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In relation to the last operational cause, Lee et al. highlighted that some pricing strategies that have a positive marketing effect on companies, such as promotions, might significantly deteriorate the operational performance of supply chains. These incentives to buy more than what is actually needed at a specific point in time result in the fact that the customers’ buying pattern does not reflect their requirements. This significantly adds to the distortion of the relevant information throughout the supply chain, and hence contributes to losing control of the variability amplification. Due to their negative effects on the operational behaviour of organisations, such pricing strategies may become ‘the dumbest marketing ploy’, as described by Sellers . We refer interested readers to Butman for an interesting discussion on common issues in the interface between marketing and operations management in the practice of organisations. Supply chains are victims of a dynamic phenomenon known as the Bullwhip Effect (Lee et al., 1997a, Lee et al., 1997b).

In order to determine the optimum quantity, we need to compare the total inventory cost of order quantities of 1000 units and 2000 units. We can ignore the total inventory cost of 500 units as it is below the EOQ level. By knowing how much inventory to order, you’ll be less tempted to procure more units than necessary when suppliers offer incentives like quantity discounts. You can easily weigh discount savings against the costs of holding too much inventory and avoid making bad financial decisions. The main problem with quantity discounts is that they can trigger significant declines in the profitability of the seller, since they reduce the total price being offered. From the perspective of the buyer, taking these discounts can result in inventory storage problems, especially for bulkier goods. In addition, the buyer takes on the risk of product damage and obsolescence, since the excess quantity may be stored in its warehouse for an extended period of time.

## 3. Operational and economic performance metrics

Daniel Liberto is a journalist with over 10 years of experience working with publications such as the Financial Times, The Independent, and Investors Chronicle. He received his masters in journalism from the London College of Communication. Daniel is an expert in corporate finance and equity investing as well as podcast and video production. Calculating EOQ can help you to make informed decisions when it comes to buying and managing inventory. It also provides an annual overview of your inventory needs, which will help you to do proper financial planning for the next 12 months.

- Others, however, may still opt for the offer of a discount for a wide variety of reasons.
- Croson R., Donohue K. Behavioral causes of the bullwhip effect and the observed value of inventory information.
- Because this order size is less than the 90 units required to receive the discount, it is not feasible; thus, the optimal order size is 90 units.
- We also discuss in detail other valuable insights for professionals, both from the perspective of sellers and buyers.
- In addition, when inventory- and/or capacity-related costs are especially costly for the retailer, managers should prevent from being especially keen to pursue the discount quantity.
- In the words of Su and Geunes (2012, p. 892), ‘the Bullwhip Effect might be a necessary evil in a profit-maximizing supply chain’.

C , in the basic EOQ model because the purchase price was not part of the EOQ formula. However, in the case of a quantity discount, carrying cost will vary with the change in price if it is computed as a percentage of purchase price. So, if you have a seasonal business, using other inventory restocking methods and formulas that take demand fluctuations, lead time changes, among other important variables into account may be the best way to calculate your optimal order quantity. Also, the Bullwhip discipline in the 2020 decade will need to be populated with more studies delving into the dynamics of closed-loop supply chains. As sustainability acquires a critical importance, the supply chain structure is evolving from linear models, such as the one studied in this paper, to closed-loop variants (e.g. Xiao et al., 2020). It thus becomes necessary to explore the effect of pricing mechanisms on the performance of these new supply chains that incorporate additional sources of complexity (Goltsos et al., 2019).

## b) Inventory model with double discount

When implementing collaborative practices, the integrative framework for supply chain collaboration developed by Simatupang and Sridharan may be of special interest for professionals. Now we aim to understand the nonlinear dynamics induced by the quantity discount in the supply chain. Specifically, we compare the impulse response of our nonlinear supply chain with quantity discounts to that of the reference linear system.

Bhattacharya R., Bandyopadhyay S. A review of the causes of bullwhip effect in a supply chain. Ancarani A., Di Mauro C., D’Urso D. Measuring overconfidence in inventory management decisions. 1Often labelled as the Forrester Effect (see e.g. Disney and Towill, 2003), given that Jay W. Forrester identified four decades before the amplification effect of orders in supply chains due to the order-making processes. The effects of the different factors on the optimal discount acceptance parameter. This illustrates that the economic order quantity is always in the best interests of the firm. Marginal cost is the change in total cost that comes from making or producing one additional item.

## How to Calculate Your Economic Order Quantity?

However, EOQ may not be optimal when discounts are factored into the calculation. If you’re a new seller, EOQ may generate smaller orders at first, as average EOQ Quantity Discount annual demand is one of the key variables in calculating your ideal order size. Unfortunately, many suppliers implement an MOQ before they accept an order.

A decision to avail the quantity discount should be taken only if the net effect of the above components on the income is positive. Suppose you need to ship your inventory from a warehouse in the US to another in Canada. Beyond that, read on further in the article for another method of inventory management that may be more suitable for your variable needs.

## Quantity Discount and EOQ

Monahan developed an analytical method for establishing the optimal terms of quantity discounts from the perspective of vendors, assuming the buyer uses an EOQ model to order supplies. Weng also used an EOQ framework, through which the author explored the role of quantity discounts in the coordination of a supplier and several buyers. Li and Liu showed how quantity discounts can be used to coordinate a supplier–buyer relationship for probabilistic demands, which differs from the previous works that assumed a fixed demand. Along a different line, Meena and Sarmah used a genetic algorithm to solve the order allocation problem of a manufacturer among multiple suppliers when supply disruptions occur and quantity discounts exist. Recently, Zhao et al. studied the coordination of a fashion supply chain characterised by demand disruptions through revenue sharing contracts and quantity discounts. Economic Order Quantity , also known as Economic Purchase Quantity , is the order quantity that minimizes the total holding costs and ordering costs in inventory management.

QM for Windows has the capability to perform EOQ analysis with quantity discounts when carrying costs https://accounting-services.net/ are constant. Exhibit 16.4 shows the solution summary for our University Bookstore example.

It also assumes that inventory is restocked when needed by procuring a batch of fixed size and orders are expected to arrive on time. This pricing model works like tiered volume discounting and may apply more to wholesale purchasing rather than private label. The only difference is that the discounts are determined based on the pre-packaged units. For instance, you get a 10% discount for a package of 20 units, 15% discount for 40 pre-packaged units, and so on. However, if you want to order 45 units of prepackaged goods, the 15% discount will only apply to the first 40 units.

This refers to the amplification of the variability of orders as they pass through the different echelons of a supply chain, which may also have negative implications in terms of the variability of inventories. On the whole, the Bullwhip Effect creates a climate of instability in production and distribution systems that significantly decreases their operational and financial performance (Metters, 1997, Disney and Lambrecht, 2008, Dominguez et al., 2018).

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