Economic Order Quantity Analyze the following scenario: Meals for the Homeless b

Question

Economic Order Quantity

Analyze the following scenario: Meals for the Homeless buys 30,000 large cans of green beans each year. The cost of each can of beans is $4. The cost to place an order for beans, including the time of the employee placing the order, shipping, and so forth, comes to $20 per order. The out-of-pocket carrying costs (for storage, etc.) are $0.30 per can per year. In addition, Meals calculates its interest at 5 percent. How many cans should be ordered at a time? How many orders should there be each year? What are the total ordering costs and carrying costs at the EOQ? Contrast the total of the ordering costs and carrying costs at EOQ to the total ordering and carrying costs if the cans were all ordered at the beginning of the year. (You will need to read and understand Appendix 7-A to complete this discussion). Clearly label the calculations of the economic order quantity using Excel (you may attach your Excel worksheet to your discussion post in your online classroom). Use formulas to calculate the EOQ and format the cells to insert a comma if there is more than three numbers. Round to the nearest whole number.

Explanation / Answer

How many cans should be ordered at a time?

EOQ = [(2ON)/C]^.5 = [(2 * $20 * 30,000) / (.3 + (5% *$4))]^.5 = 1,550 cans of green beans can be ordered at a time (if rounded to the nearest whole number).

How many orders should there be each year?

N/EOQ = 30,000/1,550 = 19.35 = or 19 orders per year (if rounded to the nearest whole number)

What are the total ordering costs and carrying costs at the EOQ?

Carrying Cost = CQ/2 = (.5 * 1550) / 2 = $387.50 or $388.00 (if rounded to the nearest whole number)

Contrast the total of the ordering costs and carrying costs at EOQ to the total ordering and carrying costs if the cans were all ordered at the beginning of the year.

Ordering Cost = ON/Q = ($20)(30,000)/1,550 = $387

Product Cost = P*N = $4 x 30,000 = $120,000

Total Inventory Cost = $120,775 (Total Inventory Cost = CC+OC+PC=388 (carrying cost)+387(ordering cost)+120,000(product cost) = $120,775)

The advantages of EOQ is that it balances carrying or holding costs as well as ordering costs (Finkler, S. (2010), Pg. 271). Ordering everything at one time would eliminate future ordering costs however it would raise the amount of carrying or holding costs. If Meals for the Homeless orders all cans at the beginning of the year the carrying cost would be $15,000.00 (30,000 * .50), the ordering cost would be $20.00 ($20.00 * 1 order) and the product cost would be $120,000.00 (P*N = $4.00*30,000 = $120,000.00). The lowest possible inventory cost would be $135,020. However, if one refers back to the figures above one will notice that this number is greater than $120,775 per year when 19 orders are placed. The disadvantages to EOQ are that the ordering costs will be greater when ordering numerous orders.

Reference:

Finkler, S. (2010). Financial Management: For public, health and not-for-profit organizations. Prentice Hall: Boston

Cost Green Beans/ yr $                   30,000.00 Cost of Green Beans/ can $                            4.00 Cost to place order $                          20.00 Carrying Cost p/unit p/yr $                            0.50 # of cans to order                              1,549 # of orders                                   19 Formula Annual Order Amount Puchase cost (Pxn) $120,000 $ 120,000 Carrying Cost CC=CQ/2 $ 7,500 $387 Order Costs OC=ON/Q $  20 $ 387 Total Inventory Cost TC=(PXN)+CC+OC $ 127,520 $ 120,775

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