ACC 100 Study Guide - Final Guide: Profit Margin, Gross Margin

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10 Apr 2016

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Pet valu is a retailer who sells products to consumers (also called the public) in order to saisfy their wants and needs. Inventory is the inished goods (meaning they have already been manufactured and are in their inal form) that are purchased by a merchandiser and will be resold for a proit. They are purchased by either retailers, who will sell the inventory to the public, or wholesalers, who will resell the inventory to retailers. Examples of inventory are the clothing and jewellery sold by h&m or the food, clothing, and household items sold by loblaw"s superstores. Like retailers, that provide services to make a proit, merchandising retailers and wholesalers sell inventory to make a proit. They do that by selling the inventory for a more than the cost of the inventory they bought. That means that the retailer will buy the laptop from their supplier for. and sell it for ( * 1. 15%).

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Baldwin Bicycle Case

This case looks at a âprivate labelâ opportunity for a smallmid-market bicycle manufacturer. Analysis of the problem requires ablending of financial, marketing and strategicconsiderations.

In March 2009, Suzanne Leister, marketing vice president ofBaldwin Bicycle Company, was mulling over the discussion she hadthe previous day with Karl Knott, a buyer from Hi-Valu Inc., aretail mass merchandiser with stores in the Northwest. Hi-Valu'ssales volume had grown to the extent that it was beginning to add"house-brand" (also called "private-label") merchandise to theproduct lines of several of its departments. Mr. Knott, Hi-Valu'sbuyer for sporting goods, has approached Ms. Leister about thepossibility of Baldwin producing bicycles for Hi-Valu. The bicycleswould bear the name "Challenger," which Hi-Valu planned to use forall of its house-brand sporting goods.

Baldwin had been making bicycles for over 10 years. In 2009, thecompany's line included 12 models, ranging from a child's beginnersmodel to a high-end adult's mountain bike targeted at amateurweekend competitors. Sales were currently at an annual rate ofabout $10 million. The company's 2008 financial statements appearin Exhibit 1. Most of Baldwin's sales were through independentlyowned retailers, primarily bike shops but to a lesser extent toystores, hardware stores and sporting goods stores. Baldwin hadnever before distributed its products through store chains of anytype. Ms. Leister felt that Baldwin bicycles had the image of beingabove average in quality and price, but not exclusively a "top ofthe line" product.

Hi-Valu's proposal to Baldwin had features that made it quitedifferent from Baldwin's normal way of doing business. First, itwas very important to Hi-Valu to have ready access to a largeinventory of bicycles, because Hi-Valu had had great difficulty inpredicting bicycle sales, both by store and by month. Hi-Valuwanted to carry these inventories in its regional warehouses, butit did not want title on a bicycle to pass from Baldwin to Hi-Valuuntil the bicycle was shipped from one of its regional warehousesto a specific Hi-Valu store. At that point, Hi-Valu would regardthe bicycle as having been purchased from Baldwin, and would payfor it within 30 days. However, Hi-Valu would agree to take titleto any bicycle that had been in one of its warehouses for fourmonths, again paying for it within 30 days. Mr. Knott estimatedthat on average, a bike would remain in a Hi-Valu regionalwarehouse for two months.

Second, Hi-Valu wanted to sell its Challenger bicycles at lowerprices than the name-brand bicycles it carried, and yet still earnapproximately the same gross margin percentage on each bicycle sold- - the rationale being that Challenger bike sales would erodesomewhat the sales of the name-brand bikes. Hi-Valu expected thatgiven the lower price there would be increased total volume thatwould more than offset the volume loss. Nevertheless, Hi-Valuneeded to purchase bikes from Baldwin at lower prices than thewholesale prices of comparable bikes sold through the more typicalmarket channels.

Finally, Hi-Valu wanted the Challenger bike to be somewhatdifferent in appearance from Baldwin's other bikes. While frame andmechanical components could be the same as used on one of Baldwin'scurrent models, the seats, handlebars and shifters would need to besomewhat different, and the tires would have to have the name"Challenger" molded into their sidewalls. Also, the bicycles wouldhave to be packed in boxes printed with the Hi-Valu and Challengernames. These requirements were expected by Ms. Leister to increaseBaldwin's purchasing, inventorying, and production costs over andabove the added costs that would be incurred for a comparableincrease in volume for Baldwin's regular products.

Ms. Leister was acutely aware that the "bicycle boom" hadflattened out, and this plus a poor economy had caused Baldwin'ssales volume to also flatten out the past two years.[1] As aresult, Baldwin currently was operating its plant at about 80percent of its two-shift capacity. Thus, the added volume fromHi-Valu's purchases could possibly be very attractive. If agreementcould be reached on prices, Hi-Valu would sign a contractguaranteeing to Baldwin that Hi-Valu would buy its house-brandbicycles only from Baldwin for a three-year period. The contractwould then be automatically extended on a year-to-year basis,unless one party gave the other at least three-months' notice thatit did not wish to extend the contract.

Suzanne Leister realized she needed to do some preliminaryfinancial analysis of this proposal before having any furtherdiscussions with Karl Knott. She had written on a pad theinformation she had gathered to use in her initial analysis; thisinformation is shown in Exhibit 2.

Exhibit 1

BALDWIN BICYCLE COMPANY

Balance Sheet, As of December 31, 2008

(thousand of dollars)

Assets Liabilities and Owners Equity

Cash $ 340 Accountspayable $ 520

Accountsreceivable 1,360 Accruedexpenses 340

Inventories 1,760 Short-term bankloan 2,640

Plant and equipment(net) 4,640 Long-term Notespayable 2,000

Total liabilities 5,500

Owner'sequity 2,600

$8,100 $8,100

BALDWIN BICYCLE COMPANY

Income Statement, For the Year Ended December 31,2008

Salesrevenues $10,900

Cost of GoodsSold 8,500

Grossmargin 2,400

Selling, General and Administrative (including interest)costs 1,900

Income beforetaxes 500

Incometaxes 200

Netincome $ 300

Exhibit 2

DATA PERTINENT TO HI-VALU PROPOSAL

(Notes taken by Suzanne Leister)

1. Estimated first-year costs of producing Challenger bicycles(average unit costs, assuming a constant mix of models):

Components andMaterials $40.00

Assembly Labor 20.00

Allocated Overhead

variable manufacturing overhead10.00

fixed manufacturing overhead 15.00

$85.00

Components and materials includes items specific to models forHi-Valu, not used in our standard models. Variable manufacturingoverhead costs includes an estimate of the incremental costs ofhandling materials, shipments out, etc. Fixed manufacturingoverhead includes depreciation on the building, managementsalaries, etc., is allocated over total projected productionvolume.

2. One-time added costs of preparing designs and tooling,arranging sources for seats, handlebars, shifters, tires, andshipping boxes that differ from those used in our standard models:approximately $100,000.

3. Unit price and annual volume: Hi-Valu estimates it will need24,000 bikes a year and proposes to pay us an average of $95.00 perbike for the first year. The contract contains an inflationescalation clause. The price will increase in proportion toinflation-caused increases in costs shown in item 1, above. Thus,the $95.00 and $85.00 figures are, in effect, "constant-dollar"amounts. Knott intimated that there was very little, if any,negotiating leeway in the $95.00 proposed price.

4. Working capital financing costs (annual variable financingcosts, as percent of dollar value of working capital) are:

Pre-tax cost of funds (to finance receivables and inventoriesnot carried by vendors) is 12.0%.

5. Other assumptions for Challenger-related added inventories(average over the year):

Materials: two month's supply.

Work in process: 1,000 bikes, half completed(but all materials for them issued).

Finished goods: 500 bikes (awaiting the next truckload lotshipment to a Hi-Valu warehouse).

6. Impact on our regular sales: Some retail consumers comparisonshop for bikes, and many of them are likely to conclude that aChallenger bike as a good value when compared with a similar bike(either ours or a competitor's) at a higher price in a non-chainstore. Also, our direct customers (local shop owners, etc.) arelikely to recognize these bikes as Baldwin products or to otherwiselearn of this private brand deal. In 2008, we sold 99,000 bikes. Mybest guess is that our sales over the next three years will beabout 100,000 bikes a year if we forego the Hi-Valu deal. If weaccept it, I think we'll lose about 4,000 units of our regularsales volume a year, since our retail distribution is quite strongin Hi-Valu's market region.

CASE QUESTIONS - No Math

1. In a write-up format, answer the questions with anâorganizedâ thought process rather than just doing the math. Thisis meant to help you think thru the case.

a. How did the special order/pricing case apply?

b. In your own words, discuss the blending of Cost &Financial Analysis with Marketing & Strategic consideration

c. Identify and analyze revenues and costs applicable to thespecial order/pricing decision.

d. What other implications are relevant to the case?

2. What are the pertinent aspects of Baldwinsituation?

a. How would you describe Baldwin's financial situationincluding operating

b. performance as of 2008?

c. How would you describe Baldwin's strategic position at theend of 2008?

d. Is the Challenger deal a good strategic fit for Baldwin?

3. Without performing a cost analysis of theChallenger deal, talk about

a. Relevant manufacturing

b. Relevant Costs & Profits

c. Relevant Annual Costs of theWorking Capital involved in the Challenger deal

periwinkleswan492

Case 1-1 You are the new chief financial officer for Redlands Manufacturing, Inc. The firm that you have just joined has recently paid substantial penalties to settle claims related to fraudulent financial reporting practices. The Board of Directors has also created an Office of Ethics and Compliance in response to the scandals. Francis Bacon, the chief of the newly created ethics office, recently dropped by your office for some insights about accounting and fraudulent financial reporting. The chief ethicist stated that he has a background in philosophy, but he lacks understanding of the accounting discipline. He identifies the tactics that the company employed when it essentially cooked its books. Bacon stated that Redlands employed some devious practices that were obviously unethical, but that he lacked the accounting vocabulary to articulate their financial statement consequences. He essentially wanted to understand why specific practices violated accounting standards, and sought your help with this matter. Bacon began by stating, âI have identified five types of arrangements that Redlands engaged in over the period in question. Each type of activity has a clever sounding name. Here is my list:â Channel Stuffing. Redlands shipped manufactured goods to certain retailers, in certain instances regardless of whether or not the retailers ordered the products. Our firm recognized revenues upon shipment of these non-ordered items, which usually took place towards the end of the year. We informally agreed to take back the merchandise if the retailer could not sell it. It was kind of a wink and a nod deal. Redlands did not recognize an allowance for the merchandise that its retailers could return. Vendor Dinging. Our firm told many of its suppliers that they were shipped a disproportionately large number of raw materials that did not conform to contracted specifications. Consequently, Redlands unilaterally decreased its cash payments to those vendors. Most of the suppliers did not dispute our claims and merely reduced our obligation to them. Of course, many of those materials were of acceptable quality and we used them in manufacturing our products. Capitalizing Revenue Expenditures. Redlands placed numerous recurring business costs on its balance sheet as long-term assets, rather than charging the full cost of the item as an expense in the current reporting period. Our firm then recognized only a portion of those questionable assetsâ cost as a current expense, which we called depreciation. These costs, such as salaries expense, had no future benefit beyond the current reporting period. Special Purpose Entities (SPEs). Redlands Manufacturing shielded debt (liabilities) from its balance sheet with these types of arrangements. Our firm contracted with ostensibly independent companies in business ventures that were debt financed. The other companies, not Redlands, reported the debt on their balance sheets. Our SPE partners, however, consisted of businesses established by Redlands executives. Bacon told you that he was preparing to make his initial address to the Board of Directors concerning staff training which should insure that the firm does not engage in the above practices, or any other ones like them. He wants you to explain to him how such unethical practices violate accounting conventions, and how they inflated the financial appearance of the firm. Required: Write a memorandum to Francis Bacon explaining how each practice violates generally accepted accounting principles, and how each type of transaction might affect reported income, financial position, and cash flows.

rubymarten702

Background

Clothing sales have risen dramatically in recent years, thanks to several trends that appear likely to continue. It was reported that the global demand for clothing looks set to increase significantly over the coming decade as millions of people in developing countries enter the middle class and spend more on apparel. It also seems the demand for fast fashion will only continue to grow (Remy et al. 2016). This is further supported by a new research from Kurt Salmon, part of Accenture Strategy, one in eight younger consumers (18 to 24 year olds) shopping every week and buying a fashion item at least once a fortnight (Accenture 2017). Clothing production doubled from 2000 to 2014, and the number of garments purchased each year by the average consumer increased by 60 percent. Fast fashion has been a particularly hot segment and a source of enviable growth for some clothing companies (Remy et al. 2016).

The process of making a piece of clothing involves multiple suppliers across the supply chain in the following processes including: farmers who grow the raw materials; ginners receive cotton from multiple growers and sell to the global market through traders; spinners use cotton from a variety of origins to produce yarn and fabric mills produce cloth. The manufacturing process begins which involves cutting, sewing, trimming, embroidery, orienting, and washing. Next, the manufacturers ship the garments wholesale to the brand that placed the orders who distributes garments globally to retail and online stores (Human Rights Watch 2017). At the end of its life, the apparel/garments may either be recycled or discarded and go to landfill. The manufacturing usually involves multiple suppliers in a very complex supply chain, which reduces transparency and visibility along the complex value chain. Brands therefore are not aware of what happen at their suppliersâ business along the supply chain. Brands also do not typically deal directly with all those suppliers, and many do not bother to dig deep into their supply chains (Gunther 2016).

On the other hand, consumers are, attracted by the low cost and constantly update product ranges with new styles and designs. Consumers are buying these clothes much more often and in greater quantities, but often wearing them only a handful of times before discarding them. This fast-fashion industry and ecosystem consumes large amounts of natural resources in the production, which ultimately accelerating carbon emissions and global warming. The industry has also been linked to a number of cases of worker abuses in countries producing the garments. The workers were underpaid and exposed to unsafe and poor workplace conditions, particularly when handling materials like cotton and leather that require extensive processing (Remy et al. 2016). One example is the disaster at Rana Plaza, which is one of the deadliest accidents in the fashion industry happened on 24th April 2013. (The Economist 4th May 2013). Over 1,130 people were killed and 2,500 more were injured when the Rana Plaza factory complex collapsed in Dhaka, Bangladesh. It was reported that people crushed under those eight floors were working for dozens of familiar multinational brands and retailers. It is âone of the many negligent accidents that plague the garment industryâ (Fashion Revolution CIC 2015, p.4).

Assignment Tasks

Assume you are a newly appointed accountant in a local fashion company -RTXM Clothing Company (RTXM) - based in Melbourne, Australia. This is a private family business with 20 shareholders. Currently, the company has seven different departments, include Accounting and Finance, R&D (product design and development), Salesand Marketing, Human Resources, Information Technology, Distribution and Logistics, and Merchandising, with a total of 130 employees. Managers in each department are given the authority regarding operational decisions and their performance is measured based on the companyâs profit, and all the other employees receive the fixed salary package. The company pays taxes to Australia Taxation Office (ATO) on a regular basis.

Originally, the business offered only t-shirts and jeans. As the business was trying to join the growing fast fashion industry, it expanded its product lines to include dress, trousers, shorts, hoodies & sweats, socks, shoes, and bags. The objective was to provide a wide selection of product lines in order to reach more fashion conscious consumers. A characteristic of them market is consumers are mainly attracted by low price, and frequent new styles and designs, so the company also seeks to find the suppliers with low prices. The business has retail stores in the major city across Australia and online store. Since the company expanded its product line, managers from different departments found the number of complaints received from customers have tripled. Most complaints are related to the product quality (products are either defective or damaged), items consistently out of stock, online shopping experience (delivery of wrong items and long response time to emails), and in-store experience (lack of attention from sales representatives), and some customers have posted complaints on RTXM social media.

In order to enhance the overall performance, the company is considering using a range of key performance indicators in managing its performance. This is to ensure that the company keeps track of its performance and to achieve the objectives they set for the identified issues.

In addition, the CEO and senior management decide to find new suppliers to improve the product quality, however, they encountered a dilemma. On the one hand, they found a supplier in Bangladesh, Super Cheap who can provide a large range of products to fit in their business expansion plan with a competitive price and all products can be supplied in a short time frame. However, after a careful investigation into this companyâs background, they found this supplier has a major issue with labor conditions throughout their supply chains, including the use of child labor, low wages, and health and safety hazards, and long working hours. In terms of the environmental aspect, Super Cheap consumes a few thousand litres of water to produce a cotton t-shirt and over ten-thousand litres to produce a pair of jeans, and wastewater discharge into the local river, and it did not take any action to solve this issue. The polluted water is no longer fit for drinking or laundry, fishes no longer exist in this river, and local residences complain that their homes are flooded by dirty water.

On the other hand, RTXM has another potential supplier, called Green Fashion, who only provides limited product range with a higher price, and products can be supplied in a reasonable time frame. However, Green Fashion takes account of sustainability and makes it as part of their business, and their sustainability agenda has been presented on its website,

including fashion designs that is kind to the environment, they also ethically source materials and labour, promote work-life balance of the employee in the retail business, and provide incentives to their local and outsourcing partners and their employees if their targets are met. The CEO and management of RTXM learnt that Green Fashion has very similar values and sustainability agenda. RTXM considers sustainability as part of the business. It is reported on their websites that the company wants to rethink fashion designs so that they are kind to the environment, to ethically source materials and labour, promote work-life balance of the employee in the retail business, and provide incentives to their local and outsourcing partners and their employees if their targets are met.

Required:

As an accountant of the company, you would like to have a better understanding of how the sustainability of the company will impact on the stakeholders. You believe the most efficient way is to identify important stakeholders. Refer to the case and identify five relevant stakeholder groups and discuss how different accounts could be used to satisfy each groupâs information requirements.

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ACC 100 Study Guide - Final Guide: Profit Margin, Gross Margin

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