Parts Emporium, Inc., is a wholesale distributor of automobile parts formed by two disenchanted auto mechanics, Dan Block and Liya Kimathi. Originally located in Block's garage, the firm showed slow but steady growth for 7 years before it relocated to an old, abandoned meat-packing warehouse on Chicago's South Side. With increased space for inventory storage, the company was able to begin offering an expanded line of auto parts. This increased selection, combined with the trend toward longer car ownership, led to an explosive growth of the business. Fifteen years later, Parts Emporium was the largest independent distributor of auto parts in the north central region.

Recently, Parts Emporium relocated to a sparkling new office and warehouse complex off Interstate 55 in suburban Chicago. The warehouse space alone occupied more than 100,000 square feet. Although only a handful of new products have been added since the warehouse was constructed, its utilization increased from 65 percent to more than 90 percent of capacity. During this same period, however, sales growth stagnated. These conditions motivated Block and Kimathi to hire the first manager from outside the company in the firm's history.

It is June 6, Sue McCaskey's first day in the newly created position of materials manager for Parts Emporium. A recent graduate of a prominent business school, McCaskey is eagerly awaiting her first real-world problem.

At approximately 8:30 a.m., it arrives in the form of status reports on inventory and orders shipped. At the top of an extensive computer printout is a handwritten note from Joe Donnell, the purchasing manager: "Attached you will find the inventory and customer service performance data. Rest assured that the individual inventory levels are accurate because we took a complete physical inventory count at the end of last week. Unfortunately, we do not keep compiled records in some of the areas as you requested. However, you are welcome to do so yourself. Welcome aboard!" A little upset that aggregate information is not available, McCaskey decides to randomly select a small sample of approximately 100 items and compile inventory and customer service characteristics to get a feel for the "total picture." The results of this experiment reveal to her why Parts Emporium decided to create the position she now fills. It seems that the inventory is in all the wrong places. Although an average of approximately 60 days of inventory is on hand, the firm's customer service is inadequate. Parts Emporium tries to backorder the customer orders not immediately filled from stock, but some 10 percent of demand is being lost to competing distributorships. Because stockouts are costly, relative to inventory holding costs, McCaskey believes that a cycle-service level of at least 95 percent should be achieved.

McCaskey knows that although her influence to initiate changes will be limited, she must produce positive results immediately. Thus, she decides to concentrate on two products from the extensive product line: the EG151 exhaust gasket and the DB032 drive belt. If she can demonstrate significant gains from proper inventory management for just two products, perhaps Block and Kimathi will give her the backing needed to change the total inventory management system. The EG151 exhaust gasket is purchased from an overseas supplier, Haipei, Inc. Actual demand for the first 21 weeks of this year is shown in the following table:

A quick review of past orders, shown in another document, indicates that a lot size of 150 units is being used and that the lead time from Haipei is fairly constant at 2 weeks. Currently, at the end of week 21, no inventory is on hand, 11 units are backordered, and the company is awaiting a scheduled receipt of 150 units. The DB032 drive belt is purchased from the Bendox Corporation of Grand Rapids, Michigan. Actual demand so far this year is shown in the following table:

Because this product is new, data are available only since its introduction in week 11. Currently, 324 units are on hand, with no backorders and no scheduled receipts. A lot size of 1,000 units is being used, with the lead time fairly constant at 3 weeks. The wholesale prices that Parts Emporium charges its customers are $12.99 for the EG151 exhaust gasket and $8.89 for the DB032 drive belt. Because no quantity discounts are offered on these two highly profitable items, gross margins based on current purchasing practices are 32 percent of the wholesale price for the exhaust gasket and 48 percent of the wholesale price for the drive belt. Parts Emporium estimates its cost to hold inventory at 21 percent of its inventory investment. This percentage recognizes the opportunity cost of tying money up in inventory and the variable costs of taxes, insurance, and shrinkage. The annual report notes other warehousing expenditures for utilities and maintenance and debt service on the 100,000-square-foot warehouse, which was built for $1.5 million. However, McCaskey reasons that these warehousing costs can be ignored because they will not change for the range of inventory policies that she is considering. Out-of-pocket costs for Parts Emporium to place an order with suppliers are estimated to be $20 per order for exhaust gaskets and $10 per order for drive belts. On the outbound side, the company can charge a delivery fee.
Although most customers pick up their parts at Parts Emporium, some orders are delivered to customers. To provide this service, Parts Emporium contracts with a local company for a flat fee of $21.40 per order, which is added to the customer's bill. McCaskey is unsure whether to increase the ordering costs for Parts Emporium to include delivery charges.

QUESTIONS

1. Put yourself in Sue McCaskey's position and prepare a detailed report to Dan Block and Liya Kimathi on managing the inventory of the EG151 exhaust gasket and the DB032 drive belt. Be sure to present a proper inventory system and recognize all relevant costs.

2. By how much do your recommendations for these two items reduce annual cycle inventory, stockout, and ordering costs?

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Week 1 2 3 4 5 6 со 7 8 9 10 11 Actual Demand 104 103 107 105 102 102 101 104 100 100 103 Week 12 13 14 15 16 17 18 19 20 21 Actual Demand 97 99 102 99 103 101 101 104 108 97