“WHAT IF” ANALYSIS AND

FINANCIAL MODELLING:
THEORY/PRACTICAL
CHAPTER 4
 Test the Arrive to
Model Simulate
model conlusion

This lesson focus on the practical use of MS-Excel

(Spreadsheet) as a tool for decision maker to use:
The Problem

 Many vendors offer discount prices for products if

purchased in large quantities. The buyers can save
on the product price, but they have to pay for
carrying large inventories.
 Theformulas (or mathematical model) for
determining whether to accept or reject discount
offer are not too complicated. However, they may
not be found in may commercial application
software packages.
 Writing these formulas with MS-Excel takes only a few
minutes. Furthermore, a “what-if” analysis can easily be
performed. The decision is determine by the following
variables:
 Annual usage (units per year)
 Unit price
 Cost per order (fixed)
 Holding cost (for each dollar value of inventory, in dollars per year)
 The minimum quantity that must be purchased in order to receive a
discount
 The discounted price.
Example
 In this example, the data for our case are:
 Annual usage = 100 units
 Unit price = $50.00
 Ordering cost = $25.00 per order
 Holding cost = $0.35 per order value in inventory,
per year
 The discount price offer = $48.00
To solve this problem, Economic Order
Quantity (EOQ) model/formula is used.
The formula:

2 (annual usage) (ordering cost)

EOQ = (unit price) (holding cost)

Developing the model involved the following steps:

 Cell Formula Explanation
E12 EOQ =SQRT(2*E5*E7/(E6*E8)) Calculates the EOQ value
E13 Actual Ordering Cost =ROUND(E12,0) Round the result of EOQ
E14 Number of Orders =E5/E13 The number of orders placed
annually by dividing the
annual usage by EOQ
E15 Average Inventory =E13/2 The average inventory is
equal to half of EOQ
E17 Order Cost =E7*E14 Multiply the order cost by the
number of orders per year
E18 Holding Cost =E15*E6*E8 Multiplies average inventory
times the unit cost times
holding cost per unit
E19 Purchase Cost =E6*E5 Multiplies the unit cost by the
annual usage
E20 Total Cost =SUM(E17..E19) Total all the Annual Costs
Other Information:
Unit price in cell G6, must be entered
directly or with a formula (E6*.96).
Minimum amount for purchased to be
ordered is also entered in cell G9
(500).
In G13: enter this formula:
IF(G12>=G9,ROUND(G12,0),G9)
ASSIGNMENT: Goal Seeking

Find the discounted price for minimum number of

purchases that contribute to the total cost to be
$48,000. Do a Trial and Error or through goal
seeking also for discount price of $47.00 (750 units
of actual order quantity) and $46.00 (1000 units of
actual order quantity).