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Chapter 2 Product costing: Manufacturing processes, cost terminology and cost flows Solutions 1. (LO2 and 5) A. Reducing inventory by such a significant amount may negatively affect the company’s ability to deliver to its customers. The company will have to work closely with its suppliers to ensure a steady stream of inventory on a just-in-time basis so that customer needs can be filled quickly. B. The reduction will likely need to be accomplished by ‘consuming’ the inventory by shipping it to customers as it is ordered without simultaneously replacing the inventory in the company’s warehouse. It is possible that the company could arrange for some suppliers to accept returns of inventory, but this is not likely to be a successful approach with all suppliers. C. The total inventory is currently valued at $722 505. Assuming an interest rate of just 3.5 per cent, the annual interest received on 80 per cent of this balance is $20 230.14. D. If Ken’s estimates are correct, there will be a decrease in sales of $760 000 (20% of $3 800 000) and a decrease in gross profits of $228 000 (30% of $760 000). E. JIT is not for every company, but the techniques may work if the company is committed to them. The primary challenge will be ensuring an orderly transition to a very low inventory. The company will have to work closely with suppliers and customers to ensure that products are available whenever needed. This will likely drive some costs higher because suppliers will almost certainly increase prices to cover the increased costs of more frequent shipments to Colt Kitchen. On the other hand, the company may feel that the price increases will be offset by the income earned on the free cash.
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