Frederick's farm factory (FFF) currently maintains an average inventory valued at $3,399,984. The company estimates its capital cost at 9 percent, its storage cost at 3.4 percent, and its risk cost at 6.6 percent.
Calculate the impact on total annual holding costs for FFF if the Federal Reserve Board has just increased the interest rate and FFF now has to pay 10 percent for its capital.
.......... (increases/decreases) by $.......... or ..........% (Round your answer to 2 decimal places, the tolerance is +/- 0.02)
Annual Holding Cost:
When we add the cost of capital, storage cost, and risk costs then we get the value of annual holding acts. This cost is the cost occurred in carrying the inventory for one year.
Answer and Explanation:
Costs of capital is 9%
Storage cost is 3.4%
Risk cost is 6.6%
Total holding cost = 9+3.4 +6.6 = 19%
Now the interest rate is hiked and the company has to pay 10% instead of 9% on its capital.
Hence total holding cost = 10 + 3.4 +6.6 = 20%
Hence the total increase is 20 -19 = 1%
Average inventory is $3,399,984
Increase = 1% of $3,399,984
Hence the answer is to increase by $33,999.84 or 1%
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from Finance 101: Principles of FinanceChapter 19 / Lesson 8