Drought conditions spike demand during the summer to an annualized rate of 27,000 cans per year and the price rises to $12 per can. If the ordering cost per lot is 75 cents, what is the holding cost percentage

Possible options are:

A. 3.1%

B. 1.81%

C. 31%

D. 18.1%

Answer is C. 31%

Explanation:

Any company's holding costs have four different elements:

1. The cost of the space to store your inventory. Costs include utilities, rent, property taxes and insurance.

2. The cost of handling the items. There are the work hours it takes staff to put them in storage any added security to keep them safe.

3. The loss to your company if the inventory sits too long. It either deteriorates or becomes obsolescent.

4. The capital cost of having money tied up in unsold inventory, unusable for anything else is usually the most significant part of your carrying costs.

The simplest formula skips over the heavy number crunching and goes with a rule of thumb. Calculate the value of your inventory, then divide it by 25 percent to get the carrying cost. If your inventory is worth, say, $650,000 then your inventory holding cost is $162,500.

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