Case Study Pilot Company

Theme: WORKING CAPITAL MANAGEMENT

Pilot Co sells both Product A and Product B, with sales of both products occurring evenly throughout the year.

Product A.

The annual demand for Product A is 300,000 units and an order for new inventory is placed each month. Each order costs $ 267 to place. The cost of holding Product A in inventory is 10 cents per unit per year. Buffer inventory equal to 40% of one months sales is maintained.

Product B.

The annual demand for Product B is 456,000 units per year and Pilot Co buys in this product at $1 per unit on 60 days credit. The supplier has offered an early settlement discount of 1% for settlement of invoices within 30 days.

Other important information.

Pilot Co finances working capital with short-term finance costing 5% per year. Assume that there are 365 days in each year.

(! After reading this case is strongly recommended to review your knowledge of working capital management, inventory calculations!)

You are required:

1. Calculate the following values for Product A: 1.1.The total cost of the current ordering policy. 1.2.The total cost of an ordering policy using the economic order quantity. 1.3.The net cost or saving of introducing an ordering policy using the economic

   order quantity.

2. Calculate the net value in dollars to Pilot Co of accepting the early settlement

   discount for Product B!

CORPORATE FINANCE INDIVIDUAL ASSIGNMENTS FOR GRADING: 4.CRPQ

Comments for 1.1.

• - Ordering cost?

• - Order per month?

• - Buffer inventory

• - Average inventory excluding buffer inventory?

• - Average inventory including buffer inventory?

• - Holding cost?

  Comments for 1.2.

• - economic order quantity?

• - Number of orders p.a.?

• - Order cost?

• - Average inventory excluding buffer inventory?

• - Average inventory including buffer inventory?

• - Holding cost?

  Comments for 2.

• - How much are Product B trade payables at the end of year?

• - How much are Product B trade payables at the end of year after discount?

• - Change in payables?

• - Change in financing cost?

• - Value of discount?