ZAFT Ltd. is a local household goods manufacturer with a factory in Hong Kong. Z
ID: 2807220 • Letter: Z
Question
ZAFT Ltd. is a local household goods manufacturer with a factory in Hong Kong. ZAFT currently is a listed company in the local stock exchange and has 80 million shares traded in the market. ZAFT imports the raw materials from different countries and completes its production process in its factory. ZAFT's products are sold to not only local customers, but also the customers in Southeast Asia. ZAFT has a line of credit for $5,000,000 with a 25% compensating balance from the OPEN Bank. The quoted interest rate on the credit line arrangement is 2% over prime. ZAFT usually maintains an average demand deposit of $200,000 in the OPEN Bank. Suppose ZAFT currently needs $1,000,000 for one year to purchase some inventory Moreover, the current prime rate is 5% anuually. Assume 365 days a year a. i. Estimate the cost of the line of credit for ZAFT to borrow the money from the OPEN bank. (5 marks) ii. After calculating the cost of credit in part (i), explain to top management of ZAFT the primary advantages and disadvantages associated with the use of short-term debt as compare to long-term debt. (4 marks) You are responsible for ordering all types of office accessories in ZAFT. You are told that ZAFT begins each month with 50,000 boxes of A-4 digital paper in stock. The stock is depleted each month and reordered. If the carrying cost per box of A-4 digital paper is $30 per year and the fixed order cost is $1,000 per order b. i. calculate the total carrying cost and the total ordering cost. (4 marks) ii. indicate whether ZAFT should increase or decrease its order size. Also describe an optimal inventory policy for ZAFT in terms of order size and order frequency (7 marks)Explanation / Answer
The çost of line of credit for ZAFT to borrow money from OPEN Bank is the current annual prime lending rate + quoted markup charged by the bank over prime rate = 5% + 2% = 7%.
Total carrying cost = No. of boxes of A4 digital paper ordered per month × 12 × carrying cost per box
= 50000 × 12 × 30 = $18000000
Total ordering cost = ordering cost per order × no. of yearly orders =1000 × 12 = $12000
Thus, ZAFT should increase its order size to 600000 boxes & place a single order in order to reduce total ordering cost.
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