Problem 1

Cohen Industrial Products uses 2,100 switch assemblies per month and then reorders another
2,100. The relevant carrying cost per switch assembly is $20 every year, and the fixed order
cost is $300. The plant operates 250 days in a year and maintains a safety stock of 2 days’
worth of switch assemblies since the lead time to receive orders is 3 days. Calculate the
economic order quantity (EOQ) and the reorder point.

(2∗𝑆∗𝑂)
EOQ = √
𝐶

(2 ∗ 12 ∗ 2100 ∗ 300)
√
𝐶
√756000
= 869.48
Reorder point = Days of lead time * Daily usage + Safety stock
2100 ∗ 12 2100 ∗ 12
3∗( )+2( )
250 250
25200 25200
3∗( ) + 2( )
250 250
= 504 switch assemblies

Problem 2
Multiple changes in cash conversion cycle Garrett Industries turns over its inventory six times
each year; it has an average collection period of 45 days and an average payment period of 30
days. The firm’s annual sales are $3 million. Assume that there is no difference in the
investment per dollar of sales in inventory, receivables, and payables, and assume a 365-day
year.

1. Calculate the firm’s cash conversion cycle, its daily cash operating expenditure, and the
amount of resources needed to support its cash conversion cycle.
365 365
AAI= = = 60.8 days
𝐼𝑛𝑣𝑒𝑛𝑡𝑜𝑟𝑦 𝑇𝑢𝑟𝑛𝑜𝑣𝑒𝑟 6

OC= AAI + ACP = 60.8 + 45 = 105.8 days

CCC= OC – APP = 105.8 – 30 = 75.8 days
𝑇𝑜𝑡𝑎𝑙 𝑜𝑢𝑡𝑙𝑎𝑦𝑠 $3000000
Daily operating expenditure= = = $8219
365 365
Resources needed= Daily expenditure * CCC = $8219 * 75.8 = $623000

2. Find the firm’s cash conversion cycle and resource investment requirement if it makes
the following changes simultaneously.
a. Shortens the average age of inventory by 5 days.
b. Speeds the collection of accounts receivable by an average of 10 days.
c. Extends the average payment period by 10 days.

OCC = AAI + ACP = 55.8 + 35 = 90.8 days

CCC = OC – APP = 90.8 – 40 = 50.8 days
Resources needed = Daily expenditure * CCC = $8219 * 50.8 = $417525

3. If the firm pays 13% for its resource investment, by how much, if anything, could it
increase its annual profit as a result of the changes in part b?
Additional profit = (Daily expenditure * Reduction in CCC) * Financing rate
= ($8219 * 25) * 0.13 = $26711

4. If the annual cost of achieving the profit in part c is $35,000, what action would you
recommend to the firm? Why?
I would recommend that they don’t pursue this action as it would result in a deficit. The cost of
this approach which is $35000 exceed the savings of $26711.

Problem 3
Accounts receivable changes without bad debts Clear Glass Company sells glass containers. It
reported total sales of $1,580,000, with 60% of the sales on credit. It takes 60 days to collect
accounts receivable. The selling price is $20 per container while the variable cost is $15 per
container. The board is currently investigating a change in the collection of accounts receivable
that is expected to result in a 20% in- crease in credit sales and a 10% increase in the average
collection period. No change in bad debt is expected. The firm’s opportunity cost on its
investment in accounts receivable is 12%. (Note: Use a 365-day year.)

a. Calculate the additional profit contribution from sales if the change in collecting accounts
receivable is implemented.
Credit sales= 1580000 * .60 = 948000
 948000
Current units= = 47400
20

Increase in sales= 47400 * .20 = 9480

Additional profit contribution from sales= ($20 - $15) * 9480 = $47400

b. Calculate the marginal investment in accounts receivable that will result from the
change.
𝑇𝑜𝑡𝑎𝑙 𝑣𝑎𝑟𝑖𝑎𝑏𝑙𝑒 𝑐𝑜𝑠𝑡 𝑜𝑓 𝑎𝑛𝑛𝑢𝑎𝑙 𝑠𝑎𝑙𝑒𝑠
Average investment in AR=
𝑇𝑢𝑟𝑛𝑜𝑣𝑒𝑟 𝑜𝑓 𝐴𝑅

365
Turnover (present)= = 6.08
60

365
Turnover (proposed plan)= = 5.53
66
47400∗15 711000
Average investment (present)= = = 116940.79
6.08 6.08
56880∗15 853200
Average investment (proposed plan)= = = 154285.71
5.53 5.53

Marginal investment= 154285.71 – 116940.79 = 37344.92

c. Calculate the cost of the marginal investment in accounts receivable.

Cost of marginal investment= 37344.92 * .12 = 4481.39

d. Would you recommend the firm implement the proposed change?

It would be best for the firm to pursue with the proposed changes. The proposed changes along
with the ease in credit standards will bring an income worth $42912.