university warehouse and hospital storeroom used 36,750 square feet of storage space. The university stored an average of $4.25 million in hospital supplies in this space. Records indicated that the average annual variable and semi-variable cost for storage space this year would be $4.75 per square foot. Five warehouse workers and storeroom associates were required to handle the hospital’s supplies. These individuals each earned $35,000 a year; benefits and overhead rates for these employees were the same as for other personnel, about 20 percent. Other warehouse costs, including obsolescence and taxes, were expected to reach $400,000 this year. The hospital operated 52 weeks per year. Also, the state recently had floated a bond issue at 6.7%, and Caroline thought that might be a good estimate of the cost of money to finance inventory, but she wasn’t sure what other costs to include in inventory-holding costs.

After reviewing her notes on the hospital’s materials-management situation, Caroline decided to take a closer look at some individual regular stock items. She sorted through the papers on her desk and found 30 SKUs of interest. She wanted to analyze all 30 SKUs but decided to begin with one SKU widely used in the hospital: Strike Disinfectant.

This product is delivered in 4-gallon cases with a cost per case of $84.50 and a lead time of two weeks. Caroline noticed that the current inventory level is 96 cases (week 1) and learned that the hospital is expecting a shipment of 200 cases in week 7. No other purchases are planned within the next 16 weeks.

As Ms. Highgrove is extremely busy, she has retained your professional services to prepare a consulting report answering these questions:

1. What are good estimates of order cost and inventory-holding cost for Strike Disinfectant?
2. What is the recommended economic order quantity for this SKU?
3. What is the reorder point with safety stock for Strike Disinfectant to offer a 97% service level?
4. What are the savings over the 16-week period resulting from the implementation of a fixed quantity system (FQS) compared to the existing practice?