Chapter 20 -Chapter 20 - Accounts Accounts Receivable and Inventory Receivable and Inventory

ManagementManagement

2005, Pearson Prentice Hall

Accounts Receivable Accounts Receivable ManagementManagement

Size of Investment in Accounts ReceivableSize of Investment in Accounts Receivable Percent of Credit Sales to Total SalesPercent of Credit Sales to Total Sales Level of SalesLevel of Sales Terms of SaleTerms of Sale Quality of CustomerQuality of Customer Collection EffortsCollection Efforts

Accounts Receivable Accounts Receivable ManagementManagement

Terms of SaleTerms of Sale Quoted as Quoted as a/b net ca/b net c , which means , which means

“deduct “deduct a%a% if paid within if paid within bb days days, , otherwise pay within otherwise pay within cc days days.”.”

ExampleExample: : 3/30 net 603/30 net 60 means means “deduct 3% if paid within 30 days, “deduct 3% if paid within 30 days, otherwise pay the entire amount otherwise pay the entire amount within 60 days.”within 60 days.”

Accounts Receivable Accounts Receivable ManagementManagement

Terms of SaleTerms of Sale Annualized opportunity cost of Annualized opportunity cost of

foregoing a discount:foregoing a discount:

x

Accounts Receivable Accounts Receivable ManagementManagement

Terms of SaleTerms of Sale Annualized opportunity cost of Annualized opportunity cost of

foregoing a discount:foregoing a discount:

a 360a 360

1 - a c - b1 - a c - b

Accounts Receivable ManagementAccounts Receivable Management

a 360a 360 1 - a c - b1 - a c - b

x

Accounts Receivable ManagementAccounts Receivable Management

a 360a 360 1 - a c - b1 - a c - b

Opportunity cost of foregoing Opportunity cost of foregoing 3/30 net 603/30 net 60::

x

Accounts Receivable ManagementAccounts Receivable Management

a 360a 360 1 - a c - b1 - a c - b

opportunity cost of foregoing opportunity cost of foregoing 3/30 net 603/30 net 60::

.03 360.03 360

1 - .03 60 - 301 - .03 60 - 30

x

x

Accounts Receivable ManagementAccounts Receivable Management

a 360a 360 1 - a c - b1 - a c - b

opportunity cost of foregoing opportunity cost of foregoing 3/30 net 603/30 net 60::

.03 360.03 360

1 - .03 60 - 301 - .03 60 - 30

= 37.11%= 37.11%

x

x

Accounts Receivable ManagementAccounts Receivable Management

Inventory ManagementInventory Management

Too much inventory is expensive Too much inventory is expensive and wasteful.and wasteful.

Not enough inventory can result Not enough inventory can result in lost sales.in lost sales.

Inventory ManagementInventory Management

Raw materials inventoryRaw materials inventory - basic materials - basic materials to be used in the firm’s production to be used in the firm’s production operations.operations.

Work-in-process inventoryWork-in-process inventory - partially - partially finished goods requiring additional work finished goods requiring additional work before becoming finished goods.before becoming finished goods.

Finished-goods inventoryFinished-goods inventory - completed - completed products that are not yet sold.products that are not yet sold.

Stock of cashStock of cash - inventory of cash to allow - inventory of cash to allow payment of bills.payment of bills.

Inventory ManagementInventory Management

Optimal inventory order sizeOptimal inventory order size: the : the Economic Order Quantity (EOQ) Economic Order Quantity (EOQ) model:model:

Optimal inventory order sizeOptimal inventory order size: the : the Economic Order Quantity (EOQ) Economic Order Quantity (EOQ) model:model:

2SO2SO

CCQ* =

Inventory ManagementInventory Management

2SO C

Inventory ManagementInventory Management

Q =Q = inventory order size in units inventory order size in units

C =C = cost of carrying 1 unit in inventory cost of carrying 1 unit in inventory

S =S = total demand in units over planning total demand in units over planning period period

O =O = ordering cost per order ordering cost per order

Q* =

Example: Inventory ManagementExample: Inventory Management

Q =Q = inventory order size in units inventory order size in units

C =C = cost of carrying 1 unit in inventory cost of carrying 1 unit in inventory = 1.25= 1.25

S =S = total demand in units over planning total demand in units over planning period = period = 10,000 units10,000 units

O =O = ordering cost per order = ordering cost per order = $250$250

2SO C

Q* =

Example: Inventory ManagementExample: Inventory Management

Example: Inventory ManagementExample: Inventory Management

2SO2SO CC

Q* =

Example: Inventory ManagementExample: Inventory Management

2SO2SO CC

22xx250250xx10,00010,000

1.25 1.25

Q* =

Q* =

Example: Inventory ManagementExample: Inventory Management

2SO2SO CC

22xx250250xx10,00010,000

1.25 1.25

= 2,000 units= 2,000 units

Q* =

Q* =

Order Point ProblemOrder Point Problem

AverageAverage EOQ EOQ

inventoryinventory 2 2= + safety stock