Sales Forecasts for Island Wheels - Case Study Example

Report Prepared for John Cruise on Sales Forecasts for Island Wheels Name: Course Professor’s name University name City, State Date of submission Contents Contents 2 Abstract 3 Sales Forecasts for Island Wheels 4 Introduction 4 Discussions 4 Direct material purchases budget requirements 4 Sales Forecast: Factors considered 6 Breakeven Point 8 Feasibility Analysis of Producing Seat Post 11 Conclusion 13 References 15 Abstract Proper bookkeeping is a requirement of every organization in order to avoid instances of stock out costs. Companies, usually prepare their quarterly budgets to guide them on day to day operations, after which variations are keenly monitored and investigated. In addition, it also helps the management to stay focused on their duties by making sure that there are no adverse variances, and that every department meets the set requirement ceiling. The following is a report prepared for the John Cruise company finance and sales departments, with the aim of achieving five goals: draw up a material purchases budget, explain factors required in making sales forecasts, analysis of the breakeven of proposed projects and decision outcome analysis. It is divided into an introduction, the discussion and the conclusion. Sales Forecasts for Island Wheels Introduction Island Wheels is a company that specializes in the manufacture of bikes from three main components; Aluminium, titanium and steel alloys. The management has been experiencing difficulties in the budgeting and decision making aspect of the business. Below is a report that will highlight solutions to the mentioned problems from the respective departments. Discussions Direct material purchases budget requirements Below is a summary output of the material purchase budget (Steel, aluminum and titanium alloys), for the months of October, November and December. Material Requirement (gms) Month Sales budget MR for SB Closing Inventory Opening Inventory ATBP (gms) SB+CI-OI ATBP (kgs) Steel Alloy 5% Road 50 Oct 1,600 80,000 4,000 24,000 60,000 60 50 Nov 1,400 70,000 3,500 4,000 69,500 70 50 Dec 1,800 90,000 4,500 3,500 91,000 91 Trek 200 Oct 800 160,000 8,000 24,000 144,000 144 200 Nov 900 180,000 9,000 8,000 181,000 181 200 Dec 1,200 240,000 12,000 9,000 243,000 243 BMX 750 Oct 300 225,000 11,250 24,000 212,250 212 750 Nov 300 225,000 11,250 11,250 225,000 225 750 Dec 500 375,000 18,750 11,250 382,500 383 Total for the quarter 1,608,250 1,608 Material Requirement (gms) Month Sales budget MR for SB Closing Inventory Opening Inventory ATBP (gms) SB+CI-OI ATBP (kgs) Aluminium Alloy 10% Road 650 Oct 1,600 1,040,000 104,000 130,000 1,014,000 1,014 650 Nov 1,400 910,000 91,000 104,000 897,000 897 650 Dec 1,800 1,170,000 117,000 91,000 1,196,000 1,196 Trek 350 Oct 800 280,000 28,000 130,000 178,000 178 350 Nov 900 315,000 31,500 28,000 318,500 319 350 Dec 1,200 420,000 42,000 31,500 430,500 431 BMX 250 Oct 300 75,000 7,500 130,000 (47,500) (48) 250 Nov 300 75,000 7,500 7,500 75,000 75 250 Dec 500 125,000 12,500 7,500 130,000 130 Total for the quarter 4,191,500 4,192 Material Requirement (gms) Month Sales budget MR for SB Closing Inventory Opening Inventory ATBP (gms) SB+CI-OI ATBP (kgs) Titanium Alloy Road 35% 150 Oct 1,600 240,000 84,000 25,000 299,000 299 150 Nov 1,400 210,000 73,500 84,000 199,500 200 150 Dec 1,800 270,000 94,500 73,500 291,000 291 Trek 450 Oct 800 360,000 126,000 25,000 461,000 461 450 Nov 900 405,000 141,750 126,000 420,750 421 450 Dec 1,200 540,000 189,000 141,750 587,250 587 BMX 0 Oct 300 0 0 0 0 0 0 Nov 300 0 0 0 0 0 0 Dec 500 0 0 0 0 0 Total for the quarter 2,258,500 2,259 Where MR is material requirement, SB the sales budget, CI is the closing inventory, OI is opening inventory and ATBP is the amount to be purchased. Sales Forecast: Factors considered Products’ demand. A careful evaluation of the consumers’ demand should be conducted by the market research (Voluntary Action Cumbria 2006). The company should forecast the actual consumer demand rather than the company's ability to supply the products on one hand and plan supply on the other hand. This is to avoid the problem of failure to satisfy customer's demand that is associated with forecasting based on shipping history. Predicting the actual demand allows for the measurement of disparity between demand and supply so that it can be reduced in future periods through plans for capacity expansion. Company capacity. This is defined as the ability of a company to supply their products. The company should consider the maximum number of bicycles it can produce from its projected resources. Defining where the capacity does not meet the demand forecasts helps the company with valuable information on the best capacity expansion strategies (Voluntary Action Cumbria 2006). Seasonality. The company has to consider whether the demand for the product changes with the seasons, for example, whether the demand for their bicycles changes during summer or Christmas. This will help the management in forecasting demand in every season with accuracy. General trends. It is a general trend for sales to be low at the start of business because it takes time for the prospective customers to become aware of the business and/or its products and to leave their existing suppliers. However, it is believed that firms that have been in the business world longer expect higher sales compared to new entrants into the market. Advertisement and sales promotion techniques used. If the company's promotional activities are successful, then the demand for products are expected to be high (Voluntary Action Cumbria 2006). However, unsuccessful promotional activities may either be ineffective or reduce the demand for the product. Forecast data. The company should consider the information required to build the sales forecast and the important data field for the forecast. This ensures more reliable and accurate data evaluation. Breakeven Point The break-even point is the point where the revenues of a firm equal to costs of sales and overheads. It is regarded as a tool that is used to evaluate the economic viability of a new project or product. For instance, the break-even units indicate the level of sales that are required to cover costs. This analysis is used to determine the minimum level of output that allows the firm to make neither e loss nor profit. Generally, any point above this point results in profits, the converse of which is true (Holland, 1998). The explicit of analysis presented in a graph helps in understanding the concept of the break-even point more (Gutierrez and Dalsted 1992). Below is an example of thus representation, where point P is the break-even point: The three basic set of information required for the evaluation includes the sales price per unit, the variable cost per unit and the total annual fixed costs (Holland, 1998). In this case, let QBE denote the break-even point, TR denote the total revenue, TC the total cost, TFC the total fixed cost, TVC the total variable cost, P the price per unit and AVC denote the average variable cost per unit, then: TR (at QBE) = TC (at QBE) TR (at QBE) = TFC + TVC (at QBE) When price and AVC are constant P.QBE = TFC + AVC.QB QBE = TFC ÷ (P – AVC) TFC = Cost of renting Mechatron H688 per year + Cost of one extra production supervisor + Cost of two extra production staff + Fixed overhead cost Fixed costs Renting H688 $450,000 supervisor fee $85,000 production staff fee $110,000 fixed overhead $46,200 $691,200 AVC.QB = Cost of materials to produce helmets + Variable overhead cost + Variable marketing cost + Variable packaging cost per helmet V.C per unit Direct materials $25.7 Variable o'head $14.3 Variable marketing $2.0 Packaging cost $5.0 $47.0 S.P = $65.00 QBE = $691,200 ÷ ($65.00 - $47) = 38,400 Units The break-even Revenue = P.QBE = $65.00 *38400 Units = $2,496,000 The expected sales = 3,000 Units Expected Revenue = $65.00 * 3000*12 = $2,340,000 $2,496,000 > $2,496,000 From the calculations above, the number of units of helmets that Island Wheels should produce to break-even is 38,400 units. This means that producing below this number of units will lead to a loss. The break-even revenue is $2,496,000. The annual expected sales level is 36,000 Units and the expected revenue from the sales of the helmets is $2,340,000. If Island Wheels rejects the proposal, it will forgo a chance of making an extra $156,000 annually in sales proceeds. Therefore, it is advisable for Island Wheels to accept the proposal from Mechatron to be producing helmets on their behalf as the option has better prospects according to the company’s aim of maximizing profits and minimizing costs. Furthermore, from the following analysis, it is evident that the proposal is viable since it results in a contribution of $3,000 per unit. Helmet Sales expected $36,000 S.P $65 Total sales $2,340,000 Variable costs Cost of hiring H688 $450,000 Materials-Helmets $925,200 supervisor fees $85,000 extra production staff $110,000 Variable overhead cost $514,800 Variable marketing costs $72,000 Packaging-helmet $180,000 $2,337,000 contributions $3,000 Feasibility Analysis of Producing Seat Post The following product direct and overhead costs are associated with the production of seat posts seats Direct material for 3,500 seat posts $161,000 Direct labor $52,500 Manufacturing o’head $52,500 *G& administrative o’head $15,750 Total $281,750 *The general administrative cost has been split into fixed and variable cost. For decision making purposes, only the variable cost is used as it is considered a relevant cost. In this case, the absorption rate of the cost is 100% of direct labor dollar as the variable, and 50% as the fixed cost. Hence, to get the variable element cost: (100%*52,500=52,500) In order to determine whether Island Wheels should make or purchase seats from Mechatron Company, the following analysis is used: Alternative 1 Alternative 2 Savings (make internally) (Buy from outside) Savings Variable Costs Cost of buying from outside $0 $266,000 ($266,000) Direct materials $161,000 $0 $161,000 Direct labor $52,500 $0 $52,500 G& administrative o'head-VC $52,500 $0 $52,500 Variable overhead $15,750 $0 $15,750 Total $281,750 $266,000 $15,750 Alternative 1, which is to make the seat posts internally, will cost $281,750, which is $15,750 more than buying from Mechatron. Therefore, Island Wheels should go ahead and accept the proposal from Mechatron since it is cheaper and will save the firm $15,750. Factors to Consider in Deciding whether to Produce Helmets and Seat Posts Network relations. This refers to the relationship between the company and other companies producing the product and the position of the company in terms of official or relational networks such as production-based associations and manufacturing joint ventures. These networks can enable firms to share information and technical know-how, lessen uncertainty within the industry and have right to use group resources. Firms that are involved in networks cut down on their transaction costs. Market structure. Companies in concentrated markets will have an incentive to innovate in-house so as to reduce the risk of disclosure and to stop or delay rivals from replicating internal research and development. This helps a company protect its market positions. In cases where there is evidence of the high market concentration level, besides the low research and development , most companies will opt to carry out outsourcing activities (Pascucci, Royer and Bijman 2012). Company size. Big firms with high market power have a tendency of investing in innovation activities than the small ones. Big firms are more likely to adopt an internal innovation strategy. However, other authors contest this point of view and argue that small and medium size enterprises, (SMEs), are more capable of quickly adapting to the market conditions, more ready to engage in an innovative joint-venture and contracting strategies and less restricted by the transaction costs of technical and administrative structures. Furthermore, SMEs also show the following: A higher internal flexibility with regards to decision making in addition to production organization Better informal & strategic controls, Better specialization possibilities, Better internal communication flow (Moon, et al. 1998). Human Resource base of the Company. The effects of highly skilled employees for innovation on the make or buy strategy are sometimes disputed, however, some scholars argue that high internal technical know-how can induce adaptation of internal innovation with available resources by companies, hence, benefiting from scale of operation. Companies with a high proportion of employees devoted to research and development activities are more likely adapt internal innovation. The level of skills of the employees of a company also influences its innovation sourcing strategy. Internal innovation will more often than not,be subject to adoption by companies that have a higher concentration of skilled labor (Holland 1998). Conclusion It is in my faithful opinion that Island Wheels will no longer have to experience stock out costs as a result of preparation of the direct materials budget that shows the amount according to requirements to be purchased. In addition, Damian will now be in a position to make more accurate forecasts of the sales budget to help the firm breakeven often in order to maximize profits. This owes to the fact that a firm that is profit making is perceived more positively by the public and all stakeholders involved in its management and operations. Thirdly, the company should accept the decision to incorporate Mechatron in manufacturing seats and helmets for the company. This is one benefit of business integration; it results in improved sales proceeds and minimized costs due to risk sharing and diversification. Finally, the report incorporates factors that should be considered in decision making processes that involve production and outsourcing. References Gutierrez, P,, and N,L, Dalsted. "Partial Budgeting: Break-Even Method of Investment Analysis." Farm and Ranch Series 759, no. 3 (1992): 1-10. Heisinger, Kurt, and Ben,Joe, Hoyle. Essentials of Managerial Accounting. Creative Commons, 2014. Holland, Rob,. Agricultural Economics Break-Even Annalysis. Tennessee: University of Tennessee Institute of Agriculture, 1998. Moon, A,Mark, T,John Mentzer, D,Carlo Smith, and S,Gaver, Michael. "Seven Keys to Better Forecasting." Business Horizons, 1998: 43-52. Pascucci, Stefano, Annie, Royer, and Jos, Bijman. "To Make or To Buy: Is this the Question." International Food and Agribusiness Management Review 15, no. 3 (2012): 99-118. Voluntary Action Cumbria. "Start Your Own Business Work Book." Rural Women's Network, 2006: 1-16. Read More