Mom and Pop have decided to open a grocery store. Mom and Pop buy tomatoes every

Question

Mom and Pop have decided to open a grocery store. Mom and Pop buy tomatoes every day to ensure fresh produce. Each morning any tomatoes that are left over from the previous day are sold to a nearby restaurant that can use the tomatoes in their soups. Mom and Pop can buy tomatoes from their supplier for $3 per lb. The tomatoes are sold to store customers for $5.5 per pound and the restaurant is willing to pay $1 per pound. You can assume that the demand follows a uniform distribution ~ U(15, 35) pounds per day.

Mom and Pop negotiate with the restaurant and get a better price (2$ per pound). How would this affect your order decision?

Select one: a. Order less b. Order more c. Order the same amount as before d. Cannot tell from the information that is given

Explanation / Answer

Cu = Cost of undestocking = Selling price - Cost of purchase = $5.5 - $3.0 = $2.5
Co = Cost of overstocking = Cost of purchase - Salvage value = $3.0 - $1.0 = $2.0

Critical Ratio = Cu / (Co + Cu) = 2.5 / (2.5+2.0) = 0.556

Optimal order quantity = 15 + 0.556*(35 - 15) = 26.11 or 26 (rounded off)

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With salvage value becoming $2, Co will be $3 - $2 = $1

Critical ratio = 2.5 / (2.5+1) = 0.714

Optimal order quantity = 15 + 0.714*(35 - 15) = 29.3 or 29 (rounded off)

So, the correct choice is b. Order more

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