This slide is on receivable and how to manage inventory.

1. 10-1
CChhaapptteerr 1100
AAccccoouunnttss RReecceeiivvaabbllee
aanndd IInnvveennttoorryy
MMaannaaggeemmeenntt

2. 10-2
AAccccoouunnttss RReecceeiivvaabbllee aanndd
IInnvveennttoorryy MMaannaaggeemmeenntt
Credit and Collection
Policies
Analyzing the Credit
Applicant
Inventory Management and
Control

3. 10-3
CCrreeddiitt aanndd CCoolllleeccttiioonn
PPoolliicciieess ooff tthhee FFiirrmm
(1) Average
Collection Period
(2) Bad-debt
Losses
QQuuaalliittyy ooff
TTrraaddee AAccccoouunntt
Length of
Credit Period
Possible Cash
Discount
Firm
Collection
Program

4. 10-4
CCrreeddiitt SSttaannddaarrddss
CCrreeddiitt SSttaannddaarrddss -- The minimum quality
of credit worthiness of a credit applicant
that is acceptable to the firm.
WWhhyy lloowweerr tthhee ffiirrmm’’ss ccrreeddiitt ssttaannddaarrddss??
The financial manager should continually
lower the firm’s credit standards as long as
profitability from the change exceeds the
extra costs generated by the additional
receivables.

5. 10-5
CCrreeddiitt SSttaannddaarrddss
CCoossttss aarriissiinngg ffrroomm rreellaaxxiinngg
ccrreeddiitt ssttaannddaarrddss
A larger credit department
Additional clerical work
Servicing additional accounts
Bad-debt losses
Opportunity costs

6. 10-6
EExxaammppllee ooff RReellaaxxiinngg
CCrreeddiitt SSttaannddaarrddss
BBaasskkeett WWoonnddeerrss iiss nnoott ooppeerraattiinngg aatt ffuullll ccaappaacciittyy
aanndd wwaannttss ttoo ddeetteerrmmiinnee iiff aa rreellaaxxaattiioonn ooff tthheeiirr
ccrreeddiitt ssttaannddaarrddss wwiillll eennhhaannccee pprrooffiittaabbiilliittyy..
The firm is currently producing a single
product with variable costs of $20 and selling
price of $25.
Relaxing credit standards is not expected to
affect current customer payment habits.

7. 10-7
EExxaammppllee ooff RReellaaxxiinngg
CCrreeddiitt SSttaannddaarrddss
Additional annual credit sales of $120,000 and an
average collection period for new accounts of 3
months is expected.
The before-tax opportunity cost for each dollar of
funds “tied-up” in additional receivables is 20%.
IIggnnoorriinngg aannyy aaddddiittiioonnaall bbaadd--ddeebbtt lloosssseess
tthhaatt mmaayy aarriissee,, sshhoouulldd BBaasskkeett WWoonnddeerrss
rreellaaxx tthheeiirr ccrreeddiitt ssttaannddaarrddss??

8. 10-8
CCrreeddiitt aanndd CCoolllleeccttiioonn
PPoolliicciieess ooff tthhee FFiirrmm
(1) Average
Collection Period
(2) Bad-debt
Losses
Quality of
Trade Account
LLeennggtthh ooff
CCrreeddiitt PPeerriioodd
Possible Cash
Discount
Firm
Collection
Program

9. 10-9
CCrreeddiitt TTeerrmmss
CCrreeddiitt TTeerrmmss -- Specify the length of time
over which credit is extended to a customer
and the discount, if any, given for early
payment. For example, ““22//1100,, nneett 3300..””
CCrreeddiitt PPeerriioodd -- The total length of time over
which credit is extended to a customer to
pay a bill. For example, ““nneett 3300”” requires
full payment to the firm within 30 days from
the invoice date.

10. 10-10
EExxaammppllee ooff RReellaaxxiinngg
tthhee CCrreeddiitt PPeerriioodd
BBaasskkeett WWoonnddeerrss is considering changing its
credit period from ““nneett 3300”” (which has resulted
in 12 A/R “Turns” per year) to ““nneett 6600”” (which is
expected to result in 6 A/R “Turns” per year).
The firm is currently producing a single product
with variable costs of $20 and a selling price of
$25.
Additional annual credit sales of $250,000 from
new customers are forecasted, in addition to the
current $2 million in annual credit sales.

11. 10-11
EExxaammppllee ooff RReellaaxxiinngg
tthhee CCrreeddiitt PPeerriioodd
The before-tax opportunity cost for each dollar
of funds “tied-up” in additional receivables is
20%.
IIggnnoorriinngg aannyy aaddddiittiioonnaall bbaadd--ddeebbtt lloosssseess
tthhaatt mmaayy aarriissee,, sshhoouulldd BBaasskkeett WWoonnddeerrss
rreellaaxx tthheeiirr ccrreeddiitt ppeerriioodd??

12. 10-12
CCrreeddiitt aanndd CCoolllleeccttiioonn
PPoolliicciieess ooff tthhee FFiirrmm
(1) Average
Collection Period
(2) Bad-debt
Losses
Quality of
Trade Account
Length of
Credit Period
PPoossssiibbllee CCaasshh
DDiissccoouunntt
Firm
Collection
Program

13. 10-13
CCrreeddiitt TTeerrmmss
CCaasshh DDiissccoouunntt PPeerriioodd -- The period of time
during which a cash discount can be taken for
early payment. For example, ““22//1100”” allows a
cash discount in the first 10 days from the
invoice date.
CCaasshh DDiissccoouunntt -- A percent (%) reduction in
sales or purchase price allowed for early
payment of invoices. For example, ““22//1100””
allows the customer to take a 2% cash discount
during the cash discount period.

14. 10-14
EExxaammppllee ooff IInnttrroodduucciinngg
aa CCaasshh DDiissccoouunntt
A competing firm of Basket Wonders is
considering changing the credit period from
““nneett 6600”” (which has resulted in 6 A/R “Turns”
per year) to ““22//1100,, nneett 6600..””
Current annual credit sales of $5 million are
expected to be maintained.
The firm expects 30% of its credit customers (in
dollar volume) to take the cash discount and
thus increase A/R “Turns” to 8.

15. 10-15
EExxaammppllee ooff IInnttrroodduucciinngg
aa CCaasshh DDiissccoouunntt
The before-tax opportunity cost for each dollar
of funds “tied-up” in additional receivables is
20%.
Ignoring any aaddddiittiioonnaall bbaadd--ddeebbtt lloosssseess
tthhaatt mmaayy aarriissee,, sshhoouulldd tthhee ccoommppeettiinngg ffiirrmm
iinnttrroodduuccee aa ccaasshh ddiissccoouunntt??

16. 10-16
CCrreeddiitt aanndd CCoolllleeccttiioonn
PPoolliicciieess ooff tthhee FFiirrmm
(1) Average
Collection Period
(2) Bad-debt
Losses
Quality of
Trade Account
Length of
Credit Period
Possible Cash
Discount
FFiirrmm
CCoolllleeccttiioonn
PPrrooggrraamm

17. 10-17
DDeeffaauulltt RRiisskk aanndd
BBaadd--DDeebbtt LLoosssseess
Present
Policy Policy A Policy B
Demand $2,400,000 $3,000,000 $3,300,000
Incremental sales $ 600,000 $ 300,000
Default losses
Original sales 2%
Incremental Sales 10% 18%
Avg. Collection Pd.
Original sales 1 month
Incremental Sales 2 months 3 months

18. 10-18
CCoolllleeccttiioonn PPoolliiccyy
aanndd PPrroocceedduurreess
The firm should increase ccoolllleeccttiioonn
eexxppeennddiittuurreess until the marginal
reduction in bbaadd--ddeebbtt lloosssseess equals
the marginal outlay to collect.
CCoolllleeccttiioonn
PPrroocceedduurreess
Letters
Phone calls
Personal visits
Legal action
SSaattuurraattiioonn
PPooiinntt
CCoolllleeccttiioonn EExxppeennddiittuurreess
BBaadd--DDeebbtt LLoosssseess

19. 10-19
AAnnaallyyzziinngg tthhee
CCrreeddiitt AApppplliiccaanntt
Obtaining information on the
credit applicant
Analyzing this information to
determine the applicant’s
creditworthiness
Making the credit decision

20. 10-20
SSoouurrcceess ooff IInnffoorrmmaattiioonn
The company must weigh the aammoouunntt
ooff iinnffoorrmmaattiioonn needed versus the ttiimmee
aanndd eexxppeennssee rreeqquuiirreedd.
Financial statements
Credit ratings and reports
Bank checking
Trade checking
Company’s own experience

21. 10-21
CCrreeddiitt AAnnaallyyssiiss
AA ccrreeddiitt aannaallyysstt iiss lliikkeellyy ttoo uuttiilliizzee
iinnffoorrmmaattiioonn rreeggaarrddiinngg::
the financial statements of the firm
(ratio analysis)
the character of the company
the character of management
the financial strength of the firm
other individual issues specific to
the firm

22. 10-22
IInnvveennttoorryy
MMaannaaggeemmeenntt aanndd CCoonnttrrooll
Inventories form a link between
production and sale of a product.
IInnvveennttoorryy ttyyppeess::
Raw-materials inventory
Work-in-process inventory
In-transit inventory
Finished-goods inventory

23. 10-23
IInnvveennttoorryy
MMaannaaggeemmeenntt aanndd CCoonnttrrooll
IInnvveennttoorriieess pprroovviiddee fflleexxiibbiilliittyy
ffoorr tthhee ffiirrmm iinn::
Purchasing
Production scheduling
Efficient servicing of customer
demands

24. 10-24
AApppprroopprriiaattee
LLeevveell ooff IInnvveennttoorriieess
HHooww ddooeess aa ffiirrmm ddeetteerrmmiinnee
tthhee aapppprroopprriiaattee lleevveell ooff
iinnvveennttoorriieess??
EEmmppllooyy aa ccoosstt--bbeenneeffiitt aannaallyyssiiss
Compare the benefits of economies of
production, purchasing, and product
marketing against the cost of the
additional investment in inventories.

25. 10-25
AABBCC MMeetthhoodd ooff
IInnvveennttoorryy CCoonnttrrooll
AABBCC mmeetthhoodd ooff
iinnvveennttoorryy ccoonnttrrooll
Method which controls
expensive inventory
items more closely than
less expensive items.
Review “A” items
most frequently
Review “B” and “C”
items less rigorously
and/or less frequently.
00 1155 4455 110000
CCuummuullaattiivvee PPeerrcceennttaaggee
ooff IItteemmss iinn IInnvveennttoorryy
110000
9900
7700
CCuummuullaattiivvee PPeerrcceennttaaggee
ooff IInnvveennttoorryy VVaalluuee
AA
BB
CC

26. 10-26
HHooww MMuucchh ttoo OOrrddeerr??
TThhee ooppttiimmaall qquuaannttiittyy ttoo oorrddeerr
ddeeppeennddss oonn::
Forecast usage
Ordering cost
Carrying cost
OOrrddeerriinngg ccaann mmeeaann eeiitthheerr tthhee ppuurrcchhaassee oorr
pprroodduuccttiioonn ooff tthhee iitteemm..

27. 10-27
TToottaall IInnvveennttoorryy CCoossttss
TToottaall iinnvveennttoorryy ccoossttss ((TT)) ==
CC ((QQ // 22)) ++ OO ((SS // QQ))
TTIIMMEE
QQ
QQ // 22
AAvveerraaggee
IInnvveennttoorryy
CC: Carrying costs per unit per period
OO: Ordering costs per order
SS: Total usage during the period
IINNVVEENNTTOORRYY
((iinn uunniittss))

28. 10-28
EEccoonnoommiicc OOrrddeerr QQuuaannttiittyy
The quantity of an inventory item to order
so that total inventory costs are minimized
over the firm’s planning period.
The EOQ or
optimal
quantity
(Q*) is:
QQ** ==
22 ((O)) ((SS))
CC

29. 10-29
EExxaammppllee ooff tthhee
EEccoonnoommiicc OOrrddeerr QQuuaannttiittyy
BBaasskkeett WWoonnddeerrss is attempting to determine the
economic order quantity for fabric used in the
production of baskets.
10,000 yards of fabric were used at a constant
rate last period.
Each order represents an ordering cost of $200.
Carrying costs are $1 per yard over the 100-day
planning period.
WWhhaatt iiss tthhee eeccoonnoommiicc oorrddeerr qquuaannttiittyy??

30. 10-30
TToottaall IInnvveennttoorryy CCoossttss
EEOOQQ ((QQ**)) rreepprreesseennttss tthhee mmiinniimmuumm
ppooiinntt iinn ttoottaall iinnvveennttoorryy ccoossttss..
TToottaall IInnvveennttoorryy CCoossttss
TToottaall CCaarrrryyiinngg CCoossttss
TToottaall OOrrddeerriinngg CCoossttss
QQ** OOrrddeerr SSiizzee ((QQ))
CCoossttss

31. 10-31
WWhheenn ttoo OOrrddeerr??
IIssssuueess ttoo ccoonnssiiddeerr::
LLeeaadd TTiimmee -- The length of time between the
placement of an order for an inventory item and
when the item is received in inventory.
OOrrddeerr PPooiinntt -- The quantity to which inventory
must fall in order to signal that an order must
be placed to replenish an item.
OOrrddeerr PPooiinntt (OOPP) = LLeeaadd ttiimmee X Daily usage

32. 10-32
EExxaammppllee ooff WWhheenn ttoo OOrrddeerr
Julie Miller of BBaasskkeett WWoonnddeerrss has determined
that it takes only 2 days to receive the order of
fabric after the placement of the order.
WWhheenn sshhoouulldd JJuulliiee oorrddeerr mmoorree ffaabbrriicc??
LLeeaadd ttiimmee == 22 ddaayyss
DDaaiillyy uussaaggee == 1100,,000000 yyaarrddss // 110000 ddaayyss
== 110000 yyaarrddss ppeerr ddaayy
OOrrddeerr PPooiinntt == 22 ddaayyss xx 110000 yyaarrddss ppeerr ddaayy
== 220000 yyaarrddss

33. 10-33
EExxaammppllee ooff WWhheenn ttoo OOrrddeerr
EEccoonnoommiicc OOrrddeerr QQuuaannttiittyy ((QQ**))
00 1188 2200 3388 4400
LLeeaadd
TTiimmee
22000000
OOrrddeerr
PPooiinntt
220000
UUNNIITTSS
DDAAYYSS

34. 10-34
SSaaffeettyy SSttoocckk
SSaaffeettyy SSttoocckk -- Inventory stock held in reserve
as a cushion against uncertain demand (or
usage) and replenishment lead time.
Our previous example assumed certain demand
and lead time. When demand and/or lead time are
uncertain, then the order point is:
OOrrddeerr PPooiinntt =
(Avg. lead time x Avg. daily usage) + SSaaffeettyy ssttoocckk

35. 10-35
OOrrddeerr PPooiinntt
wwiitthh SSaaffeettyy SSttoocckk
00 1188 2200 3388
22000000
OOrrddeerr
PPooiinntt
440000
UUNNIITTSS
DDAAYYSS
22220000
SSaaffeettyy SSttoocckk 220000

36. 10-36
OOrrddeerr PPooiinntt
wwiitthh SSaaffeettyy SSttoocckk
UUNNIITTSS
DDAAYYSS
AAccttuuaall lleeaadd
ttiimmee iiss 33 ddaayyss!!
((aatt ddaayy 2211))
SSaaffeettyy SSttoocckk
22220000
22000000
OOrrddeerr
PPooiinntt
440000
220000
00 1188 2211
TThhee ffiirrmm ““ddiippss””
iinnttoo tthhee ssaaffeettyy ssttoocckk

37. 10-37
HHooww MMuucchh SSaaffeettyy SSttoocckk??
WWhhaatt iiss tthhee pprrooppeerr aammoouunntt ooff
ssaaffeettyy ssttoocckk??
DDeeppeennddss oonn tthhee::
Amount of uncertainty in inventory demand
Amount of uncertainty in the lead time
Cost of running out of inventory
Cost of carrying inventory

38. 10-38
JJuusstt--iinn--TTiimmee
JJuusstt--iinn--TTiimmee -- An approach to inventory
management and control in which inventories
are acquired and inserted in production at the
exact times they are needed.
RReeqquuiirreemmeennttss ooff aappppllyyiinngg tthhiiss aapppprrooaacchh::
A very accurate production and
inventory information system
Highly efficient purchasing
Reliable suppliers
Efficient inventory-handling system

39. 10-39
SSuuppppllyy CChhaaiinn MMaannaaggeemmeenntt
SSuuppppllyy CChhaaiinn MMaannaaggeemmeenntt ((SSCCMM)) – Managing
the process of moving goods, services, and
information from suppliers to end customers.
JIT inventory control is one link in SCM.
The internet has enhanced SCM and
allows for many business-to-business
(B2B) transactions
Competition through B2B auctions helps
reduce firm costs – especially
standardized items