1. © Prentice Hall, 1997 1 MBA 622 Brief Accounts Receivable and Inventory Management Portions from Emery and Finnerty: Corporate Financial Management – Edited by Del Hawley

2. © Prentice Hall, 1997 2 Effective Use of Trade Credit è Advantages: èReadily available èInformal èFlexible èStretching payments è Disadvantages èHigh cost of discounts foregone èExcessive stretching of payments

3. © Prentice Hall, 1997 3 Trade Credit Terms Common credit terms: Net 30 2/10 Net 30 Meaning: (Disc%)/(Days to get discount) (Date Due) 2/10 Net 30  2% discount if paid within 10 days; otherwise pay within 30 days

4. © Prentice Hall, 1997 4 Cost of Trade Credit Discount Music Stores buys its inventory on “1/10, net 30” terms. What is the cost of not taking the discount?

5. © Prentice Hall, 1997 5 Cost of Trade Credit è Let d = the amount of the discount (= 1%) è Let DP = the discount period (= 10 days) è Let TP = the total payment period (= 30 days)

6. © Prentice Hall, 1997 6 Cost of Trade Credit

7. © Prentice Hall, 1997 7 Cost of Trade Credit Pay on Day 40  12.29% Pay on Day 60  7.37% So, there is an incentive to pay late that the seller must counter. The cost of foregoing the discount must be higher that cost of short-term borrowing or the buyer will use the trade credit as a loan.

8. © Prentice Hall, 1997 8 Pursuing Delinquent Accounts è Letters è Telephone calls è Personal visits è Collection agencies è Legal proceedings

9. © Prentice Hall, 1997 9 Inventory Management è Types of inventories: èRaw materials èWork-in-process èFinished goods

10. © Prentice Hall, 1997 10 Economic Order Quantity (EOQ) Model è Let èS = constant usage rate of the inventory èF = fixed cost of ordering inventory èC = carrying cost per unit of inventory for the period. èQ = units of inventory ordered.

11. © Prentice Hall, 1997 11 Inventory Levels for the EOQ Model Time Inventory Level Q Q/2 0

12. © Prentice Hall, 1997 12 Economic Order Quantity (EOQ) Model

13. © Prentice Hall, 1997 13 Economic Order Quantity (EOQ) Model Annual Cost Total Cost Carrying Cost Ordering Cost Order Quantity (Q) Minimum Cost Q*

14. © Prentice Hall, 1997 14 EOQ Model The Acer Co. sells 10,000 units per year. The cost of placing one order is $45 and it costs $4 per year to carry one unit of inventory. What is Acer’s EOQ?

15. © Prentice Hall, 1997 15 EOQ Model

16. © Prentice Hall, 1997 16 EOQ Model è Average inventory = Q/2 = 475/2 = 237.5 units. è Number of orders per year = S/Q = 10,000/475 = 21. è Time between orders = Q/S = (475/21)(365) = 17.34 days.

17. © Prentice Hall, 1997 17 EOQ Model è Annual ordering cost = F(S/Q) = $45(10,000/475) = $947 per year. è Annual holding cost = C(Q/2) = $4(475/2) = $950 per year. è Total annual cost = $947 + $950 = $1,897 per year.

18. © Prentice Hall, 1997 18 Just-In-Time (JIT) Inventory Systems è Materials should arrive exactly as they are needed in the production process. èReduces inventory holding costs è Important factors determining success of JIT systems: èPlanning requirements èSupplier relations èSetup costs èOther cost factors èImpact on credit terms