Cost Analysis and Proposal Evaluation

Answer 1:
Cost Analysis of the given proposals
Particulars Last Year Data Proposal 1: Proposal 2: Proposal 3:
Sales (units) 12,000 15,600 10560 0-2500 2500-14000
Selling Price $460.00 $460.00 $520.00 $460.00 $460.00
Variable Costs
Manufacturing $184.00 $220.00 $184.00 $184.00 $184.00
Selling and Administrative $36.00 $36.00 $36.00 $76.00 $36.00
Total Variable Costs $220.00 $256.00 $220.00 $260.00 $220.00
Contribution per Unit $240.00 $204.00 $300.00 $200.00 $240.00
Total Contribution $2,880,000.00 $3,182,400.00 $3,168,000.00 $3,260,000.00
Fixed Costs
Manufacturing $360,000.00 $360,000.00 $360,000.00 $360,000.00
Selling and Administrative $600,000.00 $660,000.00 $720,000.00 $650,000.00
Total Fixed Costs $960,000.00 $1,020,000.00 $1,080,000.00 $1,010,000.00
Profit before interest and
Taxes $1,920,000.00 $2,162,400.00 $2,088,000.00 $2,250,000.00
Break even point (Units) 4000 5000 3600 4337
Break even point (Value) $1,840,000.00 $2,300,000.00 $1,872,000.00 $1,995,214.72
Margin of Safety (Units) 8,000 10,600 6,960 9,663
Margin of Safety (Value) $3,680,000.00 $4,876,000.00 $3,619,200.00 $4,444,980.00
Note: $40 Subsidy in proposal 3 has been taken as a part of selling and administrative costs, for the first 2500 smart phones
sold.

Individual Analysis of all the proposals:
(a) Where on the quantitative front the proposal of Mr. David doesn’t look that beneficial from the profitability perspective
further calculations clearly state the highest margin of safety, reflecting the same as a healthy proposal for the goodwill
of the product estimated to increase the sales dramatically by a whooping 30%. The decision of upgrading product
quality could also impact the business in different ways wiz. :
i. Build trust within the customers
ii. Fuel word of mouth and social media recommendation
iii. Increase market share
iv. Reduce the damage caused due to consumer returns and complaints
v. Boost product profitability, as a better quality product is desired even if it is priced higher than it’s lower quality
counterparts.
Since the business executives (i.e. the target customers) are frequent foreign travellers the product quality becomes
even more important to influence their decision favoring inclination towards our product as is expressed by way of an
estimated increase.
However, the fact that the impact of an overall increase in the manufacturing costs could affect the profitability
adversely in case the sales are anywhere less than 14,412 units, below which the overall profits of the company see a
decreasing trend as compared to the previous year’s profits.
(b) As shown above the proposal of Sales manager, Kristen Arnold has a lower BEP than the other two proposals that keeps
the company in a more favorable position even if the company operates at lower level of activity due to unforeseeable
circumstances; enabling the Company achieve similar profits even at a sales level of 10,000 smart phones i.e. 16.67%
below the previous year’s sales making the product more resistive to negative market trends or any other unfavorable
circumstances the contingency of which can not be ignored.
As reflected by the market research of Kristen the product is both unique and less known that creates a best
combination to adopt skimming strategy, where the Company could make more profits within the early years of it’s
product’s uniqueness and before the emergence of substitutes and competitors; on emergence of which the company
could drop prices to attract customers with cheaper deals.
Where, as per the research done by Kristen an estimated decrease of 12% with a $60 increase in selling price is
proposed this proposal might fetch better results in the coming years since the Company would now be dealing with a
more aware and expanded customer base, ready to accept the prices at a 13.04% high than the current market price.
Where the product is made more resistive with this strategy the fact that any favorable fluctuation in the sales
estimates would increase the profitability manifold.

(c) Irrespective of the qualitative nature of this proposal; the estimated valuations shown above suggest that there would
be a 17.19% growth in the product profitability, even after minimal increase in fixed and other costs; that being the
prime requirement of the board. The promotional campaign along with minor increment in advertising is estimated to
increase the product demand by 16.67% i.e. 2000 units. Practically discounting is known to boost sales and makes
sense when you are in a slump attracting customers and higher sales seems quite an option to encourage newer
customers to buy your products. Where on one hand this looks like quite a strategy to achieve increased profitability
this might come with it’s own adverse effects;
 This might make people think that the Company in itself is not confident about it’s product and the actual
price it can fetch.
 The company cam substantially deviate from it’s target customers attracting customers with minimal or
no usage of our offered features and applications, resulting in a negative publicity of the product.
 Once the customer is offered products at a reduced rate via discounts or rebates he might not purchase
the product without it or hold out until we come up with another similar or better offer, practically
damaging our prospective customers and future revenues even if we successfully achieve the 2000 units
increment in this financial year; thus giving a bad precedent.
 Whether the prices are dropped in the introduction stage or any other stage, people start perceiving a
lower value for the product that can again damage the product reputation.