The document appears to be a detailed guide on Accounts Receivable and Inventory
Management, including topics such as credit policies, analyzing credit applicants, and inventory
control methods. It covers the following main points:
Accounts Receivable Management
1. Credit and Collection Policies:
○ Factors like average collection period, bad-debt losses, credit terms, and
possible cash discounts.
○ Costs and benefits of adjusting credit standards.
○ Examples demonstrating when relaxing credit standards or periods can be
profitable.
2. Credit Terms:
○ Importance of setting appropriate credit periods (e.g., "net 30").
○ Cash discounts (e.g., "2/10, net 60") to incentivize early payments.
○ Seasonal dating to align payments with peak sales periods.
3. Analyzing Credit Applicants:
○ Techniques for obtaining and analyzing creditworthiness using financial
statements, credit reports, and trade references.
○ Costs and decision-making involved in approving or rejecting credit applications.
4. Collection Procedures:
○ Methods like letters, phone calls, personal visits, or legal actions.
○ Balancing collection efforts with associated costs.
Inventory Management
1. Inventory Types:
○ Raw materials, work-in-progress, finished goods, etc.
2. Inventory Control Methods:
○ Determining the optimal inventory level using cost-benefit analysis.
○ ABC classification to prioritize high-value items.
3. Economic Order Quantity (EOQ):
○ Formula to calculate the optimal order quantity for minimizing total inventory
costs: Q∗=2⋅O⋅SCQ^* = \sqrt{\frac{2 \cdot O \cdot S}{C}}Q∗=C2⋅O⋅Swhere
OOO is ordering cost, SSS is total usage, and CCC is carrying cost per unit.
4. Order Point and Safety Stock:
○ Calculating when to reorder stock based on lead time and usage.
○ Safety stock as a buffer against uncertainties in demand or supply.
5. Just-in-Time (JIT) Inventory:
○ Minimizing inventory levels by coordinating production and supply chain
operations.
Let me know if you'd like further explanation on any specific section or concept!
4o
You said:
more detail
ChatGPT said:
ChatGPT
Certainly! Let’s dive deeper into each major topic in the document:
Accounts Receivable Management
1. Credit and Collection Policies
○ Average Collection Period: Measures how quickly customers pay their debts. A
shorter period indicates efficient collections, while a longer period may signal
issues.
○ Bad-Debt Losses: Losses incurred from customers failing to pay. These need to
be minimized while balancing the cost of collections.
○ Credit Terms:
■ For example, “net 30” means payment is due 30 days from the invoice
date. “2/10, net 30” offers a 2% discount if payment is made within 10
days.
○ Cash Discount: Used to incentivize early payment. While it reduces revenue
slightly, it can improve cash flow and reduce accounts receivable levels.
○ Collection Programs: Strategies to recover overdue amounts, including
reminders, follow-ups, and legal actions.
2. Credit Standards
○ Lowering credit standards increases sales but may lead to:
■ Higher bad-debt losses.
■ Additional administrative costs, such as a larger credit department and
more clerical work.
■ Higher opportunity costs due to funds being tied up in receivables.
○ Example: A firm might relax its credit standards to utilize idle production capacity
and generate profits greater than the associated costs.
3. Analyzing Credit Applicants
○ Sources of Information:
■ Financial statements, credit ratings (e.g., Dun & Bradstreet reports), trade
references, and bank checks.
○ Creditworthiness Analysis:
■ Involves examining financial strength, management character, and past
payment history.
○ Sequential Investigation Process:
■ A cost-efficient system where simple checks are performed first (low
cost), and detailed investigations are conducted only if necessary.
4. Default Risk and Bad-Debt Losses
○ Policies to reduce risk:
■ Setting a line of credit: A pre-approved borrowing limit.
■ Using a credit-scoring system to assess applicants systematically.
5. Collection Policy
○ The firm should spend on collections until the cost of reducing bad debts equals
the benefits gained from recovery.
○ Methods:
■ Letters, phone calls, personal visits, or legal action.
Inventory Management
1. Inventory Types
○ Raw Materials: Basic inputs for production.
○ Work-in-Progress (WIP): Partially completed goods.
○ Finished Goods: Ready for sale.
○ In-Transit Inventory: Goods in transit between production and sales locations.
2. Inventory Control Methods
○ ABC Method:
■ Items are categorized as:
■ A: High value, frequent monitoring.
■ B: Moderate value, less frequent monitoring.
■ C: Low value, minimal monitoring.
○ Cost-Benefit Analysis:
■ Balances the benefits of higher inventory levels (e.g., meeting demand)
against carrying costs (e.g., storage).
3. Economic Order Quantity (EOQ)
○ The EOQ model determines the ideal order quantity to minimize total inventory
costs (ordering + carrying costs):
Q∗=2⋅O⋅SCQ^* = \sqrt{\frac{2 \cdot O \cdot S}{C}}Q∗=C2⋅O⋅S
Where:
■ Q∗Q^*Q∗: Optimal order quantity.
■ OOO: Ordering cost per order.
■ SSS: Total usage or demand in the period.
■ CCC: Carrying cost per unit.
○ Example:
■ Usage = 10,000 units, Ordering Cost = $200, Carrying Cost = $1/unit.
■ Q∗=2⋅200⋅10,0001=2,000Q^* = \sqrt{\frac{2 \cdot 200 \cdot 10,000}{1}} =
2,000Q∗=12⋅200⋅10,000=2,000 units.
4. Order Point and Safety Stock
○ Order Point (OP): Indicates when to place a reorder to avoid stockouts.
OP=Lead Time×Daily UsageOP = \text{Lead Time} \times \text{Daily
Usage}OP=Lead Time×Daily Usage Example:
■ Lead Time = 2 days, Daily Usage = 100 units → OP = 2×100=2002 \times
100 = 2002×100=200 units.
○ Safety Stock:
■ Extra inventory held to protect against demand or lead-time variability.
■ Formula: OP=(Avg. Lead Time×Avg. Daily Usage)+Safety StockOP =
(\text{Avg. Lead Time} \times \text{Avg. Daily Usage}) + \text{Safety
Stock}OP=(Avg. Lead Time×Avg. Daily Usage)+Safety Stock
5. Just-in-Time (JIT) Inventory
○ Minimizes inventory by producing or purchasing items just as they are needed.
○ Requirements:
■ Accurate demand forecasting.
■ Reliable suppliers.
■ Efficient logistics and production scheduling.
Examples and Applications
1. Relaxing Credit Standards
○ Scenario: A firm increases sales by relaxing credit standards but risks higher
receivables and bad-debt losses.
○ Decision: Accept if incremental profits exceed associated costs.
2. Introducing a Cash Discount
○ Scenario: A competing firm introduces “2/10, net 60” to reduce receivables while
maintaining sales.
○ Decision: Implement if savings (from reduced receivables) outweigh the discount
costs.
3. EOQ Application
○ Determines the order quantity that minimizes total costs.
○ Example: Ordering fabric for a firm results in reduced inventory carrying and
ordering costs.
4. Order Point with Safety Stock
○ Adjust order points dynamically based on uncertainty and lead-time variations.
