The Margo Corporation is an automotive supplier that uses automatic turning machines to manufacture precision parts from steel bars. Margo’s inventory of raw materials averages Tk 600,000. John Oates, President of Margo and Helem Gorman Margo’s controller are concerned about the costs of carrying inventory. The Steel supplier is willing to supply steels in small lots at no additional charge. Helen Gorman identified the following effects of adopting a JIT inventory program to virtually eliminate steel inventory:
a. Without scheduling any overtime lost sales due to stockouts would increase by 35,000 per year. However by incurring overtime premiums of Tk 40,000 per year, the increase in lost sales could be reduced to 20,000 units. This would be the maximum amount of overtime that would be feasible to Margo.
b. Two warehouses presently used for steel bar storage would no longer be needed. Margo rents one warehouse from another company under cancellable lease arrangement at an annual cost of Tk 60,000. The other warehouse is owned by Margo and contains 12,000 square feet. Three-fourth of the space in the owned warehouse could be rented for Tk 1.50 per square foot per year. Insurance and property cost totalling Tk 14,000 per year would be eliminated.
Margo’s projected operating results for the year 2019 calender year follow. Long term capital investment of Margo are expected to produce an annual rate of return 0f 20%. The budgeted income statements are as follows:
Margo Corporation Budgeted Income Statement (Amounts in thousands)
Particulars Amount Total
Revenue (900,000 units) 10,800
Less: Cost of goods sold:
Variable 4,050
Fixed 10,450
Total cost of goods sold 5,550
GROSS PROFIT
Less: Selling and Administrative expenses 5,300
Variable 900
Fixed 1,500
Total selling and administrative expense 2,400
Operating Income 2,900
Requirements:
a. Compute the estimated amount of savings (loss) for the Margo Corporate that result in 2019 for the adoption of JIT inventory system.
b. Identify and explain other factors that Margo should consider before deciding whether or not to install JIT system.
