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Finance cost on Inventory

Forums › Ask ACCA Tutor Forums › Ask the Tutor ACCA FM Exams › Finance cost on Inventory

  • This topic has 1 reply, 2 voices, and was last updated 1 year ago by John Moffat.
Viewing 2 posts - 1 through 2 (of 2 total)
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  • June 2, 2021 at 6:59 pm #622830
    Joseph.Andrews
    Member
    • Topics: 45
    • Replies: 23
    • ☆☆

    Could u please say whether did I calculate the interest on overdraft correctly (about question Dusty Co in Sept-Dec 2019)?

    We pay interest on overdraft over average inventory where increase or decrease in average inventory and so the overdraft will increase or decrease to finance it (just like what we always doing in questions on the management of receivables) – But WHY do we pay interest on average inventory & not on total inventory?

    Increase in average inventory means less cash so we take money from bank so we pay more interest 🙁
    Decrease in average inventory means more cash so we don’t take money from bank so we pay less interest 🙂

    [My Answer to Dusty Co]
    If there were no increase or decrease in average inventory then we would be paying interest on current average inventory such as:

    Average Inventory = 62,500 x $14 = 875,000
    Interest on overdraft = 875,000 x 3% = $26,250

    BUT in EOQ there is a reduction in average inventory from (62,500 units to 30,000 units in EOQ Policy) so decrease in inventory will have a saving of interest on overdraft.

    Decrease in average inventory = (62,500 – 30,000) x $14 = 455,000
    Saving of interest on overdraft = 455,000 x 3% = $13,650
    Overall saving = $3,549 + $13,650 = $17,199

    Thanks for your time!

    June 3, 2021 at 6:58 am #622875
    John Moffat
    Keymaster
    • Topics: 56
    • Replies: 51582
    • ☆☆☆☆☆

    Yes, that is correct.

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