10.1 Lecture_19_Mon_28_Sept

10.1 Lecture_19_Mon_28_Sept - Lecture 19: Financing of...

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Unformatted text preview: Lecture 19: Financing of Current Assets (from last week) + Inventory Management 1 Aggressive Combination Strategy Low level of current assets High usage of short­term finance • • • • Aggressive (Restrictive) CA management Aggressive CA financing policy Results: High ROA and high ROE __________________________________ 2 Aggressive Combination Strategy Why are ROA and ROE high? Low cost of funding • For a rising yield curve: rd on Notes Payable and on L* is low … relative to the rd on long­term debt L* has (within limits) no interest cost The rd on Notes Payable is __________________ ________________________________________ • If market interest rates drop, the firm is able to take advantage of that drop. The firm carries a bare minimum of Inventory, Accounts Receivable (and cash) • The Dupont Equation fits here TATO component 3 Moderate Combination Strategy Also called: “ Asset­matching Combination Strategy” Average level of current assets • Medium CA management policy Average usage of short­term finance • Asset­matching CA financing policy Results: • • • Average funding costs Average ROA and average ROE _____________________________ 4 Strategies regarding MS holdings MS policy part of liquidity management policy: 1. Conservative strategy 2. Aggressive strategy 5 1. Conservative liquidity policy 1. (wrt Marketable Securities) (wrt For PCA and some TCA use • long­term funding For remaining TCA, use short­term funding Thus far, this is just the Conservative But in addition… approach to Financing (See Slide 15) Invest ___________________________________ _________________________________________ • i.e., TCA ⇓ Sell MS to meet Temporary Current Asset requirements when more Inventory & Receivables are needed: • i.e., TCA ⇑ 6 Conservative Liquidity Policy (wrt MS) Funds flow from TCA funded by ST Debt to MS to TCA funded by ST Debt... LT Funding TCA TCA PCA LT Sourcing 7 2. Aggressive liquidity policy (wrt MS) Permanent current assets funded by • MS ______________________________ Borrow short­term to meet TCA needs Long­term funding and some short­term funding 8 MANAGING INVENTORY 1. Why is managing inventory important ? inventory a use of funds inventory policy impacts on _________ ________________________________ inventory policy affects level of sales 9 2. EOQ Inventory Management Model EOQ determines order size that minimises: • • annual inventory order ________________________________. 10 Inventory costs Inventory Costs of Ordering and carrying Inventories ($) Order Size (Units) 11 The EOQ Formulae • • • • S = annual usage F = _____________________________ C = carrying cost as % of inventory value P = purchase price per unit of inventory 2 FS EOQ = CP S Daily Usage = 360 12 ROP = Lead Time × Daily Usage Problem 1: Superdot Ltd’s EOQ Superdot Ltd uses 72,000 box units a year. Each box unit costs $3 and the annual carrying cost of these units is 15% of inventory value Fixed ordering costs are $120 per order (a) (b) Find the EOQ Find the daily usage rate (360­day year) up the (c ) Find the number of days for an order to be used (d) If the delivery lead time is 6 days, what is reorder point? 13 Solution 1: Superdot Ltd Solution Superdot EOQ = 2 FS CP . 14 Superdot Ltd Cont’d (b) Daily Usage: (c) Time for an order to be used up: 15 Superdot Ltd Cont’d (d) Reorder Point = lead time × Usage Rate = = 16 Ordering costs F = fixed cost of placing/receiving an order Total order costs p.a. ______________ _______________________________ CostOrdering S = F × EOQ 17 Carrying Costs C = percentage costs associated carrying inventory with • • • Storage & insurance Depreciation & obsolescence Financing CostCarrying EOQ = P×C × 2 18 Total carrying costs _______________ 19 Where Average inventory is: EOQ AIB = 2 Total inventory costs: S EOQ + P× C × TIC = F × EOQ 2 Note: Cost of any inventory order quantity can be calculated by replacing EOQ with 20 ____________________________________ Safety stocks Firm may hold extra inventory to guard against stock­outs Why might stock­outs occur ? • • • Uncertainty over sales Production cycle uncertain Delivery time uncertain Safety stock affects _______________ _______________________________ 21 Formulae modified for Safety Stocks: Formulae modified for Safety Stocks: Average inventory balance: EOQ AIB = + SS 2 Inventory re­order point: ROP = ( Lead Time × Daily Usage ) + SS 22 23 Problem 2: Superdot Ltd with Safety Stock Refer to the worked example Let a safety stock of 1,200 units be added (a) (b) Calculate the new average inventory Calculate the new reorder point 24 Solution 2 (Superdot Ltd) (a) (b) 25 Other EOQ Issues EOQ and company size • • • • Small firms more likely not to purchase on discount as they have lower turnover Small firms more likely to reorder by gut feel EOQ more likely to be calculated by bigger firms All variables subject to change Change in Usage Rates etc over time F might be a function of relationship with supplier 26 ABC and EOQ Company categorizes and analyses each inventory item on basis of: • • • • Cost frequency of usage seriousness of outage order lead time “A” items IMPORTANT (address monthly) “B” items LESS important (address quarterly) “C” items UNIMPORTANT (address yearly) 27 Inventory Systems Inventory Control Systems Simple: • • Red line method Two bin method Computerized systems JIT Inventories with bar codes etc • Management Accounting territory in ACIS 28 ...
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This note was uploaded on 12/23/2009 for the course BCOM FINC 202 taught by Professor Warwickanderson during the Spring '09 term at Canterbury.

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