What Do You Think of The Discounting Scheme That KAR Had Used Historically? Do You Think It Was Justified Given The Circumstances?

KAR was a large Brazilian food processing company, headquartered in Sao Paulo, which produced fresh and processed
meats. Starting as a slaughterhouse, the company had become a major global player after several acquisitions across the
world. The company sold its products to several supermarket chains within Brazil. As the company grew, it became clear
that supply chain operations required significant improvement to compete with other multinationals that were entering
the Brazilian market. The new supply chain head quickly realized that the inflexibility of the current distribution system
resulted in the high cost of 4,000 real to process, load, and deliver each order. He changed processes and invested in
technology to increase flexibility and make it cheaper to handle mixed loads. He also brought in routing software that made
it easier to plan deliveries to multiple customers on a single truck. This helped reduce the fixed cost per customer order
down to 400 real. Having made such promising improvements, he hoped that these would significantly reduce lot sizes and
thus inventory.
1. What do you think of the discounting scheme that KAR had used historically? Do you think it was justified
given the circumstances?
With no discount scheme:
 Annual Order (D) = 12*10,000 = 120,000 kg
 S (Fixed Order Cost / lot) = 100 real C (Unit Cost/kg) = 4 real

 Holding cost / year (as a fraction of unit cost), h = 0.2
Optimal order size for the supermarket = Q* = Sqrt [2DS/hC]
= sqrt{(2*120,000*100)/(0.2*4)} = 5477.23 kgs ≈ 5478 kg
With discount scheme:
Annual Order (D) = 120,000 kg
S (Fixed Order Cost / lot) = 100 real
C (Unit Cost/kg) = 3.92
Holding cost / year (as a fraction of unit cost), h = 0.2 Optimal order size for the supermarket = Q* = Sqrt [2DS/hC]
= sqrt{(2*120,000*100)/(0.2*3.92)} = 5532.83 kgs ≈ 5533 kg

As, the EOQ obtained in both schemes is less than 27,500 kg, it is not entitled for the reduced price (Since discount is
offered beyond lot size greater than 27,500 Kg). So, the supermarket candidate solution for the supermarket will be any lot
size of 27,500 kg or greater.
No Discount Scheme Discount Scheme
Revenue 480,000 470,000

Annual Material Cost (Real) 300,000 300,000
Annual Holding Cost (Real) 1,370 6,875

Annual Order Cost (Real) 87,623 17,455
Profit (Real) 91,007 146,070
With discounted scheme at lot sizes of 27,500 Kg, KAR foods have better profits (Difference = 55,063 real).
2. Once KAR has reduced its fixed cost per order to 400 real, what are the downsides to leaving the
discounting scheme unchanged?
No Discount Scheme Discount Scheme

Revenue 480,000 470,000
Annual Material Cost (Real) 300,000 300,000
Annual Holding Cost (Real) 1,370 6,875
Annual Order Cost (Real) 8,762 1,745
Profit (Real) 169,868 161,780
With the new fixed cost, the discount scheme predicts deteriorating figures as compared to the non-
discounted (Difference = 8088 real). Hence, KAR food should immediately review their discount
policies to get profitable. Cancel discounts, if necessary.
With the new fixed cost of 400 real, the following would be the downsides to leave the discount
scheme unchanged;
1. The customers would still order higher quantities in order to avail the discounting scheme, and KAR
foods would incur 20% holding cost on those orders. So, the total cost would not come down as
anticipated.
2. The company would be losing 2% on every order of 27,500 kg or more and also pay 20% holding cost
on them.
3. The routing software which allows them to plan deliveries to multiple customers on a single truck
would not be fully utilized.
3. What would Carlos suggest to Vanessa at the upcoming meeting? What are the potential gains for KAR from
this suggestion?
During his meeting with Vanessa, Carlos should recommend that KAR foods re-evaluate and change their
discounting scheme as follows:
• Reduce discount value from 0.08 Real per kg to somewhere between 0.01 and 0.02 Real per kg
• Reduce discounting volume to kick in at 9,608 kg per order (instead of 27,500 kg per order)
• If there is a risk that retailers may not take up this offer (due to their relatively low savings from
optimization), then mandate an MOQ of 9600 kg per order
• Consider volume discounts (instead of lot sized discounts) – however this may need further analysis.

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KAR was a large Brazilian food processing company, headquartered in Sao Paulo, which produced fresh and processed

With no discount scheme:

 Annual Order (D) = 12*10,000 = 120,000 kg

 S (Fixed Order Cost / lot) = 100 real C (Unit Cost/kg) = 4 real

Optimal order size for the supermarket = Q* = Sqrt [2DS/hC]

= sqrt{(2120,000100)/(0.2*4)} = 5477.23 kgs ≈ 5478 kg

With discount scheme:

Annual Order (D) = 120,000 kg

S (Fixed Order Cost / lot) = 100 real

C (Unit Cost/kg) = 3.92

= sqrt{(2120,000100)/(0.2*3.92)} = 5532.83 kgs ≈ 5533 kg

No Discount Scheme Discount Scheme

Revenue 480,000 470,000

Annual Holding Cost (Real) 1,370 6,875

Profit (Real) 91,007 146,070

No Discount Scheme Discount Scheme

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