Question 1

You are the Chief Financial Officer at Touchdown Sports Inc., a leading manufacturer of protective equipment for use in contact sports.

The company manufactures a range of products, including shoulder pads for use by players of American football. These pads comprise a hard plastic shell with foam padding underneath, metal rivets and elastic straps. Touchdown Sports Inc. sells all of its products to retailers on a credit basis.

Estimated annual usage of hard plastic in Touchdown Sports Inc's manufacturing process is 27,000 kilograms. This is used evenly throughout the year other than during July and August, when production increases to meet demand due to the start of the American football season in September, and during November, when production increases to meet demand prior to the Christmas holiday in December.

Inventory holding costs for hard plastic are estimated to be $1.75 per kilogram per year. The estimated cost of placing and processing each order of hard plastic is $14.

Throughout the year, it is estimated that hard plastic will cost an average of $0.90 per kilogram. However, forecast fluctuations in demand mean that the cost of hard plastic could vary from a maximum of $1.90 per kilogram and a minimum of $0.75 during the year.

Touchdown Sports Inc. imports hard plastic from Guangzhou Productions plc, China. Recent disputes with this supplier have led Touchdown Sports Inc. to maintain a 'buffer' inventory to manage the risk of disruption to this supply. Guangzhou Productions plc offers a 7.5% bulk purchase discount on orders of hard plastic of 10,000 kilograms or more.

The company's approach to inventory management was discussed at a recent meeting of Touchdown Sports Inc's senior executive team. Grace Rodriguez, Chief Executive at Touchdown Sports Inc., is an advocate of just-in-time (JIT) inventories management. Grace has questioned the company's current approach to the management of its inventory of hard plastic and has commented:

Holding inventories results in costs for the company. We could avoid these costs if we introduce a JIT approach to the management of our inventory of hard plastic. Inventories management models and information technology are available to help us.

Maria Cousins, Chief Operating Officer at Touchdown Sports Inc., has pointed out that the successful management of inventories involves a number of practical issues. Maria has commented:

Inventories management models and information technology are useful, but I am sure that there are other issues that we need to consider. I would like to know more about the practical implications of managing inventories.

Required:

(a)Calculate the economic order quantity (EOQ) for hard plastic.

(5marks)

(b)Calculate the total annual cost of hard plastic.

(4 marks)

(c)Critically evaluate Touchdown Sports Inc's decision to use the EOQ model as part of its approach to the management of inventories.

(5marks)

(d)Advise Touchdown Sports Inc's senior executive team on the comments made by Grace Rodriquez and Maria Cousins. Your advice should include an explanation of the costs of holding inventories, the costs of failing to manage inventories properly and the practical implications of managing inventories.

(11 marks)

(Question 1 Total marks: 25)

(LO: 1, 2 and 4)