Inventory decision, opportunity costs. Lawnox, a manufacturer of lawn mowers, predicts that it will...

Question

Inventory decision, opportunity costs. Lawnox, a manufacturer of lawn mowers, predicts that it will purchase 240,000 spark plugs next year. Lawnox estimates that 20,000 spark plugs will be required each month. A supplier quotes a price of $9 per spark plug. The supplier also offers a special discount option: If all 240,000 spark plugs are purchased at the start of the year, a discount of 4% off the $9 price will be given. Lawnox can invest its cash at 10% per year. It costs Lawnox $200 to place each purchase order.
1. What is the opportunity cost of interest forgone from purchasing all 240,000 units at the start of the year instead of in 12 monthly purchases of 20,000 units per order?
2. Would this opportunity cost be recorded in the accounting system? Why?
3. Should Lawnox purchase 240,000 units at the start of the year or 20,000 units each month? Show your calculations.

Robert · Accepted Answer

1. Unit cost, orders of 20,000 $8.00 
 Unit cost, order of 240,000 (0.95  $8.00) $7.60
 Alternatives under consideration: 
 (a)  Buy 240,000 units at start of year. 
 (b)  Buy 20,000 units at start of each month.
 Average investment in inventory: 
 (a)   (240,000  $7.60) ÷ 2     $912,000 
 (b) (  20,000  $8.00) ÷ 2     80,000 
 Difference in average investment $832,000
Opportunity cost of interest forgone from 240,000-unit purchase at start of year 
= $832,000  0.08 = $66,560
2. No.  The $66,

Inventory decision, opportunity costs. Lawnox, a manufacturer of lawn mowers, predicts that it will purchase 240,000 spark plugs next year. Lawnox estimates that 20,000 spark plugs will be required...

Solution

Answer To This Question Is Available To Download

Related Questions & Answers

Submit New Assignment