Cat Co places monthly orders with a supplier for 10,000 components which are use

Question

Cat Co places monthly orders with a supplier for 10,000 components which are used in its manufacturing processes. Annual demand is 120,000 components. The current terms are payment in full within 90 days, which Cat Co meets, and the cost per component is $7.50. The cost of ordering is $200 per order, while the cost of holding components in inventory is $1.00 per component per year.

The supplier has offered a discount of 3.6% on orders of 30,000 or more components. If the bulk purchase discount is taken, the cost of holding components in inventory would increase to $2.20 per component per year due to the need for a larger storage facility

Question 3. Cat Co has annual credit sales of $25 million and accounts receivable of $5 million. Working capital is financed by an overdraft at 10% interest per year. Assume 365 days in a year. What is the annual finance cost saving if Cat Co reduces the collection period to 60 days (to the nearest whole number)?

Explanation / Answer

If the credit period is reduced to 60 days , Accounts receivables = (60/365)X25 MIL = $4,109,589

i.e 5,000,000 - 4,109,589 = 890,411

As Accounts receivable is reduced , interest savings = 10% X 890,411 = $89041

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