IFM10 Ch23 Lecture

IFM10 Ch23 Lecture - Chapter 23 Other Topics in Working...

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Chapter 23 Other Topics in Working Capital Management 1
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Topics in Chapter Setting the target cash balance EOQ model Baumol Model 2
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Setting the Target Cash Balance Theoretical models such as the Baumol model have been developed for use in setting target cash balances. The Baumol model is similar to the EOQ model, which will be discussed later. Today, companies strive for zero cash balances and use borrowings or marketable securities as a reserve. Monte Carlo simulation can be helpful in setting the target cash balance. 3
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Why is inventory management vital to the financial health of most firms? Insufficient inventories can lead to lost sales. Excess inventories means higher costs than necessary. Large inventories, but wrong items leads to both high costs and lost sales. Inventory management is more closely related to operations than to finance. 4
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Assumptions of the EOQ Model All values are known with certainty and constant over time. Inventory usage is uniform over time. Carrying costs change proportionally with changes in inventory levels. All ordering costs are fixed. These assumptions do not hold in the “real world,” so safety stocks are held. 5
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Total Inventory Costs (TIC) TIC = Total carrying costs+ total ordering costs TIC = CP(Q/2) + F(S/Q). C = Annual carrying costs (% of inv.). P = Purchase price per unit. Q = Number of units per order. F = Fixed costs per order. S = Annual usage in units. 6
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cost equation 7 = - = 0 Q 2 = EOQ = Q* = . 2FS
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IFM10 Ch23 Lecture - Chapter 23 Other Topics in Working...

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