Question

Lou O’Brien manages the janitorial supplies for the Merton-Flemmer office building in downtown Chicago. The six-person janitorial staff at the building uses approximately 40 five-gallon containers of all-purpose cleanser per month. Each container costs the building $94. The current supplier of the building’s all-purpose cleanser has just informed Lou that it has changed its pricing structure. The supplier will be raising the price of the cleanser to $99 per container but will offer a discounted price of $93 each for any orders of 60 containers or more. It costs Lou $65 to place an order with the supplier, which includes the cost of shipping any quantity of the cleanser containers to the building. The supply closet for the building is relatively small; as a result, Lou is comfortable using a holding cost rate of 42% when managing the inventory of any janitorial supplies. What should Lou’s new order quantity for all-purpose cleanser be in response to this new price schedule? Justify your recommendation. What is the total annual cost of using this order quantity for the cleanser?

Answer 1

Annual demand = 40 x 12 = 480 containers

Current price = $94

Increased rice = $99

Discounted price if ordered more than 60 units = $93

Ordering cost = $65

Holding cost = 42% per container per year

EOQ = (2 x Annual Demand x Ordering cost) / Holding cost

= (2 x 480 x 65) / (0.45 x 94) = 38.40 containers

Since the EOQ as per the demand, ordering cost and holding cost is about 39 containers, Lou should order this quantity only.

No of orders per year = 365 / 38.40 = 9.5 orders

Total ordering cost = 9.5 x 65 = $617.5

Cost of material per year = 480 x 99 = $47520

Holding cost per year = 47520 x 0.45 = $21384

Total cost = Total cost of material + Ordering cost + Total holding cost

= 47520 + 21384 + 617.50 = $69521.50