Was There Increased Demand for Product B So That the Sales Price Had to or Could Be Increased - Report Example

Report Based on the information given here: Product A Product B Total (A+B) Actual Budget Actual Budget Actual Budget Sales volume 29000 27500 10500 8500 39500 34000 Revenue (£000s) 720 690 430 300 1150 990 Variable cost of sales (£000s) 280 270 170 127 450 397 Contribution (£000s) 440 420 260 173 700 593 Fixed costs 310 310 Net Profit 390 283 There are various issues with the actual versus budgeted amounts given here in the companies financial information. These issues are called variances and are defined as differences between actual and budgeted amounts in units and costs. First there was a variance with the sales units for Product A. Product A was slated to sell 27500 units and make £690,000 which is a sales price of £25.09/unit. The actual number of units sold was 29000 and the total revenue was £720,000 which is a sales price of £24.83. The price difference causes a loss of revenue equal to £727,610 but due to the price drop the company was able to sell 1500 more units. Product A Sales Volume Variance = SP (AQ-SQ) = $25.09 (29000-27500) = $25.09 (1500) = $37,635 favorable Product A Sales Price Variance = AQ (AP-SP) = 29000 ($24.83 – $25.09) = 29000 (-$.26) = ($7540) unfavorable Next the analysis shows the variance of the sales units for Product B. Product B was slated to sell 8500 units with total revenue being £300,000 which is a sales price of £35.29/unit. The actual amount sold was 10,500 units with total revenue being £430,000 which is a sales price £40.95/unit. The revenue would have been £370,545 if the price had remained at £35.29 but the increase in price was met with increased sales and the increased revenue was £59,455. Product B Sales Volume Variance = SP (AQ-SQ) =$35.29 (10500-8500) = $35.29 (200) = $70,580 favorable Product B Sales Price Variance = AQ (AP-SP) = 10500 (40.95-35.29) = 10500 (5.66) = $59,430 favorable The variances of the variable costs of Product A are analyzed next. Product A was slated to have total variable costs of £270,000 and actually had variable costs of £280,000, which is a difference of £10,000. The amount of units had increased from budgeted to 27500 to 29000 units. The budgeted variable cost per unit was $9.82. therefore even with the increase of units produced the company had a lower variable cost of $9.66 per unit and saved . Product A Variable Cost Price Variance = AQ (AP-SP) = 29000 ($9.66-9.82) = 29000 (.16) = $4640 favorable Product A Variable Cost Volume Variance = SP (AQ-SQ) = $9.66 (29000-27500) = $9.66 (1500) = $14,490 favorable The variances of the variable costs of Product B are analyzed next. Product A was slated to have variable costs of £127,000 and actually had variable costs of £170,000, which is a difference of £43,000. Product B Variable Cost Price Variance = AQ (AP-SP) = 10500 ($16.19-$14.94) = 10500 ($1.25) = $13,125 favorable Product B Variable Cost Volume Variance = SP (AQ-SQ) = $14.94 (10500-8500) = $14.94 (2000) = $29880 favorable The fixed costs of the company remained the same even thought more units were produced than were budgeted. This indicates that fixed costs stay the same no matter how many units are being produced. The difference in contribution margin of Product A and Product B are analyzed next. Product A Product B Total (A + B) CM % A CM % B Sales £24.83 (29000) £40.95 (10500) £1150,000 62.6% 37.4% VC £ 9.66 (29000) £16.19 (10500) £ 450,000 62.2% 37.8% Total $15.17 (29000) £24.76 (10500) £ 700,000 00.4% (0.4%) Product A Product B Total (A + B) CM % A CM % B Sales £25.09 £35.29 £990,000 69.7% 30.3% VC £ 9.82 £14.94 £397,000 68.0% 32.0% Total £15.27 £20.35 £503,000 1.7% ( 1.7%) The contribution margin of Product A of the total contribution margin of both products is 62.6% while the contribution margin of Product B is 37.4%. The Variable cost percentage of Product A is 62.2% and for Product B is 37.8%. The Total contribution margin is .4% for Product A, and (.4%) for Product B. Sales Mix (as per chart above) Budgeted Actual Product A Revenue = 690,000 = 69.7% Product A Revenue = 720,000 = 62.6% Total Revenue 990,000 Total Revenue 1,150,000 Product B = 30.3% Product B = 37.4% Break Even Analysis “An analysis to determine the point at which revenue received equals the costs associated with receiving the revenue. Break-even analysis calculates what is known as a margin of safety, the amount that revenues exceed the break-even point. This is the amount that revenues can fall while still staying above the break-even point.” Product A (£24.83) FC = £131,000 = 8,636 units CM/unit £ 15.17 In order to break even if selling just product A, and with the same amount of fixed costs, the company must sell 8,636 units at price £24.83. Product A (£25.09) FC = £131,000 = 8,579 units CM/unit £ 15.27 In order to break even if selling just product A, and with the same amount of fixed costs, the company must sell 8,579 units at price £25.09. Product B (£40.95) FC = £131,000 = 5,291 units CM/unit £ 24.76 In order to break even if selling just product B, and with the same amount of fixed costs, the company must sell 5,291 units at price £24.76. Product B (£35.29) FC = £131,000 = 6,438 units CM/unit £ 20.35 In order to break even if selling just product A, and with the same amount of fixed costs, the company must sell 6,438 units at price £20.35. Analysis Product A increased in Break-even units from 8,579 to 8,636 units for a change of positive 57 units. The price decrease of $.25 caused the increase of those units. Product B decrease in break-even units from 6,438 to 5,291 units for a change of negative 1147. The price increase of $4.66 cause the decrease of those units. Break-even analysis Product A and B To come to the weighted average unit for Product A and B the CM of each unit must be multiplied by the sales mix of each unit. First we will use the budgeted CM for Product A and B. Weighted Average formula = (CM/unit for A* sales mix ratio A) + (CM/unit for B* sales mix ratio B) Weighted Average formula (budgeted) = (£15.27*.697) + (£20.35*.303) = £10.64319 + £6.16605 = £16.80924 Budgeted = FC = £131,000 = 7,794 units weighted average CM/unit £ 16.80924 Now we explore actual weighted average CM per unit for Product A and B. Weighted Average formula = (CM/unit for A* sales mix ratio A) + (CM/unit for B* sales mix ratio B) Weighted Average formula (actual) = (£15.17*.626) + (£24.76*.374) = £9.49642 + £9.26024 = £18.75666 Actual = FC = £131,000 = 6,985 units weighted average CM/unit £ 18.75666 Analyzing increase in Sales The increase in Sales was after the decrease in price for Product A from £25.09 to £24.83 and Product Bs increase in sales was actually after a increase in price for Product B from £35.29 to £40.95. In order to understand how much more sales were gained due to the increase or decrease in price this formula was used. Product A unit increase = 1500 units = 6000/euro dollar euro decrease in unit terms £.25 So this means that for each euro cent decrease in the sales price another 60 units can be sold. This means that if the company decreased from £25.09 to £24.50, there would be a unit increase of 3540 units. An increase from £25.09 to £25.68 would have a different effect, the effect would be a decrease 3540 units. Product B Unit decrease = 2000 = 429.18/euro dollar Euro increase £4.66 So this means that for each £.0041 increase in the sales price another unit will not be sold. This means that if the company increased from £35.29 to £37.00, there would be a unit decrease of 418 units. An increase from £35.29 to £37.00 would have a different effect, the effect would be a decrease 418 units. Recommendation Production increase There should be a production increase to meet demand for Product A and B accounted for in the budget. Production was able to meet actual demand but the issue could arise in the future where the company does not have enough inventory to meet the demand. There is also the possibility that having inventory on hand would help. Also although in most cases the variable costs should decrease when purchasing more materials for production, in the case of Product A the costs decreased, but in the case Product B the costs increased dramatically. If this increase in cost and thus the matching increase in Sales price was due to a rush order then there should be a standard rush order price. If not, management should consider increasing the price permanently in order. Inventory Management should consider carrying inventory in case of a lack of product A and B due to considerable increases in demand for both products. Inventory should be weighed with being able to produce in time to meet demand on a cost-benefit analysis. If inventory less costly than attempting to meet demand on a schedule. Increasing/Decreasing Prices Product A has the possibility to have much greater sales with every £.01 equals a 60 unit increase. This means that theoretically a £1.00 decrease in the sales price will mean an increase of 6000 units. The explanation for this might be that this product is supposed to be in a lower price range, so when the decrease in price occurred it is likely that the market demanded more of this product. Product B also has the possibility to have much greater sales with every £.01 equals a 4 unit increase. This means that theoretically a £1.00 increase in the sales price will mean an increase of 429. The explanation for this might be that this product is in a price range where an increase makes it more desirable for consumers. Although it is unlikely that a continuous increase will yield continuous unit gains. Contribution margin Product A has better contribution margin and also contribution margin % than Product B. Product Bs contribution margin % is actually negative. Only Product Bs variable costs increase when its production increased. Although Product B has a greater contribution margin, the product might not generate enough revenue to be continued. Discontinue Product A Actual Sales volume 29000 Revenue (£000s) 720 Variable cost of sales (£000s) 280 Contribution (£000s) 440 Fixed Costs (£000s) 131 Net Profit 309 The company should look into discontinuing Product B unless it is a complement and drives demand for Product A. Product A drives most of the revenue and this calculation was based on whatever production capacity the company had before factoring in the discontinuation of Product B. If the company discontinued one of the Product lines its likely fixed costs would decrease. The other alternative is to keep both lines, since fixed costs doesnt seem to change with increased production. If the company increased production with the same fixed costs and focused on pricing Product A lower and increasing Product B, the company could realize higher revenues. Questions for Management Three questions for management: 1) Did we buy materials at a lower cost thus causing the price drop in Product A, or was the company more efficient in using the materials? 2) Was there increased demand for Product B so that the sales price had to or could be increased? 3) Why dont we continue to lower the selling price for Product A and increase the selling price for Product B in order to increase revenue? References Break-even analysis. (n.d) In Investopedia.com. Retrieved from . Weighted Average Contribution Margin. (n.d) In Waccounting.net. Retrieved from . Sales Price Variance. (n.d) In Investopedia.com. Retrieved from . Sales Mix. (n.d) In Investopedia.com. Retrieved from . Contribution Margin Percentage. (n.d) In know-accounting.com. Retrieved from . Variable Cost. (n.d) In Investopedia.com. Retrieved from . Read More