- This topic has 5 replies, 3 voices, and was last updated 8 years ago by
.
- Posts
Regal bakery Limited is the main supplier of hard dough breads to customers in Montego Bay. The company currently makes 10,000,000 loaves of bread annually which uses baking flour. Production takes place evenly during the year. A single loaf uses 0.0001 kilogram of baking flour. The baking flour is utilised evenly during the period. Regal sells hard dough bread for $290 per loaf. The production manager thinks that profits could be increased if the company departs from the current policy.
Currently, the company makes four equal orders per year; that is, the entity orders four time annually and orders are made instantaneously without any delays. However, the chief financial officer (CFO) does not believe that the current order quantity is the
optimal order quantity. As a result, he spent $100,000.000 last year to ascertain whether the optimal order quantity is different from the current policy. Moreover, he held discussion with the main suppliers of baking flour and was told that the current purchase cost for baking flour is $100 per kilogram.Further discussions indicated that the cost per kilogram varies based on the quantity to be bought. A 2% discount will be given for orders of at least 500 kilograms, 3% discount for orders of at least 750, a 4% discount for orders of at least 1,000 and a 12% discount for orders greater than 1,250 kilograms. It is also expected that orders will be made instantaneously and there will be no lead time between ordering and receiving the raw material. No discounts are given for orders of less than 500 kilograms.
It was further ascertained that the incremental ordering cost is to be $450 per order, while the cost of storing is to be $5 per unit of average stock. Additionally, the opportunity cost of holding one kilogram is expected by be 5% of the current purchase cost.
Required: Calculate EOQ based on the formula
Please do not simply type out full questions and expect an answer.
Unless this is a test question you have been set, then you must have an answer in the same book in which you found the question. You should ask about whichever part of the printed answer you are not clear about.
(If it is a test question you have been set, then we are certainly not here to do homework for people 🙂 )Have you watched our free lectures? Our lectures cover everything needed to be able to pass Paper F9 well. (Although the lectures for inventory control are in the F2 section because this is revision of Paper F2)
Sir, the question asks for EOQ, which I have calculated as follows:
EOQ=Sq.Root((2*450*1000) / 5) = 424.26kg Approx. 424Kgs
I can calculate the EOQ; but considering the information given in the question, if I’m asked to find the order quantity that minimizes total costs, I am having some trouble:
I calculate the total costs for each order quantity, and the one which gives the lowest total cost is the order quantity that minimizes total costs:
Sir, the question mentions the Opportunity cost of holding 1kg, which is 5% of the purchase cost. Do we include the opportunity cost when calculating the Total Costs??
Total Cost = Purchase Cost + Order Cost + Holding Costs
For Q = 424 Kg,
Purchase Cost = 1000kg * $100 = $100000
Order Cost = $450 * (1000/424) = $1061
Holding Costs (this is where i get confused) = $5 per unit of average stock ; Sir, as there is no lead time, is the average stock 424kgs? If yes, holding Costs = $5 * 424 = $2120Total Costs (Q=424kgs) = $100000+$1061+$2120 = $103181.
Similarly, for different Q’s :-
For Q = 500kg, Total cost = $98000+$900+$2500 = $101400
For Q = 750kg, Total cost = $97000+$600+$3750 = $101350
For Q = 1000kg, Total cost = $96000+$450+$5000=$101450
For Q = 1250kg??? As the annual demand is only 1000kg, do we consider buying 1250kg, if it minimises the total costs??If yes, for Q = 1250kg, Purchase Cost = $1250*100*0.88 = $110000
Order cost = $450 *1 = $450
Holding cost = $5 * 1250 = $6250
Total Cost = $116700According to the above total costs, order quantity of 750kg will minimise total costs.
The opportunity cost of 5% x $100 = $5 is an additional holding cost to be used in the formula.
Therefore the EOQ = square root of ((2 x 1,000 x 450) / (5 + 5)) = 300 kg
The average inventory is always half of the order quantity (again, I do suggest that you watch the lectures) and is therefore 150 kg.
So the total cost is: purchase price – 1,000 x $100 = $100,000
Plus order cost – 1,000/300 x $450 = $1,500
Plus holding cost – 300/2 x (5 + 5) = $1,500
So total of $103,000.You then cost out for 500, 750, 1000, and 1250 in a similar way.
For 1250, the number of order per year will be 1000/1250 = 0.8 order.
(Which may sound silly, but we always regard it as a long-term policy and so on average there will be 0.8 order per year (some years 1 order and some years no orders).)I am sorry for not inputting the full details of my work out. It was indeed a lecture question set by my lecturer. I had worked out the eoq to the 300kg. however, because of the additional information I was thrown off, hence the confusion. I thank you both for your assistance.
- You must be logged in to reply to this topic.