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An idle stock of physical goods
that contain economic value,
and are held in various forms by
an organization in its custody
awaiting packing, processing,
transformation, use or sale in a
future point of time.
Inventory management
requires constant and careful
evaluation of external and
internal factors and control
through planning and review.
What is
Inventory
Management
Refers to the theories, functions &
management skills involved in
controlling inventory. It is a very
important function that determines
the health of the supply chain as well
as the impacts of the financial health
of the balance sheet.
•Purchasing Department
•Production Department
•Sales Department Inventory
management uses a variety of data to
keep track of the goods as they move
through the process, including lot
numbers, serial numbers, cost of
goods, quantity of goods and the dates
when they move through the process
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Inventory is defined as a
stock or store of goods
Types of Inventory
2
1
Main Inventory Control System Types:
Perpetual Inventory System
Periodic Inventory System
It continually updates inventory
records and accounts for additions
and subtractions when inventory
items are received, sold from stock,
moved from one location to another,
and picked from inventory.
These types of inventory control
systems track inventory using
physical inventory counts. When
physical inventory is complete, the
balance in the purchases account
shifts into the inventory account and
is adjusted to match the cost of the
ending inventory.
This are the following popular Inventory Control Systems that are being
used by big manufacturers and the retail units:
• Used to determine the importance of
each item of the stock in terms of its
value of annual consumption and are
categorized as A, B, and C.
ABC Inventory
Control System
• Since the categorization of the inventory
items is done on the basis of their
relative value, this approach is often
known as “Proportional Value Analysis.”
Three-Bin
System
• Is like a Kaban system, wherein the third
bin of inventory is reserved with the
supplier. In other words, a manufacturing
firm keeps a stock of inventory in two
bin: one bin in the factory store and one
bin at the supplier’s store. At the same
time, the supplier of the inventory will
keep one bin reserved at his location.
• A system wherein the material, or the
products are produced and acquired just
a few hours before they are put to use.
Just In-Time
System
• Objective of this system is to increase the
inventory turnover and reduce the
holding cost and any other costs
associated with it.
Outsourcing
Inventory System
• Adopted by the firms to reduce the
burden of manufacturing the
components of the finished goods inhouse within the organization. Thus, a
system of buying the products or
components from outside vendors rather
than manufacturing internally is called as
Outsourcing Inventory system.
•
Computerized
Inventory
Control System
• It is software installed on the computer
systems that enables a firm to keep a
check on the inventory levels by
performing the automatic counting of
inventories, recording withdrawals and
revising the stock balance.
Fixed order
Quantity
• The Fixed Order Quantity system is
followed by many firms since it helps to
reduce the reorder mistakes, manage the
storage capacity efficiently and prevent
the unnecessary blockage of funds,
which can be used elsewhere. Also, this
method ensures the regular
replenishment of inventory items, which
are currently being used in the
production process.
Fixed Period
Ordering
• Wherein the order for the
replenishment of inventory
items is sent periodically or
after a fixed time interval.
It is maintained by every firm to manage its inventories
efficiently. Inventory is the stock of products that a company
manufactures maintaining the information of the inventories,
this will also result in more profit for the industries. Therefore
the inventory control management database should be
designed to reduce the storage cost, reduce the insurance cost,
reduce taxes, optimize the stock sales etc.
Inventory Control System Management
Activity Ratios
Indicates the effectiveness
of the inventory
management practices of
the firm.
Inventory Turnover
Cost of Goods Sold
Ave. Inventory
Inventory Control System Management
Activity Ratios
Average number of days
that inventory are
outstanding.
Age of Inventory
Days in the Year
Inventory Turnover
The goal of inventory management is
to provide the inventories required to
sustain operations at the lowest
possible cost.
STEP 1
Identification of
costs involved in
purchasing and
maintaining
inventory
STEP 2
Determination at
what point those
costs are
minimized.
Carrying
Cost
Ordering
Cost
Cost
Associated
Three Categories
of Inventory Cost
are associated with
are associated with
having inventory, such
as rent, insurance paid
where the inventory is
stored, and they
generally increase in
proportion to average
amount of inventory
carried
placing and receiving
an order for new
inventory, including
costs of generating
memos etc.
Costs associated with
running short of
inventory (stockouts).
Total inventory maintenance costs (carrying costs plus
ordering costs) vary inversely
➢ Carrying costs increase with increases in average
inventory levels and therefore argue in favor of low levels
of inventory in order to hold these costs down.
➢ Ordering costs decrease with increases in average
inventory levels and therefore firm wants to carry high
levels of inventory so that it does not have to reorder
inventory as often as it would if it carried low levels of
inventory.
The economic Order Quantity (EOQ)
method is used to determine what
quantity
to
order
so
as
to
minimize
Cost to Maintain Inventory
total inventory costs
( EOQ Formula )
Assumption of EOQ Model
1. Annual demand requirements (sales) can be
forecasted perfectly.
2. Demand is evenly distributed throughout the year.
3. No quantity discounts.
4. Instantaneous delivery.
EOQ method involves two(2) major cost:
• Carrying Cost (warehouse storage cost, etc.); and
• Ordering cost (filling in purchase requisitions, etc.)
EOQ Formula
Units
Peso
EOQ =
EOQ=
2 x Annual Demand (AD) x Cost per Order (CPO)
Carrying Cost per Unit (CCPU)
2 x Annual demand in peso (ADP) x Cost per Order (CPO)
Carry Cost Ratio
You were consulted by the ABC Company to compute the EOQ on
the basis of these assumptions: an Annual Demand (AD) of 34,000
units, a Cost per Unit of P25, a Cost per Order of P850, and Carrying
Cost Percentage of 20%
Given:
Annual demand = 34,000 units
UNIT:
EOQ =
Cost per Order = P850
Cost per Unit = P25
2 x Annual Demand (AD) x Cost per Order (CPO)
Carrying Cost per Unit (CCPU)
PESO:
Carrying Cost ratio= 20%
Carrying Cost per unit = P5
EOQ=
2 x Annual demand in peso (ADP) x Cost per Order (CPO)
Carry Cost Ratio
EOQ Method
EOQ =
2 x 34,000 units x P850
P5
= 3,400 units
Or Php 17,000
D / EOQ
EOQ / 2
Orders size
No. of
orders
Cost per
order
Total
Ordering
Cost
Ave.
inventory
Carrying
cost per
unit
Total
Carrying
costs
Total
Inventory
Costs
6,800 units
5 times
P 850
P 4,250
3,400 units
P5
P 17,000
P 21,250
1,700 units
20 times
P 850
P 17,000
850 units
P5
P 4,250
P 21,250
EOQ Model Extension
Basic EOQ model assumes that inventory is used up
uniformly and that there are no delivery lags (inventory is
delivered instantaneously). Thus, two modifications:
1. Establish reorder point that allows for delivery lead
times (number of days to deliver the inventory as
ordered).
Ex. If 2,700 units are ordered every 3 months and
normal delivery time is one month after order is
placed, then EOQ should be ordered when on-hand
amount drops to 900 units.
2. Add quantity of safety stock to base average
inventory that allows for uncertainty of estimates used
in model and possibility of non-uniform usage.
• This added quantity is dependent on degree of
uncertainty of demand, cost of stockouts, level of
carrying costs, and probability of shipping delays
Ex. Adequate level of safety stock is 500 units.
Reorder point would be increased to 1,400 units
(900+500) and new order would be placed each time
on-hand quantity reached 1,400.
Other Example: Widget Wholesalers, Inc.
• Widgets sold per year: 240,000 units
• Cost price per unit: P2
• Inventory carrying costs: 20% of average inventory
level
• Fixed cost of ordering: P30 per order
Required: EOQ
EOQ Method
Units
EOQ =
2 x 240,000 units x 30
20% (P 2)
= 6,000 units
Discussion:
Widget should order 6,000 units per order.
•
At 6,000 units per order, Widget would place forty orders
per year (240,000/6,000)
• If Widget allows ten-day supply as lead time to order a
stock, then reorder point would be at 6,575 units (240,000
units demand divided by 365 days times 10 days)
• If Widget maintain a safety stocks of 1,500 units and allows
ten-day supply as lead time to order a stock, then reorder
point would be at 8,075 units (6,575 units + 1,500 units)
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Accounts receivable
management
Accounts receivable management is all about ensuring that
customers pay their invoices on time. And to ensure that the
benefits are greater than the costs from extending the credit
Nature of
accounts receivable
and
notes receivable- trade
Accounts Receivable
• RIGHT TO COLLECT MONEY
TO OTHER PERSON.
NORMAL BALANCE= DEBIT
• refers to the money that others owe to the
company and are amounts the company has
a right to collect because it sold goods or
services on credit to a customer.
• It is shown on its balance sheet as an asset.
• It is one of a series of accounts dealing with
the billing of a customer for goods and
services that the customer has ordered.
Notes receivable- Trade
• Notes receivable is a balance sheet item, that records
the value of promissory notes that a business is owed,
and should receive.
• A written promissory note gives the holder, or bearer,
the right to receive the amount outlined in the legal
agreement
• If the note receivable is due within a year, then it is
treated as a current asset on the balance sheet. If it is
not due until a date that is more than one year in the
future, then it is treated as a non-current asset on the
balance sheet.
key components of notes receivable:
Principal value: The face value of the note
Maker: The person who makes the note and therefore promises to pay the note’s
holder. To a maker, the note is classified as a note payable
Payee: The person who holds the note and therefore is due to receive payment
from the maker. To a payee, the note is classified as a notes receivable
Stated interest: A notes receivable generally includes a predetermined interest
rate; the maker of the note is obligated to pay the interest amount due, in
addition to the principal amount, at the same time that they pay the
principal amount.
Timeframe: The length of time during which the note is to be repaid. Notes
receivable are not usually subject to prepayment penalties, so the maker of
the note is free to pay off the note on or before the note’s stated due, or
maturity, date.
Credit Policy
It refers to those
decision variables
that influence the
amount of trade
credit i.e investment
in receivables
Two types of credit policies
a) Lenient/Loose/expansive Credit Policy: (liberal policy)
• Under this policy, firms sell on credit to customers very liberally even to those
customers whose creditworthiness is not known or doubtful.
• Because of liberal policy, sales increases and as a result, profit also increases
but bad debts also increase and hence the firm face the problem of liquidity.
b) Stringent /Tight /Restrictive Credit Policy:
• the firm is very selective in extending credit.
• credit sales are made only to those customers who have proven worthiness.
• Because of tight credit standards, chances of bad debts and other credit costs
are minimized but at the same time sales and profits, margins are restricted.
Important dimensions of a firm’s credit policy
1. Credit Terms
• refer to the stipulations recognized by the firms for making credit sale of the goods to its
buyers
• literally mean the terms of payments of the receivables
 Credit period
• it is time duration for which credit is extended to the customers.
• it is generally stated in terms or a net date.
• For example, ‘net 30’ refers to the payment to be made within 30 days from the date of the
credit sale.
 Cash discount
• In order to induce the customers/debtors to pay their bills early, the cash discount is allowed.
• It indicates the rate of discount and the period for which the discount is offered
2. Credit
Standards
•
refers to the minimum criteria adopted by a firm for the purpose of
short listing its customers for extension of credit during a period of
time.
• Credit should be allowed to only those customers who contribute good
credit risk.
• Credit standards are the basic criteria for extension of credit to
customers.
Note: Liberal credit standards push up sales by attracting more customers.
But, this increases the incidence of bad debts loss, investment in
receivables and cost of collection. Stiff credit standards tend to depress
sales but at the same time, also reduce the incidence of bad debt loss,
investment in receivables and collection costs.
3. Collection Policy
• Collection policy refers to the procedures adopted by a firm (creditor) collect
the amount of from its debtors when such amount becomes due after the expiry
of credit period.
• It should aim at accelerating collection from slow payers and be reducing bad
debts losses.
Note:
• If the firm is strict in its collection policy with the permanent customers who
are temporarily slow payers, they get offended and shift to the competitors and
thus, the firm loses its permanent business.
•
If the firm is lenient in collection policy, receivables increase and thus
profitability reduces.
Five C’s
of
credit analysis
1. Character
What it is: A lender’s opinion of a borrower’s general
trustworthiness, credibility and personality.
Why it matters: Banks want to lend to people who are
responsible and keep commitments.
How it’s assessed: From credentials, references, reputation and
interaction with lenders.
2. Capacity/Cash flow
What it is: Your ability to repay the loan.
Why it matters: A business must generate enough cash
flow to repay the loan. Loans are a form of debt,
and they must be repaid in full.
How it’s assessed: From financial metrics and
benchmarks (debt and liquidity ratios, cash flow
statements), credit score, borrowing and
repayment
history.
3. Capital
What it is: The amount of money invested by the
business owner or management team.
Why it matters: Banks are more willing to lend to those
who have invested some of their own money into the
venture. Most lenders are not willing to take on
100%
of the financial risk, so it helps borrowers to have some
“skin in the game.”
How it’s assessed: From the amount of money the
borrower or management team has invested in the
business.
4. Conditions
What it is: How the business will use the loan and how that
could be affected by economic or industry factors.
Why it matters: To ensure that loans are repaid, banks want
to lend to businesses operating under favorable
conditions. They want to identify risks and protect
themselves accordingly.
How it’s assessed: From a review of the competitive
landscape, supplier and customer relationships, and
macroeconomic and industry-specific issues to ensure
that risks are identified and mitigated.
5. Collateral
What it is: Assets that can be pledged as security.
Why it matters: Collateral acts a backup source if
the borrower cannot repay a loan.
How it’s assessed: From hard assets such as real
estate and equipment; working capital, such as
accounts receivable and inventory; and a
borrower’s home that also can be counted as
collateral.
MONITORING OF
RECEIVABLES
DAYS SALES OUTSTANDING (DSO) / RECEIVABLE PERIOD
• Also called as average collection period
• Represents the average time it takes to collect credit accounts
Assume the following data of ABC Co. which grants 1/5,
net 10 day credit terms:
Credit sales
A/R, beg. bal.
A/R, end bal.
P 8,500,000
360,000
320,000
8,500,000
= --------------340,000
= 25 times
365 days
= --------------25 times
= 14.6 days
AGING schedule OF RECEIVABLE
• usually refers to the technique for estimating the amount of a
company's accounts receivable that will not be collected.
• The estimated amount that will not be collected should be the
credit balance in the contra asset account Allowance for Doubtful
Accounts.
The aging method sorts each customer's unpaid invoices by invoice
date into perhaps four columns:
Column 1 lists the invoice amounts that are not yet due
Column 2 lists the invoice amounts that are 1-30 days past due
Column 3 lists the invoice amounts that are 31-60 days past due
Column 4 lists the invoice amounts that are more than 61 days past
due
Estimated
cost
of
receivables
CARRYING COST =[Principal amount] x [interest rate] divided by
[365 days in a year] times [the number of
days the debt is outstanding].
For example: The carrying cost of a $1,000 invoice
that is paid 100 days late at a rate of 6%* would be
calculated as follows
$1000 x .06 / 365 x 100 = $16.44
Opportunity cost
• Opportunity cost is the profit lost when one alternative is selected
over another, i.e. cash discount availed by customers.
• The concept is useful simply as a reminder to examine all
reasonable alternatives before making a decision.
For example, you have $1,000,000 and choose to invest it in a
product line that will generate a return of 5%. If you could have
spent the money on a different investment that would have
generated a return of 7%, then the 2% difference between the two
alternatives is the foregone opportunity cost of this decision
Administrative Costs
• An expense incurred in controlling and directing an
organization, but not directly identifiable with financing,
marketing, or production operations.
• Also called administrative expenses.
• To be classified as an administrative expense, the expense
must be a regular business expense that aids the business
as a whole rather than a single department, such as sales
or production.
Bad debts expense
• is related to a company's current asset
accounts receivable.
• Bad debts expense is also referred to as
uncollectible accounts expense or doubtful
accounts expense.
Management of Cash and
Marketable Securities
Firms hold cash balances in checking
accounts. Why?
1. Transaction motive: Firms maintain cash
balances to conduct normal business
transactions. For example,
•
•
•
Payroll must be met
Supplies and inventory purchases must be paid
Other day-to-day expenses of being in business
must be met
Management of Cash and
Marketable Securities
2. Precautionary motive: Firms maintain
cash balances to meet precautionary
liquidity needs.
a. To bridge the gaps between cash inflow and cash
outflow
b. To meet unexpected emergencies
Management of Cash and
Marketable Securities
3. Speculative motive: Firms maintain
cash balances in order to “speculate” –
that is, to take advantage of
unanticipated business opportunities that
may come along from time to time.
Management of Cash and
Marketable Securities
• Marketable securities: short-term, high-quality
debt instruments that can be easily converted
into cash.
• In order of priority, three primary criteria for
selecting appropriate marketable securities to
meet firm’s anticipated short-term cash needs
(particularly those arising from precautionary
and speculative motives):
1. Safety
2. Liquidity
3. Yield
Management of Cash and
Marketable Securities
1. Safety
•
•
Implies that there is negligible risk of default
of securities purchases
Implies that marketable securities will not be
subject to excessive market fluctuations due
to fluctuations in interest rates
Management of Cash and
Marketable Securities
2. Liquidity
•
Requires that marketable securities can be sold
quickly and easily with no loss in principal value due
to inability to readily locate purchaser for securities
3. Yield
•
•
Requires that the highest possible yield be earned
and is consistent with safety and liquidity criteria
Least important of three in structuring marketable
securities portfolio
Management of Cash and
Marketable Securities
Actions firm may take to improve cash
flow pattern:
1. Attempt to synchronize cash inflows and
cash outflows
– Common among large corporations
– E.g. Firm bills customers on regular schedule
throughout month and also pays its own bills
according to a regular monthly schedule. This
enables firm to match cash receipts with cash
disbursements.
Management of Cash and
Marketable Securities
2. Expedite check-clearing process,
slow disbursements of cash, and
maximize use of “float” in corporate
checking accounts
•
Three developments in financial services
industry have changed nature of cash
management process for corporate
treasurers
Management of Cash and
Marketable Securities
3. Impact of electronic funds transfer systems
(EFTS) and online banking
•
•
•
Includes so-called “remote capture” technology for
quickly depositing checks without visiting a bank
branch
Radically reduced amount of time necessary to turn
customer’s check into available cash balance on
corporate books
Sharply reduced amount of float available, as
corporation’s own checks clear more rapidly
Management of Cash and
Marketable Securities
4. Expanded use of money market mutual
funds (as substitute for conventional checking
accounts)
Management of Cash and
Marketable Securities
5. Growth in cash management services
offered by commercial banks
These systems efficiently handle firm’s cash
management needs at very competitive price.
Accounts Receivable
Management
•
Accounts receivable management
requires balance between cost of
extending credit and benefit received
from extending credit.
•
No universal optimization model to
determine credit policy for all firms since
each firm has unique operating
characteristics that affect its credit policy.
Types Credit Policy
• Lenient/Liberal
• Stringent/Restrictive
Factors affecting the Credit
Policy
• Credit Terms
• Credit Standards
• Collection Policy
Credit Investigation
“Five Cs” of credit analysis” used to decide
whether or not to extend credit to particular customer:
1. Character: moral integrity of credit applicant and
whether borrower is likely to give his/her best efforts
to honoring credit obligation
2. Capacity: whether borrowing firm has financial
capacity to meet required account payments
3. Capital: general financial condition of firm as judged
by analysis of financial statements
4. Collateral: existence of assets (i.e. inventory,
accounts receivable) that may be pledged by
borrowing firm as security for credit extended
5. Conditions: operating and financial condition of
firm
Types of cost in maintaining
receivables:
✓ Collection costs
✓ Opportunity cost
✓ Bad-debt losses
✓ Carrying Costs
Supervising collection of accounts
receivable
➢ Requires close monitoring of average
collection period and aging schedule
➢ Analyze the receivable turn-over and the
receivable period.
➢ Aging schedule groups accounts by age and
then identified quantity of past due accounts
FINANCING OF
RECEIVABLES
Financing of Receivables
• Accounts receivable: used as collateral
for short-term loans
• Three methods of accounts receivable
financing:
1. Pledging
2. Assigning
3. Factoring
Pledge of Receivables
On January 1, 2020, ABC Corp. borrowed
money in the bank P1,000,000, 1-year term,
with an interest rate of 12% per annum.
ABC pledged it’s A/R which amounted to
P1,500,000. How much is the cash
proceeds of loan on January 1? How much
is the maturity value one year after? What is
the effective interest rate?
Simple Interest
Cash proceeds:
P 1,000,000
Discounted Interest
P 880,000
Maturity value:
P 1,120,000
P 1,000,000
Effective interest rate:
12%
13.64%
Financing of Receivables
2. Assigning
– Borrowing firm assigns over its right to collect
account to lender
– Lender advances money to borrower up to
some predetermined percentage (75%-90%) of
accounts receivable and then collects directly
from customer account
– Payments received in excess of amount
loaned are property of borrower (treated as
part of “circulating pot” of money from which
borrower may draw funds as needed)
Assignment of Receivables
Suppose that XYZ Company obtains
P800,000 cash on December 31, 2019, by
assigning P 1,000,000 of its trade
receivables. It agrees to place the
collections in a special restricted checking
account from which it will repay the original
P 800,000 plus a P 36,000 finance charge
on April 1, 2020. What is the interest rate?
36,000/800,000= 4.5% for 3months.
Financing of Receivables
• Pledging/Assigning (continued)
– Lender has recourse to borrower if account
fails to pay
– Lender only acts as supplier of funds so if
borrower defaults, borrower suffers bad-debt
loss, not lender
– Cost of pledging and assigning are about
equal
Financing of Receivables
3. Factoring
– Lender buys accounts receivable outright
from borrower at discount from face value
and assumes burden of collecting
receivables
• Burden includes assumption of bad-debt
losses
• If account does not pay, lender has no
recourse on borrowing firm
Financing of Receivables
3. Factoring (continued)
• Lenders provides three services
1. Provide financing of accounts receivable for
borrowing firms
2. Act as borrowing firm’s credit department
3. Assumes risk of bad-debt losses
•
•
Transfers risk from borrowing firms to factor
Most expensive form of accounts receivable
financing
Factoring without recourse
ABC Company transfers P 500 million of
receivables without recourse for proceeds of
P495 million.
Factoring with recourse
ABC Company transfers
receivables with recourse
P445 million less a P50
Later on, the factor is
receivables of P490 million.
P500 million of
for proceeds of
million holdback.
able to collect
INVENTORY MANAGEMENT
GOAL: To provide the inventories
required to sustain operations at
the lowest possible cost.
Meaning, adequate stock in units at
minimum inventory cost.
Inventory Management
Cost of maintaining inventory:
1. Carrying costs: all costs associated with carrying
inventory
• Storage, handling, loss in value due to
obsolescence and physical deterioration, taxes,
insurance, financing
2. Ordering costs:
• Cost of placing orders for new inventory (fixed
cost: same peso amount regardless of quantity
ordered)
• Cost of shipping and receiving new inventory
(variable cost: increase with increases in quantity
ordered)
Inventory Management
Cost of maintaining inventory:
3. Stockout costs: the costs of running short
on inventory, including foregone income on lost
sales, cost of downtime, loss of customer
goodwill.
Inventory Management
Total inventory maintenance costs (carrying
costs plus ordering costs) vary inversely.
– Carrying costs increase with increases in average
inventory levels and therefore argue in favor of
low levels of inventory in order to hold these costs
down.
– Ordering costs decrease with increases in
average inventory levels and therefore firm wants
to carry high levels of inventory so that it does not
have to reorder inventory as often as it would if it
carried low levels of inventory.
Inventory Management
• Economic order quantity (EOQ) model:
mathematical model designed to
determine optimal level of average
inventory that firm should maintain to
minimize sum of carrying costs and
ordering costs (total cost inventory
maintenance cost)
– Explains inventory control problem
– EOQ = √2DO/C
Assumption of EOQ Model
1. Annual demand requirements (sales) can
be forecasted perfectly.
2. Demand is evenly distributed throughout
the year.
3. No quantity discounts.
4. Instantaneous delivery.
EOQ Model Extension
• Basic EOQ model assumes that inventory is used up
uniformly and that there are no delivery lags
(inventory is delivered instantaneously). Thus, two
modifications:
1. Establish reorder point that allows for delivery
lead times.
• Ex. If 2,700 units are ordered every 3 months
and normal delivery time is one month after order
is placed, then EOQ should be ordered when onhand amount drops to 900 units.
Inventory Management
2. Add quantity of safety stock to base average
inventory that allows for uncertainty of estimates used
in model and possibility of non-uniform usage.
• This added quantity is dependent on degree of
uncertainty of demand, cost of stockouts, level of
carrying costs, and probability of shipping delays
• Ex. Adequate level of safety stock is 500 units.
Reorder point would be increased to 1,400 units
(900+500) and new order would be placed each
time on-hand quantity reached 1,400.
Inventory Management
Example: Widget Wholesalers, Inc.
• Widgets sold per year: 240,000 units
• Cost price per unit: 2
• Inventory carrying costs: 20% of average
inventory level
• Fixed cost of ordering: 30 per order
Inventory Management
Solve EOQ = √(2DO/C)
– EOQ = √(2)(30)(240,000)/(0.20)(2)
– Widget should order 6,000 units per order.
– If Widget allows ten-day supply as safety
stock, then reorder point would be at 6,575
units (10 days divided by 365 days times
240,000)
– At 6,000 units per order, Widget would place
forty orders per year (240,000/6,000)