SCM/Ops Purchasing and Inventory Question

Southwest Airlines was one of the early “low cost” airlines in the industry.  Over the years, Southwest has attempted to hold fares down by controlling their costs.  To do this, they have done a number of things such as purchasing fuel on the futures market to lock in prices when they thought prices would rise.  They also fly just one model plane – Boeing 737 which reduces their maintenance costs because they can standardize on parts and mechanic training.  Related to spare parts, the company strives to keep their inventory costs as low as possible.  For example, consider tires for their airplanes which according to historical data the company needs 40,000 a year.  Because of the tire quality requirements, these tires are expensive costing SW in the range of $2,250 each.  Southwest uses a 30 percent carrying cost factor for parts inventory.  When SW places an order, they go out to the tire producers with a “reverse auction” where they specify the tire characteristics, number of tires desired, and delivery timing requirements.  Tire companies then submit bids to try to win the business.  SW supply chain managers like this process for getting tires but it is expensive costing the company about $80,000 each time it goes through this process to place an order.

a.  Assuming that the lowest bid for tires will be $2,250, what is the number of tires that Southwest should order each time it places an order?

b.  Referring to your answer in part a., how many orders per year will the company need to make per year if the demand for tires remains at 40,000?

c.  Referring to parts a. and b., what is the total inventory cost (excluding purchase cost) for the inventory plan you have calculated?

d.  Assuming that demand for tires is steady throughout the 365 day year, and if lead time on getting tires is 11 days, at what inventory level should SW place an order?

e.  Suppose Southwest could find a quality tire supplier who would deliver tires at $2,300 each in a Just-in-Time manner so that they deliver the exact number of tires needed each day so that SW would not need to carry any inventory.  If this could happen, SW believes it’s cost of receiving the tires each day would be $1,000.  Would this be an option SW should consider?  Discuss both the financial and non-financial aspects of this.

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