Using the Cigar Box®

CB1: Profit calculations made easy

by Olivier van Lieshout Global Facts www.globalfacts.nl

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Contents

1.

2.

The five profit parameters Using CB1 2

Part 1

The five profit parameters

Learning objectives: 1.

There are only five basic parameters.

2.

3.

But these have many components.

Know the difference between variable and fixed costs.

3

Profit parameters

There are

ONLY FIVE

parameters  P Price (per unit)  VC  q   FC T Variable cost (per unit) Quantity (in units per period) Fixed cost (per period) Tax % of profit (per period)

Note: q, FC, T must always refer to the same period.

But…

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Profit parameters: Price

There are

ONLY FIVE

parameters, but…

Price

with many components!

DDP Delivered, duties paid DDU Delivered, duties unpaid CIF Cost, Insurance, Freight C&F Cost and Freight DAF Delivered at Frontier FOB Free on Board

EXW

Ex Works 20 18 18 17 14 12 10 5

Profit parameters: VC & FC

There are

ONLY FIVE

parameters but with many components!

VC FC

VC1 Cost of raw material & ingredients, delivered factory VC2 Cost of processing inputs into output: utilities, labor VC3 Cost of packaging materials FC1 Depreciation of fixed assets FC2 Interests paid FC3 Overhead (salaries, repair, transport, marketing…)

Where to obtain correct data ?

6

Profit parameters: quantity

There are

ONLY FIVE

parameters but with many components!

 

q

= actual quantity sold per period q CAP = quantity at full capacity utilization quantity/hour * hours/day * days/year (harvest season) 3 ton/hour * 22 hours/day * 90 days/yr = 5940 ton/year  q BE = break-even quantity, where profit = 0 7

Recognize costs - exercise

Are the following Variable or Fixed costs?

1.

2.

3.

4.

5.

6.

7.

8.

Ingredients Road tax Labels Bank charges Machine repair Raw material transport Depreciation Social tax 9.

10.

Diesel for the boiler Electricity in the factory 11.

Electricity in the office 12.

Casual labor 13.

Management salary 14.

Detergents and gloves 15.

Interest on loans 16.

Carton boxes 8

Profit parameters (repetition)

There are

ONLY FIVE

parameters  P Price (per unit)  VC  q   FC Tax Variable cost (per unit) Quantity (in units per period) Fixed cost (per period) Tax % of profit (per period)

Not more!

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Part 2

Using CB1

Learning objectives: to be able to 1.

2.

3.

fill in the Cigar Box with five parameters; analyze the results; see the importance of capacity utilization.

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CIGAR BOX 1 - Tomato paste 25 Brix, aseptic bags of 220 kg in steel drums USD per ton

1,000 Price (DDP Moscow) Import duties, 10% Transport, sales commission 3%

Price (EXW) P

100 144

756

Total Revenue Total Cost

Profit Before Tax

Profitability %

profit USD per year

2,721,600 2,554,377 6% Price (Raw Material, delivered factory) Processing ratio Raw Material cost Other ingredients

VC1 VC

Production cost per hour (steam, electricity) Production volume per hour (ton/hour)

VC2

71 6.0

429

441

70% 2% 72%

124 2

10%

Asset value Depreciation %

FC1

Debt (40% of Asset value) Interest rate

FC2 FC

Cost of packing (aseptic bag, drum) Number of drums per ton

VC3

21.8

4.5

16%

Number of FTE employed Salaries staff incl. social taxes Other overhead, repairs, maintenance

FC3

FG losses %

VC Gross margin

Gross margin %

P-VC

2.0%

614

100%

142

19%

Variable cost Fixed Cost / q profit per 614

87% 13%

FC

FC % attributed to product

FC (attributed to product)

Volume sold q (ton)

Contribution q contribution

1,800,000 7.8%

41%

18.7%

39% 15% 6% 20%

100.0%

100%

Capacity Utilization

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Sales price P

      Sales Price = Amount per unit, INCO-term City. Tomato paste price = USD 1000 per ton, DDP Moscow. DDP = delivered, duties paid. Delivered to Moscow in this case.

The import duties in Russia are 10% or USD 100 per ton. Transport and commission amount to USD 144 per ton. Hence the Price EXW = 1000-100-144 = USD 756 per ton.

Price (DDP Moscow) Import duties, 10% Transport, sales commission 3%

Price (EXW) USD per ton

100% 10% 14% 76%

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Variable cost VC

Three types of variable cost: 

VC1

, cost of everything which is

consumed

: raw material and ingredients.



VC2

, cost of

processing

raw material into the finished product: energy, steam, casual labor, detergents, diesel, gas.



VC3

, cost of primary (jar, cap, label) and secondary (carton box, shrink wrap, pallet)

packing

material.

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Raw material & ingredients VC1

      The

price of the raw material

, delivered to the factory = 71/ton.

The

processing ratio

is the quantity of raw material needed for one unit of finished good. Here: 6 kg tomato for 1 kg of paste.

Raw material cost = 71 * 6 = 429 The higher the losses, the higher the processing ratio, the more costly the good.

Calculate the cost of all other

ingredients

in the recipe: 12

VC1

= 429 + 12 = 441. Price (Raw Material, delivered factory) Processing ratio (kg RM for 1 kg FG) Raw Material cost Other ingredients

VC1

71 6.0

12

70% 2% 72%

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Processing cost VC2

         Calculating VC2 is not easy.

Processing cost are calculated

per hour.

And divided by the production volume in

units per hour

.

To arrive at the processing

cost per unit

.

One must

measure

the use of steam, electricity, casual labor.

Not just guess it!

And

measure

the output per hour.

Not just guess it!

Get the correct data!

After that, calculation is easy: 124 / 2 = 62 Production cost per hour (steam, electricity) Production volume per hour (ton/hour)

VC2

124 2

62

10%

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Packing cost VC3

    Packing cost are calculated

per sales unit

:  1 aseptic bag in 1 steel drum = 3.2 + 18.6 = 21.8; Other examples of sales units:   24 bottles per carton = 24*(bottle + cap + label) + 1 box + 1 sticker; 10 sachets per bag = 10*sachet + 1 bag + 1 adhesive sticker Calculate the

number of sales units per unit of calculation

:    unit of calculation is ton = 1000 kg 4.4 drums of 225 kg per ton: 1000 / 225 = 4.4

add the packing losses, say 2.2%, multiply 4.4 by 102.2% = 4.5

VC3

= cost of packing * number of packs per unit = 21.8 * 4.5 = 99 Cost of packing (aseptic bag, drum) Number of drums per ton

VC3

21.8

4.5

16%

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Total variable cost VC

    VC = VC1 + VC2 + VC3 Finished good losses  Warehouse losses, theft, pilferage, etc….

 If there are 2% losses, enter 2% in FG losses % box.

VC = (VC1 + VC2 + VC3) * (1+ FG losses %) VC = (441 + 62 + 99) * 1.02 = 614 VC1 - Raw material & Ingredients VC2 - Processing cost VC3 - Primary & secondary packaging FG losses %

VC 441 62

72% 10% 16%

2.0%

614

100%

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Margin P –VC

  Margin, or gross margin, is expressed

per unit

: Margin = P(EXW) – VC = 756 – 614 = 142

Price (EXW) VC Gross margin

Gross margin % 19% 18

Margin % (P –VC) / P * 100%

   Margin % = Margin / P(EXW) * 100% = 142 / 756 = 19% Margin % helps us to evaluate, if a margin is

risky

or not. Usual risk levels in food processing and manufacturing are:

Margin % Level <15% 15-25% 25-35%

35-45% 45-70% >70%

Very risky Risky Normal

Robust Very robust Unlikely

Comment Only acceptable when the production process parameters and all prices are fully under control. Only acceptable if production and price fluctuations are within 5-10% range.

Check your calculations again! 19

Contribution (P –VC) * q

    The volume, or quantity sold is expressed in

units per period

.

In this example, 3600 ton of tomato based are sold.

Contribution is expressed

per period

: Contribution = Margin per unit * quantity per period = = 142 * 3600 = 511,623

Gross margin

Gross margin %

142

19% Volume sold q (ton)

Contribution

3,600

511,623

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Fixed costs

Three types of fixed cost: 

FC1

, cost of investments:

depreciation

.



FC2

, cost of debts:

interest

.



FC3

, cost of all

overheads

.

 Salaries, social taxes, pensions, etc..

 Repairs, maintenance  Office & transport cost   Marketing Etc…..

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Depreciation FC1

      Use a

realistic

value for the productive assets.

For a tomato processing company this is about 1.8 million.

Use a

realistic

depreciation rate.

Here: the replacement period of the factory is 12.8 years.

The depreciation = 1 / 12.8 * 100% = 7.8%

FC1

= Asset value * depreciation % = 1,800,000 * 7.8% = 140,000 Asset value Depreciation %

FC1

1,800,000 7.8%

140,000

41%

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Interest FC2

      Use the real amount of the debts, with a minimum of 40% of the asset value.

For this company this is about 720,000 Use a

realistic

interest rate.

Here: 18.7% per year.

FC2

= Debt value * interest rate = 720,000 * 18.7% = 134,400 Debt (40% of Asset value) Interest rate

FC2

720,000 18.7%

134,400

39%

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Overhead FC3

    Enter the number of full-time equivalent staff (FTE)  10 workers, working 6 months per year = 10 * 6/12 = 5 FTE  10 workers, working 4 months per year = 10 * 4/12 = 3.3 FTE Calculate their

salaries

, incl. all taxes and emoluments: 50,000 Calculate one lump sum amount for

all other

overheads: 20,000

FC3

= salaries + all other overhead = 50,000 + 20,000 = 70,000 Number of FTE employed Salaries staff incl. social taxes Other overhead, repairs, maintenance

FC3

15 50,000 20,000

70,000

15% 6% 20%

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Total fixed costs FC

      FC = FC1 + FC2 + FC3 FC = 140,000 + 134,400 + 70,000 = 344,400 The contribution of tomato paste

must exceed

these costs.

In case

more than 1 product

is produced, FC must be shared.

Calculate FC % attributed to product and enter in the box: 100% FC (attributed to product) = FC * FC % attributed to product FC1 - depreciation FC2 - interest FC3 - overhead

FC

FC % attributed to product

FC (attributed to product) 140,000 134,400 70,000

41% 39% 20%

344,400

100.0%

344,400

100%

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Profit Two methods

   Cost accounting method: Profit = Contribution – Fixed costs Bookkeeping method: Profit = Total revenues – Total costs Result is the same!

USD per year

511,623 344,400

167,223 USD per year

2,721,600 2,554,377

167,223

6% 26

Summary Cost price

 Cost price = total cost per unit

Variable Cost per unit (VC) Fixed Cost per unit (FC/q) Total Cost per unit (VC+FC/q) Price (EXW) Profit per unit (P-VC-FC/q)

87%

96

13% 100%

46

6%

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Break-even

  Break-even point is where the profit is zero.

Revenues – Cost = 0 or Contribution – Fixed cost = 0 Why calculating the break-even quantity?

   When Price, VC and FC are

known

and q is

unknown

 How many drums can be sold per year?

BE volume (sales) =

minimum volume

needed to sell to make a profit.

BE volume (raw material) =

minimum volume

needed to process.

 How much raw material do we need to buy?

Break even volume (sales)

Break even volume (raw material)

2,423

21,600 28

Capacity

   q = quantity sold = 3,600 tons of paste per year q CAP = quantity produced at full capacity utilization quantity/hour * hours/day * days/year (harvest season) 2 ton/hour * 22 hours/day * 110 days/yr = 4,840 ton/year utilization = q / q CAP * 100% = 3,600 / 4,840 = 74.4% Volume sold q (ton) Output capacity per hour in ton Working hours per day Length of harvesting season in days

Max. output capacity per year

Capacity utilization % 3,600 2.0

22 110

4,840

74.4% 29

Capacity utilization

  How does capacity utilization affect the Cost Price?  the higher the utilization %, the higher the q (sales).   the higher the q, the lower the FC/q, VC does not change, hence the lower the cost price.

    How does capacity utilization affect the Profit?  the higher the capacity utilization, the more the units sold

and

the lower the cost price, thus the higher the profit per unit.

Profit = profit per unit * units sold At 74% utilization: = 46.5 * 3600 = 167,400 At 91% utilization: = 63.8 * 4400 (+22%) = 280,920 (+67%) Conclusion: with 22% increase in sales volume, the profit increases by 67%!!

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Let’s practice!

Each person with own laptop.

Sample Cigar Boxes can be downloaded from www.globalfacts.nl

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