A company's annual cost of goods sold is $350 million, and inventory carrying cost is 18%. The company averages four inventory turns. The cost savings resulting from increasing inventory turns from four to six would be:
A company's annual cost of goods sold is $350 million, and inventory carrying cost is 18%. The company averages four inventory turns. The cost savings resulting from increasing inventory turns from four to six would be:
To determine the cost savings from increasing inventory turns, we first need to calculate the average inventory at the current and desired inventory turns. The average inventory can be calculated by dividing the annual cost of goods sold (COGS) by the inventory turns. At 4 turns, the average inventory is $350 million / 4 = $87.5 million. At 6 turns, it is $350 million / 6 = $58.33 million. The carrying cost is then 18% of these values. So, the carrying cost at 4 turns is $87.5 million * 18% = $15.75 million, and at 6 turns, it is $58.33 million * 18% = $10.5 million. The cost savings are the difference between these two carrying costs, which is $15.75 million - $10.5 million = $5.25 million.
350/4 = 87.5 350/6= 58.33 (87.50*18%)-(58.33*18%)=$5.25 mil
D (($350M x 0.18) / 4) - (($350M x0.18) / 6)
This question confuses me because theoretically if you increased inventory turns carrying costs would increase by a fixed amount not a percentage. There would be more handling and administrative costs... 18% per dollar wouldn't make a difference.
Correction = $350,000,000 x 18% = $63,000,000 = Inventory Carrying Cost
$350 000 000*82% = $63 000 000 $63 000 000/4 = $15 750 000 $63 000 000/6 = $10 500 000 Saving $15 750 000 – 10 500 000 = $5 250 000