Example of quantity discounts, Finance Basics

Example of Quantity Discounts

Consider illustration one and suppose that a quantity discount of 5 percent is given whether a minimum 200 units is ordered.


Find out whether the discount should be in used and the quantity to be ordered.

Suggested Solution

We require considering the saving in purchase costs; savings in ordering costs and rise in holding costs.

Savings in purchase price:

New purchase price                                =       50 x 95% = Sh.47.50 per unit

Savings in purchase price per unit           =       50 - 47.50

                                                            =       Sh.2.50

Total units per year                                =       2,000

Total savings                                         =       2,000 x 2.50

                                                            =       Sh.5,000

Savings in Ordering Cost

Assuming an order quantity of 200 units per order, the total ordering cost will be:

= (2,000/100) * 50

= Sh.500

Ordering cost if 100 units is ordered

(2,000/100) * 100

= Sh.1, 000

Consequently savings in ordering costs = 1,000 - 500 = Sh.500

Increase in holding costs

Holding cost if 200 units are ordered

½(200)19.75 = Sh.1, 975

Holding costs if 100 units are ordered

½(100(20) = Sh.1, 000

Increase in holding costs = 1,975 - 1,000 = Sh.975

The Net Effect therefore:


Savings in purchases costs              5,000

Savings in ordering costs                   500

Total savings                                 5,500

Less increase in holding costs             975

Net savings                                    4,525

2433_Example of Quantity Discounts.png

2106_Example of Quantity Discounts 1.png

Cn = 15 + 10% x 4.75 = Shs.19.75

The discount should be taken because the net savings is positive.  To determine the number of units to order we recomputed Q with discount Qd.

= 100.6 units

Decision rule:

Order the minimum discount quantity if Qd < minimum discount quantity.

Order Qd if Qd < minimum discount quantity.

Posted Date: 1/31/2013 11:59:12 PM | Location : United States

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