Ch09SM

CHAPTER 9

DISCUSSION QUESTIONS

9-1

Q9-1. The most frequently used documents in theprocurement and use of materials are pur-chase requisitions, purchase orders, receiv-ing reports, materials requisitions, bills ofmaterials, and materials ledger records.

Q9-2. The invoice should be routed to theAccounting Department immediately uponreceipt. A copy of the purchase order and acopy of the receiving report with an inspectionreport should be compared by the accountingclerk. When the invoice is found to be correctin all aspects or has been adjusted for errorsor rejects, the accounting clerk approves theinvoice, attaches it to the underlying docu-ments if they are in hard-copy form, andsends these documents to another clerk forthe preparation of the voucher.

Q9-3. Inventoriable cost should include all costsincurred to get the product ready for sale to thecustomer. It includes not only the net purchaseprice but also the other associated costs,such as freight-in, incurred up to the timeproducts are ready for sale to the customer.

Q9-4. No, administration costs are assumed toexpire with the passage of time and do notattach to the product. Furthermore, adminis-trative costs do not relate directly to invento-ries, but are incurred for the benefit of allfunctions of the business.

Q9-5. The three key questions to answer in design-ing an inventory control system are:(a) how much to order—economic order

quantity(b) when to order—order point(c) safety stock required

Q9-6. The firm benefits from these techniques byhaving a consistent, standardized approachto its inventory management. Inventory costsand service to customers will be optimallybalanced.

Q9-7. The purpose of an economic order quantitymodel is to determine the optimum quantityto order or produce when filling inventoryneeds. The optimum quantity is defined asthat quantity that minimizes the cost of inven-tory management.

Q9-8. The decision concerning how much to orderor produce at a given time involves a compro-mise between inventory carrying costs andordering or setup costs. Examples of inven-tory carrying costs are: interest on the moneyinvested in inventories that could have beeninvested elsewhere, property tax and insur-ance, warehousing or storage, handling, dete-rioration, and obsolescence. Ordering costsinclude the cost of preparing the requisitionand purchase order, receiving the order, andaccounting for the order. Setup costs involvethe costs of setting up equipment to make theactual production runs. For all these costs,only those that vary with activity are relevantto the EOQ model.

Q9-9. The consequences of maintaining inadequateinventory levels include higher purchasing,handling, and transportation costs, loss ofquantity discounts, production disruptions,inflation-related price increases when pur-chases are deferred, and lost sales and cus-tomer goodwill.

Measurement of the costs of lost ordersand lost repeat business is not easy becausemeasurement may be largely subjective. Onthe other hand, the other factors listed can bemeasured with fair certainty and greater ease.

Q9-10. In computing optimum production run size, COrepresents an estimate of the setup cost andCU is the variable manufacturing cost per unit.

Q9-11. (a) The order point is the low point of stocklevel that, when reached, means areplenishing order should be placed.

(b) Lead time is the interval between placingan order and delivery of the orderedgoods.

(c) Safety stock is the minimum inventorythat provides a cushion against reason-ably expected maximum demands andagainst variations in lead time.

Q9-12. Materials requirements planning (MRP) is acomputer simulation that integrates eachproduct’s bill of materials, inventory status,and manufacturing process into a feasibleproduction plan.

Q9-13. Effective utilization of capital, which includesinvestment in inventory, is the responsibility ofgeneral management; therefore, the primaryinterest is in financial control. Although gen-eral or top-level management is interested inproviding customers with good products andservices, the scheduling of productioninvolves unit control primarily and is theresponsibility of production and purchasingdepartments.

Q9-14. In the control of materials, the opposingneeds are the maintenance of an inventory ofsufficient size and diversity for efficient opera-tions, and the maintenance of an investmentin inventory at a level that will maximize earn-ings and minimize costs.

Q9-15. When a relatively few materials items accountfor a considerable portion of total inventoryinvestment, selective control is indicated.High value items would be under tight control,while low-value items would be under simplephysical controls.

Automatic control refers to ordering when amaterials record shows that the balance onhand has dropped to the order point. At thistime, the quantity to order is automatic, hav-ing been determined by balancing the cost toorder with the cost to carry inventory.Automatic control is most effective in compa-nies that use an EDP system.

Q9-16. Appendix The average cost method assumesthat each batch taken from thestoreroom is composed of uniformquantities from each shipment instock at the date of issue. The fifomethod is based on the assumptionthat the first goods received are thefirst issued. The lifo method isbased on the assumption that thelatest goods received are the firstissued.

Q9-17. Appendix In an inflationary economy, lifo pro-vides a better matching of currentcosts with current revenuebecause costs of inventory issuedare at more recent purchaseprices. Net cash inflow is generallyincreased because taxable incomeis generally decreased, resulting inpayment of lower income tax.

Q9-18. Appendix Fifo. The higher costs of the earlierpurchases would be chargedagainst cost of goods sold.

CGA-Canada (adapted). Reprint with permission.Q9-19. Appendix (a) fifo

(b) fifo(c) fifo(d) lifo(e) fifo(f) lifo

CGA-Canada (adapted). Reprint with permission.

9-2 Chapter 9

EXERCISES

E9-1(1) Freight allocated to materials based on cost:

$280 = $.016 per dollar of cost $17,500

Part A: $ 8,600 × $.016 = $137.60 Part B: 5,060 × .016 = 80.96 Part C: 3,840 × .016 = 61.44

$17,500 $280.00

(2) Freight allocated to materials based on shipping weight:$280 = $.20

1 400 kilograms

Part A: 630kg × $.20 = $126Part B: 440 × .20 = 88Part C: 330 × .20 = 66

1 400kg $280

E9-2 UnitsSeptember production ................................................. 4,200October production ...................................................... 4,400November production .................................................. 4,700Desired Inventory, November 30 ................................. 3,600

Total to be provided ............................................ 16,900Quantity on hand, September 1 .................................. 4,400On order for September delivery ................................ 3,600On order for October delivery ..................................... 4,500 12,500Quantity to order for November delivery ................... 4,400

Chapter 9 9-3

EOQ$55 15%

units

EOQ2 2,250 $12

=× ×

×= = =

=× ×

2 100 5 1 0008 25

121 11

3

$ ,.

$ ××= = =

=× × ×

=

2054 000

6090 000 300

251 4

%,.

,

$,

Ajets

EOQ2 (1,200 3) $200 440 000

25

240

,

= =57,600 units

E9-3

(1) Forecast usage:January ........................................................... 4,800 unitsFebruary.......................................................... 5,000March............................................................... 5,600

15,400 units Desired March 31 inventory level

(6,000 × 80%) ............................................ 4,800Total to be provided ........................... 20,200 units

Scheduled supply:January 1 inventory ................................. 6,000 units On order:

January delivery................................. 3,800February delivery ............................... 4,600 14,400

Quantity to order for March delivery ........... 5,800 units

(2) January 1 inventory........................................................................ 6,000 unitsOn order for January and February delivery ............................... 8,400

14,400 units

Forecast usage—January and February...................................... 9,800(a) March 1 inventory.................................................................. 4,600 units

To order for March delivery (requirement (1)) .................... 5,80010,400 units

Forecast usage—March ........................................................ 5,600(b) March 31 inventory................................................................ 4,800 units

9-4 Chapter 9

E9-4

(1)

(2)

(3)

(4) (a)

(b)

(5) (a)

(b)

(c)

(6) (a)

(b)

(c)

EOQ$8 25%

707 cartons

Annua

=× ×

×= =

=

2 25 000 20 1 000 0002

500 000, $ , ,

,

ll required unitsEconomic order quantity

orders per= =25 000

70735

, year

365 daysorders

or every 10 days orders should be place35

10 4= . dd

EOQ2 18,000 $15

180,000

=× ×

×=

= =

=

$ %,

,

15 20540 000

3

424

18 000424

42..

.

45

8 7

or approximately 42 orders per year

365 days42 orders

or app= rroximately one order every 9 days

EOQ =× ×

×=

2 18 000 156 20

540 00, $$ %

, 001 20

450 000 671

2 18 000 157 50 20

540 0001 5

360

.

,

, $$ . %

,.

= =

=× ×

×= =EOQ ,,000

600

60030

=

=

units

18,000orders per year

365 days in year30 orderrs per year

or approximatelyone order every 12 days

EOQ

=

=×

12 167

2 1

.

88 000 152 50 20

540 00050

1 080 000

1 039

, $$ . %

,.

, ,

,

××

= =

= units

Chapter 9 9-5

E9-4 (Continued)

EOQ$20 12%*

632 dozen baseb

=× ×

×= =

=

2 48 000 10 960 0002 40

400 000, $ ,

.,

aalls

*$.40$20

return on investment

Annual ordering cost

+ =

=

10 12% %

RRU COEOQ

Annual carrying costCU CC EOQ

×=

×=

=× ×

=

48 000 10800

600

2

, $$

$$ %20 12 8002

960× ×

=

9-6 Chapter 9

(7) (a)

(b)

(8)

(9) (a)

(b)

(c)

E9-4 (Continued)

Total annual inventory cost to sell 48,000 dozen baseballs ............................................... $1,560

EOQ$8 20%

2,500 col

=× ×

×=

= =

2 5 000 1 000 10 000 0001 6

6 250 000

, $ , , ,.

, , uumns

EOQ$9 20%

462 units

T

=× ×

×= =

=

2 12 000 16 384 0001 80

213 333, $ ,

.,

hhe frequency of order placement:

12,000 annual usage462 EOQ

==

=× ×

×

26

2 8 000 16

orders per year

365 days26 orders

= 14 days

EOQ$9 2

, $22%

360 units

= =

=

256 0001 98

129 293,.

,

(11) To compare the two alternatives, the carrying cost and the production initia-tion cost must be calculated for each alternative. These two amounts are cal-culated as follows:Carrying cost = Annual cost of carrying (20%) × manufacturing cost ($50) ×

average annual inventory.

Production initiation cost = Number of runs × cost to initiate a run ($300)

Current situation: 2 production runs of 3,000 units per run Average inventory: 3,000 units ÷ 2 = 1,500 units Present costs:

Carrying cost (.20 × $50 × 1,500) ..................... $15,000 Production initiation cost (2 × $300)................ 600

$15,600Proposed situation:The EOQ formula can be used to determine production run quantities by substituting cost per order with production initiation cost.Production quantity:

Average inventory: 600 ÷ 2 = 300 units Number of runs: 6,000 ÷ 600 = 10 runs Proposed costs: Carrying cost (.20 × $50 × 300).............................. $3,000

Production initiation cost (10 × $300) ................... 3,000$6,000

Expected annual savings ....................................... $9,600

2 6 000 300

3 600 00010

360 000 600

× ××

= = =

, $

, ,,

$50 .2

units

Chapter 9 9-7

EOQ$10 .25

49 units=× ×

×= = =

×+

×

2 500 6 6 0002 50

2 400

500 649

10 2

$ ,.

,

$ $ . 55 492

61 22 61 25 122 47

×

= + =$ . $ . $ . total ordering and carrying

cost perr year

49 + (49 .10) = units per order

500 $654

×

×+

× ×=

54

10 25 542

55$ .

$ .556 67 50 123 06+ =$ . $ .

The effect is small because the total cosst curve is relatively flataround the optimum level.

E9-4 (Concluded)

(10) (a)

(b)

E9-5(1)

(2) Lots of 2,000 units should be ordered, based on the following computations:

QUANTITATIVE DATAOrder size................................................................. 1,225 units 2,000 unitsNumber of orders per year..................................... 14.7 9Average inventory ................................................... 612.5 units 1,000 units

COST DATACost of placing orders at $50 ............................... $735 $450 Cost of carrying inventory:

612.5 × $3.00 × .40............................................. 7351,000 × $2.85 × .40............................................. 1,140

Discounts lost (12 × 1,500 × $3 × .05) ................... 2,700Cost to order and carry .......................................... $4170 $1,590

E9-6

(1) Ordering and carrying costs under current policy:122

380 1500

22 280 250 2 530×

⎛⎝⎜

⎞⎠⎟+ ×

⎛⎝⎜

⎞⎠⎟= + =$ $ $ , $ $ ,

Economic ordeer quantity and the related ordering and carrying costs:

2 3 000× ×, $33801

2 280 000 1 510

380 11 510

2

$, , ,

$ $,

= =

×⎛

⎝⎜

⎞

⎠⎟+ ×

units

3,0001,510

⎛⎛

⎝⎜

⎞

⎠⎟= + =$ $ $ ,755 755 1 510 related ordering

and carrying costs

EOQ$3 .40

un=× × ×

×= = =

2 12 1 500 50 1 800 0001 20

1 500 000 1 225( , ) $ , ,

., , , iits

9-8 Chapter 9

(2)

E9-6 (Concluded)

(3) The company should decide to order in quantities of 3,000 units, based on thefollowing computations:

QUANTITATIVE DATAOrder size................................................................. 1,510 units 3,000 unitsNumber of orders per year..................................... 1.9868 1Average inventory ................................................... 755 units 1,500 units

COST DATACost of placing orders at $380............................... $ 755 $ 380 Cost of carrying inventory:

$1 × 755 .............................................................. 755($1 – $.05) × 1,500 ............................................. 1,425

Discount lost (3,000 × $5 × .05) ............................. 750Cost to order and carry .......................................... $2,260 $1,805


E9-7 9,600 ÷ 240 = 40 units daily usageNormal lead time usage (20 days × 40 units) .............................. 800Safety stock ((35 days – 20 days) × 40 units) .............................. 600Order point ...................................................................................... 1,400

E9-8(1) Maximum use per day.................................... 600 units

Normal use per day........................................ 500Safety stock (maximum)................................ 100 units × 5 days of lead

time = 500 units

(2) Normal use per day (500) × days of lead time (5) ....................... 2,500 units Safety stock .................................................................................... 500Order point ...................................................................................... 3,000 units

(3) Order point ...................................................................................... 3,000 units Normal use during lead time (500 × 5) ......................................... 2,500On hand at time order received .................................................... 500 units Quantity ordered............................................................................. 3,500Normal maximum inventory .......................................................... 4,000 units

Chapter 9 9-9

E9-8 (Concluded)

(4) Order point ...................................................................................... 3,000 unitsMinimum use during lead time (100 × 5)...................................... 500On hand at time order received ................................................... 2,500 units Quantity ordered ............................................................................ 3,500 unitsAbsolute maximum inventory ....................................................... 6,000 units


E9-9(1) Maximum use per day............................................. 200 units

Normal use per day................................................. 120Safety stock (maximum)......................................... 80 units × 12 days of

lead time = 960 units

(2) Normal use per day (120) × days of lead time (12) ..................... 1,440 units Safety stock .................................................................................... 960Order point ...................................................................................... 2,400 units

(3) Order point ...................................................................................... 2,400 units Normal use during lead time (120 × 12) ...................................... 1,440On hand at time order received .................................................... 960 units Quantity ordered ............................................................................ 3,000Normal maximum inventory .......................................................... 3,960 units

(4) Order point ...................................................................................... 2,400 unitsMinimum use during lead time (80 × 12)...................................... 960On hand at time order received .................................................... 1,440 units Quantity ordered ............................................................................ 3,000Absolute maximum inventory ....................................................... 4,440 units


E9-10Annual Safety

Annual StockSafety Number Probability Expected Cost Annual Carrying Annual

Stock Level of of Annual per Stockout Cost ($1 Combined(Units) Orders × Stockout = Stockouts x Stockout = Cost + per unit) = Cost

10 5 .4 2 $75 $150.00 $10 $160.00 20 5 .2 1 75 75.00 20 95.00 40 5 .08 .4 75 30.00 40 70.00 80 5 .04 .2 75 15.00 80 95.00

The recommended level of safety stock is 40 units.

9-10 Chapter 9

Chapter 9 9-11

Received Issued Inventory Quan- Unit Total Quan- Unit Total Quan- Unit

Date tity Cost Cost tity Cost Cost tity Cost BalanceJan. 1 500 $1.20 $ 600

6 200 $1.25 $250 700 1.21 85010 400 1.30 520 1,100 1.25 1,37015 560 $1.25 $700 540 1.25 67025 500 1.40 700 1,040 1.32 1,37027 400 1.32 528 640 1.32 842

E9-11 APPENDIX

(1) Average costing:

Received Issued Inventory Quan- Unit Total Quan- Unit Total Quan- Unit Total

Date tity Cost Cost tity Cost Cost tity Cost Cost BalanceJan. 1 500 $1.20 $600 $ 600

6 200 $1.25 $250 500 1.20 600200 1.25 250 850

10 400 1.30 520 500 1.20 600 200 1.25 250 400 1.30 520 1,370

15 500 $1.20 $600 140 1.25 17560 1.25 75 400 1.30 520 695

25 500 1.40 700 140 1.25 175400 1.30 520500 1.40 700 1,395

27 140 1.25 175 140 1.30 182260 1.30 338 500 1.40 700 882

(2) Fifo costing:

9-12 Chapter 9


Date tity Cost Cost tity Cost Cost tity Cost Cost BalanceJan. 1 500 $1.20 $600 $ 600

6 200 $1.25 $250 500 1.20 600200 1.25 250 850

10 400 1.30 520 500 1.20 600 200 1.25 250 400 1.30 520 1,370

15 400 $1.30 $520 500 1.20 600160 1.25 200 40 1.25 50 650

25 500 1.40 700 500 1.20 60040 1.25 50

500 1.40 700 1,35027 400 1.40 560 500 1.20 600

40 1.25 50100 1.40 140 790

E9-11 APPENDIX (Concluded)

(3) Lifo costing:

Chapter 9 9-13

PROBLEMS

P9-1(1) Budgeted acquisition cost = $ 18,000 = 12.5% applied acquisition

Budgeted purchases $144,000 costing rate for the month

(2) $148,500 net purchases × 12.5% appliedacquisition = $18,562.50 applied cost addedcosting to materialsrate purchased during

the month

(3) The overapplied acquisition cost of $362.50 ($18,562.50 applied cost – $18,200actual cost) should be credited to Cost of Goods Sold or prorated to Cost ofGoods Sold and inventories.

P9-2

(4) The next order should be placed in three days. This conclusion is arrived at asfollows:

(a) Number of days supply in each order:

Days in yearOrde

’

rrs per yeardays

(b) Number of days supply left

= =360100

3 6.

’ iin inventory:

Units in inventoryEOQ

Days supply = 400240

× ×’ 33 6. ’days = 6 daysin each order supply left

(c) Days before neext order should be placed:

(Days supply left) (Deliver’ – yy lead time) = 6 days 3 days = 3–

EOQ units

Annual requireme

=× ×

×= =

2 24 000 1 2010 10

57 6001

240, $ .

$ %,

nntsEOQ

orders needed per year

EOQ2

Carrying costpe

= =24 000

240100

,

rr unitAnnual requirements

EOQOrdering costper order( )+ ( )

=240

2($$ %)

,($ . ) $ $10 10

24 000240

1 20 120 120× + = + = $240 total cost of orderring

and carrying

blades for the year

(1)

(2)

(3)

P9-2 (Concluded)

(5) Some of the difficulties most firms have in attempting to apply the EOQ formulato inventory problems are:(a) Inventory is not always used at a constant rate; the constant usage

assumption is implicit in the EOQ formula.(b) The EOQ formula requires estimates of (1) annual requirements, (2) order-

ing cost, (3) purchase price per unit, and (4) cost of carrying inventories.These estimates may be extremely difficult to obtain with accuracy.

P9-3

(1) Normal use per day (200) × days of lead time (10) ..................... 2,000 unitsSafety stock .................................................................................... 300Order point ...................................................................................... 2,300 units

(2) Order point ...................................................................................... 2,300 unitsNormal use during lead time (200 × 10) ....................................... 2,000On hand at time order received .................................................... 300 unitsQuantity ordered............................................................................. 4,000Normal maximum inventory .......................................................... 4,300 units

(3) Order point ...................................................................................... 2,300 unitsMinimum use during lead time (150 × 10).................................... 1,500On hand at time order received .................................................... 800 unitsQuantity ordered............................................................................. 4,000Absolute maximum inventory ....................................................... 4,800 units

(4) Let S equal cost of storing one unit for one year.


EOQRU CO

CU CC

S

S

=× ×

×

=× × ×

=

2

4 0002 200 250 80

4 0008 000 000

16 0

,( ) $

,, ,

, 000 0008 000 000

8 000 00016 000 000

50

,, ,

, ,, ,

$.

=

= =

S

S

9-14 Chapter 9

P9-

4

Chapter 9 9-15

10 20 30 40 50 55

$3 3 3 3 3 3

5 5 5 5 5 5

$80 80 80 80 80 80

$200 16

012

0 80 40 12

$230 22

021

020

019

017

7

50%

40 30 20 10 3

$ 3

0 60 90 120

150

165

Un

its

of

Saf

ety

Sto

ck

Car

ryin

gC

ost

per

Un

it

Saf

ety

Sto

ckC

arry

ing

Co

st

Pro

bab

ilit

y o

fR

un

nin

g o

ut

of

Saf

ety

Sto

ck

Sto

cko

ut

Co

st p

erO

ccu

ren

ceO

rder

sp

erY

ear

Sto

cko

ut

Co

stTo

tal

Co

st=

=+

low

est

cost

××

=×

P9-5 APPENDIX

(1) Fifo:

9-16 Chapter 9


Date tity Cost Cost tity Cost Cost tity Cost Cost BalanceMarch 1 750 $20.00 $15,000 $15,000

3 400 $19.50 $ 7,800 750 20.00 15,000400 19.50 7,800 22,800

5 600 $20.00 $12,000 150 20.00 3,000400 19.50 7,800 10,800

12 350 21.50 7,525 150 20.00 3,000 400 19.50 7,800 350 21.50 7,525 18,325

15 150 20.00 3,000 50 19.50 975350 19.50 6,825 350 21.50 7,525 8,500

18 500 22.00 11,000 50 19.50 975350 21.50 7,525500 22.00 11,000 19,500

22 50 19.50 975350 21.50 7,525 500 22.00 11,000 11,000

26 550 21.00 11,550 500 22.00 11,000550 21.00 11,550 22,550

28 500 22.00 11,000150 21.00 3,150 400 21.00 8,400 8,400

31 200 20.00 4,000 400 21.00 8,400200 20.00 4,000 12,400

P9-

5 A

PP

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Chapter 9 9-17

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P9-6 APPENDIX

(1) Cost of the ending inventory under the fifo method when a periodic inventorysystem is used:

100 units @ $17 = $1,700 100 @ 14 = 1,400 100 @ 12 = 1,200

$4,300

(2) Cost of the ending inventory under the lifo method:

(a) When a periodic inventory system is used:200 units @ $10 = $2,000100 @ 11 = 1,100

$3,100

(b) When a perpetual inventory system is used:


Chapter 9 9-19


Date tity Cost Cost tity Cost Cost tity Cost Cost BalanceJan. 1 200 $10 $2,000 $2,000

12 100 $11 $1,100 200 10 2,000100 11 1,100 3,100

Feb.1 100 $11 $1,100100 10 1,000 100 10 1,000 1,000

April 16 200 12 2,400 100 10 1,000200 12 2,400 3,400

May 1 100 12 1,200 100 10 1,000100 12 1,200 2,200

July 15 100 14 1,400 100 10 1,000 100 12 1,200 100 14 1,400 3,600

Nov. 10 100 14 1,400 100 10 1,000100 12 1,200 2,200

Dec. 5 100 17 1,700 100 10 1,000 100 12 1,200100 17 1,700 3,900

P9-

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(b) First-in, first-out method:

Chapter 9 9-21


Date tity Cost Cost tity Cost Cost tity Cost Cost BalanceJan. 2 2,000 $5 $10,000 2,000 $5 $10,000

15 500 $5 $2,500 1,500 5 7,50031 700 5 3,500 800 5 4,000

800 5 $ 4,000Feb. 2 1,200 6 7,200 1,200 6 7,200 11,200

15 600 5 3,000 200 5 1,0001,200 6 7,200 8,200

28 200 5 1,000700 6 4,200 500 6 3,000

500 6 3,000Mar. 2 1,500 8 12,000 1,500 8 12,000 15,000

15 500 6 3,000100 8 800 1,400 8 11,200

31 800 8 6,400 600 8 4,800600 8 4,800

Apr. 2 1,900 7 13,300 1,900 7 13,300 18,10015 600 8 4,800

100 7 700 1,800 7 12,60030 700 7 4,900 1,100 7 7,700

P9-7 APPENDIX (Concluded)

(c) Last-in, first-out method:

9-22 Chapter 9


Date tity Cost Cost tity Cost Cost tity Cost Cost BalanceJan. 2 2,000 $5 $10,000 2,000 $5 $10,000

15 500 $5 $2,500 1,500 5 7,50031 700 5 3,500 800 5 4,000

800 5 $ 4,000Feb. 2 1,200 6 7,200 1,200 6 7,200 11,200

15 600 6 3,600 800 5 4,000600 6 3,600 7,600

28 600 6 3,600300 5 1,500 500 5 2,500

500 5 2,500Mar. 2 1,500 8 12,000 1,500 8 12,000 14,500

15 600 8 4,800 500 5 2,500900 8 7,200 9,700

31 800 8 6,400 500 5 2,500100 8 800 3,300 500 5 2,500100 8 800

Apr. 2 1,900 7 13,300 1,900 7 13,300 16,60015 700 7 4,900 500 5 2,500

100 8 8001,200 7 8,400 11,700

30 700 7 4,900 500 5 2,500100 8 800500 7 3,500 6,800

(2)Average Fifo Lifo

Sales (5,500 units @ $10).................................. $55,000.00 $55,000 $55,000Cost of goods sold:

Purchases..................................................... $42,500.00 $42,500 $42,500Less inventory, April 30............................... 7,805.60 7,700 6,800

$34,694.40 $34,800 $35,700Gross profit ........................................................ $20,305.60 $20,200 $19,300


CASES

C9-1(1) (a) Topp Desk Company would be attempting to minimize total setup cost

and total carrying cost.

(b) Variable manufacturing costs per unit:Direct materials ................................................................... $ 30Direct labor .......................................................................... 14Variable factory overhead .................................................. 6Total variable manufacturing cost per unit ...................... $ 50

Number of desks destroyed..................................................... × 12Total setup cost......................................................................... $600

Optimum production run:

(c)

(2) (a) The following factors affect the desired size of the safety stock for any inventory item.(1) Variability of product demand(2) Variability of lead time(3) Stockout costs(4) Carrying costs

(b) The minimum safety stock level that could be maintained without beingworse off than being unable to fill orders equal to an average day’sdemand is the level at which the safety stock carrying cost equals thecost of a stockout, i.e.,

Stockout costPer unit carrying cost

=×

=$ ,

$ . %$ ,2 295

50 10 82 295$$ .5 40

425= desks

2 18 000 60050 10 8

21 600 0005 40

4 000

× ××

= =, $

$ * . %, ,

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,

units setup cost

,, ,000 2 000= desks

*Variable manufacturing cost per unit

Numberr of production runs per year:

Annual demandOptimum productiion run

9 production runs= =18 0002 000

,,

Chapter 9 9-23

C9-2

(1) Equipment Maintenance Department costs:Salaries (2 × 5 × $9)................................................ $ 90.00Employee benefits ($90 × 20%)............................. 18.00 $108.00

Production department costs:Salaries (5 × 5 × $7.50)........................................... $187.50 Variable factory overhead:

Direct labor hours base (25 × $2.75) .............. 68.75Machine hours base (1 × $5) ........................... 5.00 261.25

Direct materials ($200 – $50)....................................... 150.00Estimate of Model JE 40 setup costs......................... $519.25

Explanation of costs:(a) The full cost of the maintenance salaries and employee benefits is

included because the $10.80 [$9.00 + ($9.00 × 20%)] incurred per laborhour is incurred solely for the purpose of effecting the changeover.

(b) The other costs of the Equipment Maintenance Department are notincluded in the estimate because they are fixed costs of the departmentand will be incurred regardless of the maintenance workers’ activities.

(c) The salaries of the 5 production workers for the full 5 hours each areincluded in the setup cost because they must be in attendance all of thetime, though they are needed only part of the time. If the workers couldhave been assigned to other jobs during the changeover, then the fullamount would not be charged to setup.

(d) The variable factory overhead costs of the production departmentapplied on the direct labor hours base are incurred as a function of thedirect labor hours; therefore, a full 25 hours of cost are assigned to thesetup cost.

(e) The variable factory overhead costs of the production departmentapplied on the machine hours base are incurred as a function of the oper-ation of the machinery; therefore, 1 hour is assigned to setup cost for the1 hour the machinery is used in testing.

(f) All production department fixed factory overhead costs (both thoseapplied on the basis of direct labor and those applied on the basis ofmachine hours) are not included in the setup cost because they would beincurred regardless of the activity in the department.

(g) The net materials cost of $150 is included because it represents theunsalvageable portion of the materials used for the setup and not for theproduction of a salable desk.

9-24 Chapter 9

C9-2 (Concluded)

(2) The cost items that would be included in an estimate of Pointer FurnitureCompany’s cost of carrying desks in inventory include:(a) All costs related to warehousing and handling the desks in inventory that

vary in amount by the number of items stored.(b) The cost of the funds committed to the investment in inventory.

C9-3

(1) Circumstances necessary to shift raw materials inventory carrying costs to thesupplier include:(a) Reliability of the supplier. Will the supplier ship products on a more rig-

orous timetable and be willing to keep inventory within its own storagefacilities?

(b) Adequate alternative supply sources. A large number of qualified alterna-tive suppliers will increase the possibility for favorable contract terms.

(c) Careful control of inventory requirements. Are production schedulesclearly defined to reduce the potential for stockouts?

(2) Circumstances necessary to shift finished goods inventory carrying costs tothe customer include:(a) Understanding customers. Are customers willing to take the risk of

inventory storage for an extended period of time?(b) Closer production planning. Can production schedules be refined to

such an extent that delays in the sale and distribution of the finishedinventory are minimized?

(c) Careful control of inventory requirements. Are customer orders carefullymonitored and anticipated to reduce the probability of finished goodsstockouts?

Chapter 9 9-25

Ch09SM

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