QUESTION: Decide whether ABC Co should adopt an economic order quantity approach to ordering Component L.
1. ABC Co has credit sales of $45 million per year and on average settles accounts with trade payables after 60 days.
One of its suppliers has offered the company an early settlement discount of 0·5% for payment within 30 days.
Administration costs will be increased by $500 per year if the early settlement discount is taken.
ABC Co buys components worth $1·5 million per year from this supplier.
From a different supplier, ABC Co purchases $2·4 million per year of Component L at a price of $5 per component.
Consumption of Component L can be assumed to be at a constant rate throughout the year.
The company orders components at the start of each month in order to meet demand and the cost of placing each order is $248·44. The holding cost for Component L is $1·06 per unit per year.
The finance director of ABC Co is concerned that approximately 1% of credit sales turn into irrecoverable debts.
In addition, she has been advised that customers of the company take an average of 65 days to settle their accounts, even though ABC Co requires settlement within 40 days.
ABC Co finances
Assume there are 360 days in a year.
QUESTION: Decide whether ABC Co should adopt an economic order quantity approach to ordering Component L.
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