Class Notes (811,041)
Canada (494,454)
Business (3,226)
BU121 (464)
Laura Allan (258)

BU121 week 9.docx

8 Pages
Unlock Document

Wilfrid Laurier University
Laura Allan

BU121 March 12 2013 Cost-Volume-Profit - Tool to make decisions, assess risk - Breakeven – above means profits - When fixed costs covered by contribution from sales = FC / contribution per unit or % margin - Compare to market – realistic? What % of the market to I need to get to break even? How will competitors react when you enter? Will you have enough market share to break even? - Decide when to change strategy – start new approach (Make sure you can actually make money off it) - Determine decision point – above becomes more profitable o When incremental fixed costs cover incremental contribution (Make sure you can sell enough to make it more profitable; at what point are the incremental fixed costs covered by the incremental contribution?) – if you change your approach to something, use the decision point to make sure it will be more profitable - Make decisions that affect costs and/or volume – fine-tuning a strategy - Positive impact on profit - Total incremental contribution > incremental fixed and negligible negative qualitative impact (any other issues should be minor) Top Hat Monocle Question: If you were considering a new strategy that would increase your fixed costs by $5,000, but decrease your variable costs from $20 to $10/unit on a product with a price of $50, at how many units of sales would this strategy make sense? Variable costs drop by 10, which means contribution increases by 10 = FC / contribution margin = ^ 5000 / ^ 10 = 500 Application - Assume: - ABC Company currently sells 400 units of a product at $250/unit and variable costs are $150/unit… o contribution per unit = $250 - $150 = $100/unit o total $ contribution = $100/unit x 400 units = $40,000 o contribution margin = 1 – ($150/$250) = 40% If increasing advertising by $10,000 meant that sales would increase by $30,000, would you do it? - What is the additional/incremental contribution? - Compare to the additional/incremental fixed cost - Better off? - Quantitatively (use numbers) 1 BU121 March 12 2013 - Qualitatively - Spend an additional $10,000 that will increase sales by $30,000 - 40% contribution of $30,000 - $30,000 x 40% contribution = $12,000 additional contribution - Vs. $10,000 increase in fixed costs - Looked like a $20,000 difference, but it’s really only $2000 - Qualitative issues? Any potential negative long-term impact? No. If you could decrease variable costs by $25/unit, but it would mean that quality would also decrease and as a result sales would drop to 350 units, would you do it? - Change in contribution: $250 - $125 = $125 contribution per unit - VC drop by $25 so contribution margin increases by $25 - X 350 units = $43750 total contribution - Vs. $40,000 – additional contribution of $3750 - Yes, quantitatively (the contribution increases but there isn’t an increase in FC to cover) - Qualitative issues: Really bad for your reputation If by paying your sales people a commission of $15/unit you could reduce salaries by $6,000 and increase sales by 15%, would you do it? - Raising VC to get a lower FC - Contribution: commission is a VC (raises the cost of each sale by $15) - Price – VC = contribution per unit - $250 - $165 = $85 contribution per unit - X 460 units = $39,100 contribution - Vs. $40,000 = $900 decrease in contribution - BUT $6000 drop in FC (there is less to cover FC, BUT FC are much lower) - Yes, quantitatively - Qualitative issues: Some employees might prefer to have a more secure salary; customers are used to a non-commission sales atmosphere (sales people may become more pushy) If by dropping price by $20, and increasing advertising by $15,000, you could expect sales to increase by 50%, would you do it? - Price has gone down to $230 - $230 - $150 = $80 contribution per unit - Sales increasing by 50% = 600 units - X 600 units = $48,000 total contribution - Vs. $40,000 = $8,000 additional contribution - Spending an extra $15,000 FC - Total net profit drops $7000 - Qualitative issues: There is no really strong argument that makes this a good idea 2 BU121 March 12 2013 - Short term pain for long term gain (Is there a really strong positive impact that will override the negative quantitative impact?) - In this situation, qualitative cannot override the quantitative issues in the long run If you were covering your fixed costs now, and you had the opportunity to make a bulk sale of 150 units, what price would you charge in order to profit $3,000? - FC is not an issue - What to profit $3000 on 150 units = $20 per unit but you have to take into account the VC ($20 pure profit because FC are already covered) - $20 + $150 VC = $170 price - Usually charge $250, but you can charge $170 - Qualitative issues: The customers that pay $250 will be really upset; If most people buy just one or two at a time but this person wants to buy in bulk, people will still be mad - If you sell in bulk to a business, this could be isolated and customers may not know so they couldn’t get mad If in a slump you were only selling 200 units, would you consider taking an order for 50 units that would increase VC by $50? Assume that fixed costs are $30,000. - If you’re in a slump, your mind immediately asks if you’re breaking even or not - Selling 200 units x $100 contribution = $20,000 total contribution - Vs. $30,000 FC - You’re $10,000 off - $250 - $200 = $50 contribution/unit x 50 units = $2500 total additional contribution - Losing $10,000, if you make the order you can put the $2500 towards this loss - Yes, quantitatively – still losing money, but not as great a loss - Qualitative issues: You would do this once, but you’d have to tell the customer
More Less

Related notes for BU121

Log In


Don't have an account?

Join OneClass

Access over 10 million pages of study
documents for 1.3 million courses.

Sign up

Join to view


By registering, I agree to the Terms and Privacy Policies
Already have an account?
Just a few more details

So we can recommend you notes for your school.

Reset Password

Please enter below the email address you registered with and we will send you a link to reset your password.

Add your courses

Get notes from the top students in your class.