AFM241 Study Guide - Final Guide: Sensitivity Analysis, Capital Budgeting, Cash Flow

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lilacmouse857

30 May 2018

School

University of Waterloo

Department

Accounting & Financial Management

Course

AFM241

Professor

Will Xiang

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o With ES implementation the profit margin will increase to 60%

• The new price is:

Profit Margin per Unit = (price per unit – COGS per unit) / price per unit

Price per unit = Cost of Goods Sold per Unit / (1-profit margin per unit)

Reduction in Inventory

• Management of BlueBikes hopes that adoption of the ES will help firm improve its

inventory management by establishing better communication links between firm’s

manufacturing facility, its distribution center and retailers (customers)

• It is estimated that ES adoption will help the firm reduce the number of days it takes to

sell its inventory from 20 to 10

o There is no further DSI after second year according to the table 7.3

DSI Reduction = (targeted reduction)*(achieved reduction in 1st year)

= (10)*(60%) = 6

• In order to perform the capital budgeting analysis, we will have to convert the reduction in

number of days it takes to sell the company’s inventory into a cash inflow

• We need to estimate the firm’s inventory level before and after ES implementation

DSI = Ending Inventory/ (Cost of Goods Sold/365)

Ending inventory = (Cost of Goods Sold*DSI)/365

• Pre-ES Ending Inventory = (50000*20)/3365 = 2740

• Post-ES Ending Inventory 1st year = (52100*14)/365 = 1998

• Post-ES Ending Inventory 2nd year = (53500*10)/365 = 1466

• There is a reduction of inventory level of 2740 – 1998 = 741 in first year

o 1998 – 1466 = 1274 in second year

o Inventory level plateaus in the third year

• In order to calculate NPV we need to work with flows rather than levels

• In order to incorporate the effect of inventory reduction on the firm’s cash flow, we need

to consider the incremental amount of working capital that is released each period

• In the case of BlueBikes, there is an incremental cash inflow (cost savings) of $741 in

first year and $533 in second year

o There is not inventory related cash inflow in subsequent years

• The use of capital budgeting analysis for the evaluation of IT initiatives is riddled with

problems/implications

Chapter 7 Notes (page 254-259)

• Managers often fail to account for all possible costs associated with IT initiatives.

o Tend to focus on cost of software and hardware.

o Managers must consider the direct as well as indirect costs associated with IT

investments, i.e. the total cost of ownership (TCO).

• For ES implementation, the TCO should account for hardware, software, professional

services and internal staff costs.

o One should account for initial installation as well as two year period that followed,

which is when the real costs of maintaining, upgrading and optimizing the ES to

needs of the firms occur

• Regardless of reason, justification or intention, exclusion of expected benefits and costs

from the evaluation process will inflate or deflate the NPV of the proposed IT investment

o For intangibles, managers should generate different scenarios and determine

how it affects NPV

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Document Summary

With es implementation the profit margin will increase to 60, the new price is: Profit margin per unit = (price per unit cogs per unit) / price per unit. Price per unit = cost of goods sold per unit / (1-profit margin per unit) Reduction in inventory: management of bluebikes hopes that adoption of the es will help firm improve its inventory management by establishing better communication links between firm"s manufacturing facility, its distribution center and retailers (customers) It is estimated that es adoption will help the firm reduce the number of days it takes to sell its inventory from 20 to 10: there is no further dsi after second year according to the table 7. 3. Dsi reduction = (targeted reduction)*(achieved reduction in 1st year) Dsi = ending inventory/ (cost of goods sold/365) In order to calculate npv we need to work with flows rather than levels.

Related Questions

Harold Grabner is the new president of Oneonta Glass Arts Incorporated (OGAI) a small manufacturing firm in Oneonta, NY, which produces exquisite glassware, using a European process developed by his ancestors many generations ago in the Innsbruck area of Austria. His great grandfather, an immigrant from Europe in the 1870âs, established a small kiln near Oneonta soon after arrival. After he passed away, Haroldâs grandfather and then his father continued to operate it. Harold had worked at the plant as a young man, but subsequently moved to New York City where he operated a glass artistâs co-operative wholesale and retail firm. He returned to Oneonta in December 2016 when his father developed serious health issues. Just like dad, Harold too was not very familiar with the marketing of glassware, which is probably why OGAI used brokers to sell to wholesalers who marketed to retailers. Harold occasionally thought about eventually developing his own sales force, but that was still some time away. Harold is currently taking a second look at his plan to improve his firmâs profit performance. In 2017 OGAI had a modest profit of $160,000; his 2018 goal is to increase this by 25%. The 2017 retail selling prices of the three variations OGAI sold were $800, $600, and $400 per set, accounting for 25%, 40%, and 35%, respectively, of retail sales.a In 2017, OGAI paid its brokers a 9% commission on all dinnerware sold to wholesalers. Wholesalers margin was 28% on retailer purchase price while retailersâ markup was 39% on wholesaler selling price. OGAIâs 207 material and labor costs per glassware set ran about $95.00, while packaging and crating costs were $8.35 per set. Harold estimates machinery maintenance expenditures to be about $90,000 per year. OGAI uses both âpushâ and âpullâ promotional approaches to marketing through their channels of distribution. OGAI sets aside a $11 co-operative advertising allowance for every set sold in the channel. In 2017, OGAI attended four national trade shows at $9,000 each and three regional trade shows at about $4,000 each. OGAI spent nearly $240,000 advertising in national consumer magazines and an additional $30,000 in trade publications to wholesalers and retailers. All of these will repeat for 2018. Broker commission for 2018 will increase to 12% while packaging crating costs will go up to $9.50 per set. Harold also plans to increase 2018 manufacturer selling price by about $75 per set. Assuming no changes in costs and prices other than those mentioned earlier, how will Haroldâs required level of sales (RLS) to reach the 2018 profit goal, in units and dollars, differ from those for the 2017 profit goal, in units and dollars? That is, will they go up, down or stay the same?

Q1:What was the weighted average retail selling price of a typical OGAI pattern SET in 2017? Based on this, what was the 2017 retailerâs cost, the wholesaler selling price, the wholesalerâs cost and therefore OGAIâs manufacturer selling price of a typical set?

Q2: Starting with the weighted retail selling price, calculate OGAIâs 2017 manufacturer selling price of a typical set in a single step, using the markup chain concept.

Q3: Line itemize, then total these to determine OGAIâs 2017 unit variable cost of a typical set. (should be $141.39) Q4: What was OGAIâs 2017 $Contribution and %Contribution for a typical set?

Q5: What was OGAIâs (do not itemize) Total Fixed Cost in 2017? Hence, what was their Breakeven Point in number sets and dollar sales? (caution: always calculate $ as rounded-up # * USP)

Q6:What was OGAI's TFC + Profit in 2017? Hence, what was their 2017 Required Level of Sales or RLS in number of sets and dollar sales? (caution: always calculate $ as rounded-up # * USP)

Q7: What is the proposed OGAI manufacturer selling price per set and $ profit goal for 2018?

Q8: Line itemize, then total these to estimate OGAI's 2018 unit variable cost per set.

Q9: Estimate OGAI's 2018 $Contribution and %Contribution for a typical set?

Q10: stimate OGAIâs (do not itemize) Total Fixed Cost in 2018? Therefore what was their Breakeven Point in number of sets and dollar sales?

Q11:Estimate OGAIâs TFC + Profit goal for 2018? Therefore what is their 2018 Required Level of Sales or RLS, i.e. BEP with profit included, in number of sets and dollar sales?

Q12: Therefore, estimate the difference (2018 minus 2017) in OGAIâs RLS in Number of Sets and Dollar Sales to reach the profit goal for 2018 vs 2017?

ceruleantiger863

Question A

Cash BudgetProblem

The Teletron Corporationmanufactures different types of printers for personal computers.The company is planning its cash needs for the first quarter of2006. In the past, Teletron has had to borrow money during thefirst quarter since sales peak during this period of time. It wouldlike to be aware of any potential cash shortages before theyoccur.

The Controller asks you,the Senior Budgeting Accountant, to prepare a Cashbudget for January, February, and March 2006 for the entirecompany. Today is December 1, 2005 and you have just met with otheremployees from the Purchasing, Production, Marketing, and Financedepartments. From this meeting you compiled the following table ofinformation (all based on estimates).

	2005	2005	2006	2006	2006
	Nov	Dec	Jan	Feb	Mar
Raw MaterialsPurchases	$ 20,000	$ 25,000	$ 25,000	$ 20,000	$ 25,000
Direct Labor Hours	1,600 hrs	1,760 hrs	1,760 hrs	2,240 hrs	1,760 hrs
Factory OverheadCosts	$ 4,000	$ 4,000	$ 4,000	$ 4,000	$ 4,000
Selling & AdministrativeExpenses	$ 10,000	$ 12,000	$ 12,000	$ 10,000	$ 12,000
Sales to customers	$ 100,000	$ 110,000	$ 120,000	$ 110,000	$ 100,000

Monthly sales to clientsare expected to be collected as follows: 60% in the first monthfollowing the sale; 30% in the second month following the sale; and10% in the third month following the sale. Note that October 2005sales to customers totaled $ 90,000.

Raw Material Purchasesare expected to be paid as follows: 50% in the month of thepurchase; 50% in the following month.

The production workersmake $ 25 per hour. There is no overtime and all wages are paid inthe month they are incurred.

Factory Overhead Costs arepaid in the month following the month they are incurred.

Selling &Administrative Expenses are paid in the month in the month they areincurred.

Teletron plans onborrowing $ 100,000 from its bank and will receive the money onJanuary 1, 2006. The loan is due to be paid back in 2008 in a lumpsum payment. The yearly interest rate will be 12% and interest willbe paid each month (assume the same interest expense each monthregardless of the number of days in each month).

Teletron plans on makingtwo $ 75,000 federal income tax payments during 2006 %u2013 one inJanuary 2006 and the other one in June 2006.

Teletron plans on paying$ 200,000 cash for the purchase of new production machinery inFebruary 2006.

Teletron plans on issuing(selling) 30,000 new shares of common stock in March 2006. Thesales price is expected to be $ 25 per share.

Teletron expects its cashbalance on December 31, 2005 to be $ 45,000.

(continued onback)

Requirements:

1. Prepare a cash budget for Teletron for each month of the firstquarter 2006 (i.e. January, February, and March 2006).

2. Comment on whether the ending cash balances each month areadequate for Teletron%u2019s cash needs and what Teletron might doin a month where the estimated cash balance isnegative.

QuestionB

Cost-Volume-ProfitAnalysis Problem

The Salazar Corporation manufactures only oneproduct %u2013 a medium-size, high-quality paper shredder calledthe MS-100. In an effort to better understand cost behavior,Salazar%u2019s accounting department has identified its costs aseither variable or fixed.

Salazar%u2019s Management wants to performCost-Volume-Profit (CVP) analysis to evaluate three differentscenarios it is considering for the year 2012. Under the currentproduction process (Scenario 1), variable costs are $ 90 per unitand fixed costs are $ 420,000 per year. The sales price for theMS-100 is $150 per unit and the number of units to be sold in 2012is 20,000 units.

Scenarios

Leave the current production process as it is- make no changes.

Purchase machinery that will decreasevariable costs by $ 30 per unit will but increase yearly fixedcosts by $ 390,000

Purchase machinery that will decreasevariable costs by $ 15 per unit but will increase yearly fixedcosts by $ 255,000.

Requirements:

a) Calculate thecontribution margin per unit and the contribution margin ratio foreach of the three scenarios. Show your calculations.

b) Calculate the breakevenpoint in units and dollars - only for ScenarioI, the current production process. Show yourcalculations.

c) Prepare a contributionmargin income statement for each of the threescenarios.

d) Which of the three scenariosprovides the highest net income for the Salazar Company?

Salazar%u2019s management subsequently makes adecision that the company must make

$ 918,000 of after-tax net income in 2012,otherwise certain investors might decide to sell their ownershipinterest.

e) Calculate the salesthat Salazar must make in order to produce an after-tax net incomeof $ 918,000 (both in total sales dollars and in total salesunits). This calculation should be based on thescenario in d) that provides that highest net income.Salazar%u2019s income tax rate is 20%. Show your calculations.

f) Prepare aforecasted contribution margin income statement that shows theresults for the sales level computed in part e) above.

orangeseal910

Please help me make 2 additional alternative courses of action, kindly state at least one advantage and one disadvantage of each alternative.

Example; Analyn can fully improve the pricing system by introducing cost-based pricing where the price includes the cost of ingredients and cost of operating the business.

Thereby:

â¢ include a profit percentage with product cost

â¢ add a percentage to an unknown product cost

â¢ blend of total profit and product cos

I. SYNTHESIS

Refreshing beverages such as fruit shake and smoothies have become the quickest way to beat the heat, especially during dry season. Over the last two years, Pearly Shake has become known as a quench thirst for people living near Galas Market. Acclaimed to be the only flavored shake business located in the area with its affordable beverages ranging from â±25.00 for the regular size shake and â±30.00 pesos for large size shake with a topping of your choice. According to Ms. Analyn Lim, owner of Pearly Shake, her business makes â± 15,000 to â±17,000 average sales per day. Pearly Shake offers variety of flavors (in powdered form) such as bubblegum, double-dutch, strawberry, vanilla, chocolate and ube.

As what the owner have said âa micro-scale business do not require much investment, an entrepreneur can start his own business with a small capital. Nowadays, customers have high tend to consumption product of milk and sugar but they have few choices to choose from so I set-up Pearly Shake try to create the demand for my customersâ.

In addition, Analyn Cheng employs three personnel for her business. She pays them â± 250.00 per day inclusive of free breakfast, lunch, and dinner. The establishment is open from 10:00 am to 7:00 pm, Monday to Sunday. Ms. Cheng usually travels from Galas Quezon City to Divisoria, once a month to buy powdered shake flavors, straws, plastic cups, sugar, cream, whole milk.

II. OBJECTIVES

â¢ To create a strong product awareness.

â¢ To achieve an increasing number of loyal consumers.

â¢ To maintain a positive, strong growth of the micro-enterprise each year.

III. POINT OF VIEW

This final paper will take the point of view of Pearly Shakeâs owner, Analyn Cheng.

IV. STATEMENT OF THE PROBLEM

This paperâs approach emphasizes the importance of CVP analysis and how it ties directly into planning and control processes management must take in order to manage a successful business.

This paper seek to answer the question: How can Ms. Cheng fully improve the its pricing system?

V. GUIDE QUESTIONS

QUESTION: Using the below information, determine the number of shakes that will need to sell to break even.

DIRECT MATERIAL INGREDIENTS	Small (8 oz. size)	Large (12.oz size)
Condensed Milk (â± 41. 50 for 300 mL)	20mL or 0.676 fluid ounce	30 mL or 1.017 fluid oz
Sugar (â±500.00 for 15 lb bag = 30 cups)	1/2 cup of sugar	3/4 cup of sugar
Flavorings	.25 per shake	.40 per shake
Specialty Straws	.75 straw	.75 straw
Cups (100 8 oz. cups at a cost of â±150.00)
Cups (100 12oz. cups at a cost of â±185.00)



Fixed cost:
Rent : â±5,000 a month
Cleaning and other miscellaneous supplies	â±2,000 a month
Equipment: Industrial Milk Shake Maker:	â±2,500 per machine X 3 machine = â± 7,500
Equipment: Refrigerator : â±4,500
Licenses and permits: â±1,050 a year
Owner's salary: â±180,000 a year

Employees
Three full-time employees: each receiving a daily salary of â±250.00 Sales Mix: Large 60% , 40% small sized shake

Computation of Variable Cost per Unit :

	Small	Large
Condensed Milk	2.77	4.15
Sugar	8.33	12.50
Flavorings	0.25	0.40
Speciality Straws	0.75	0.75
Cup	1.50	1.85
Direct Material Cost per Shake	13.60	19.65

Contribution Margin per Unit :

Selling Price per Shake	25	30
Variable cost per Shake	13.60	19.65
Contribution Margin per unit	11.40	10.35

Total Fixed Cost per year :

Employee Salary ( 250 x 3 x 365 )	273,750
Owners Salary	180,000
Licenses and Permits	1,050
Rent	60,000
Cleaning and other supplies	24,000
Depreciation ( 7,500 + 4,500)	12,000
Total Fixed Cost per Year	550,800

At break-even point, Total Contribution Margin = Total Fixed Cost

Let the break-even quantity be Q.

Since the sales mix is 60 % large and 40 % small, the equation can be expressed as,

11.40 x 0.4 Q + 10.35 x 0.6 Q = 550,800

or 4.56 Q + 6.21 Q = 550,800

or 10.77 Q = 550,800 or

Q = 51,142 shakes.

Small shakes: 51,142 x 40% = 20,456.8

Large shakes: 51,142 x 60% = 30,685.2

In value terms, break-even point :

Small shakes : 20,456.8 x 25 = 511,420

Large shakes : 30,685.2 x 30 = 920,556

Total break-even sales = â± 1,431,976

CONCEPTUAL FRAMEWORK AND AREAS OF CONSIDERATION:

The researcher will be using SWOT analysis in assessing the businessâs status.

SWOT

PEARLY SHAKE

STRENGTHS

Strong existing distribution channel

Brand strengths and uniqueness

WEAKNESSES

Unavailability of some flavorings.

Lack of segregation of duties with regards to the different functions of the business.

OPPORTUNITIES

Brand is attractive to consumers

The location of the business is in a crowdy place.

THREATS

Downward Price Pressure

Brand susceptibility

In this study, there are factors which influenced the earning of profit is the level of production (i.e., volume of output). Cost-volume-profit (CVP) analysis examines the relationship of costs and profit to the volume of business to maximize profits. There may be a change in the level of production due to many reasons, such as competition, introduction of a new product, trade depression or boom, increased demand for the product, scarce resources, change in selling prices of products, etc. In such cases management must study the effect on profit on account of the changing levels of production. A number of techniques can be used as an aid to management in this respect.

One such technique is the cost-volume-profit analysis. The term cost volume profit analysis is interpreted in the narrower as well as broader sense. Used in its narrower sense, it is concerned with finding out the âcrisis pointâ, (i.e., break-even point) i.e., level of activity when the total cost equals total sales value. In other words, it helps in locating the level of output which evenly breaks the costs and revenues. Used in its broader sense, it means that system of analysis which determines profit, cost and sales value at different levels of output. The cost-volume-profit analysis establishes the relationship of cost, volume and profits.

ALTERNATIVE COURSES OF ACTION

To properly cite the correct pricing strategies of the business, Analyn will be addressing a lot of problem of that she is facing. To help her address these issues, the researcher has come with the following alternative courses of actions:

Alternative Courses of Action 1: Analyn can fully improve the pricing system by introducing cost-based pricing where the price includes the cost of ingredients and cost of operating the business.

Thereby:

â¢ include a profit percentage with product cost

â¢ add a percentage to an unknown product cost

â¢ blend of total profit and product cost

AFM241 Study Guide - Final Guide: Sensitivity Analysis, Capital Budgeting, Cash Flow

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