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Chapter 3: 21BP_c (page 224)

Global Services is considering a promotional campaign that will increase annual credit sales by \(450,000. The company will require investments in accounts receivable, inventory, and plant and equipment. The turnover for each is as follows:

Accounts receivable

2X

Inventory

6X

Plant and equipment

1X

All \)450,000 of the sales will be collectible. However, collection costs will be 6 percent of sales, and production and selling costs will be 71 percent of sales. The cost to carry inventory will be 4 percent of inventory. Depreciation expense on plant and equipment will be 5 percent of plant and equipment. The tax rate is 30 percent.

c. Compute the costs of carrying inventory.

Short Answer

Expert verified

The carrying cost of the inventory is $3,000.

Step by step solution

01

Information available

Investment in inventory = $75,000

Collection costs = 4%

02

Calculation of carrying costs

The carrying cost is $3,000.

Carryingcost=Inventory×Carryingcosts=$75,000×4%=$3,000

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Most popular questions from this chapter

Route Canal Shipping Company has the following schedule for aging of accounts receivable:

b. If the firm had $1,500,000 in credit sales over the four-month period, compute the average collection period. Average daily sales should be based on a 120-day period.

Antivirus Inc. expects its sales next year to be \(2,500,000. Inventory and accounts receivable will increase \)480,000 to accommodate this sales level. The company has a steady profit margin of 15 percent with a 35 percent dividend payout. How much external financing will the firm have to seek? Assume there is no increase in liabilities other than that which will occur with the external financing

In the second year, Fisk Corporation finds that it can reduce ordering costs to \(2 per order but that carrying costs stay the same at \)1.60 per unit. Also, volume remains at 49,000 units per year.

b. How many orders will be placed during the year?

Lear Inc. has \(840,000 in current assets, \)370,000 of which are considered permanent current assets. In addition, the firm has \(640,000 invested in fixed assets.

a. Lear wishes to finance all fixed assets and half of its permanent current assets with long-term financing costing 8 percent. The balance will be financed with short-term financing, which currently costs 7 percent. Lear’s earnings before interest and taxes are \)240,000. Determine Lear’s earnings after taxes under this financing plan. The tax rate is 30 percent.

b. As an alternative, Lear might wish to finance all fixed assets and permanent current assets plus half of its temporary current assets with long-term financing and the balance with short-term financing. The same interest rates apply as in part a. Earnings before interest and taxes will be $240,000. What will be Lear’s earnings after taxes? The tax rate is 30 percent.

c. What are some of the risks and cost considerations associated with each of these alternative financing strategies?

Explain how rapidly expanding sales can drain the cash resources of a firm.
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