A company keeps 20 days of materials inventory on hand to avoid shutdowns due to materials shortages. Carrying costs average $4,000 per day. A competitor keeps 10 days of inventory on hand, and the competitor’s carrying costs average $2,000 per day.
-Refer to the figure.What are the non-value-added costs for the company?

Question

Quizplus · Accepted Answer

The non-value-added costs for the company are the extra costs it incurs over what the competitor spends for the same level of inventory, calculated as the difference in carrying costs for the additional days of inventory. The company keeps 10 more days of inventory than the competitor (20 days - 10 days) at a cost of $4,000 per day, leading to non-value-added costs of 10 days * $4,000/day = $40,000. However, since the company's total carrying costs for its 20 days of inventory are 20 days * $4,000/day = $80,000, and the question asks for the non-value-added costs for the company without specifying it's relative to the competitor's strategy, the total carrying costs of $80,000 are considered non-value-added because they exceed the necessary amount to avoid shutdowns, as evidenced by the competitor's lower inventory levels and costs.

A Company Keeps 20 Days of Materials Inventory on Hand