• 1 - Revenue

– Single Product R = P x Q – Multi Product R =  PiQi

Financial Properties

• 2 – Cost

– VC vs. AFC – AVC vs. AFC – MC vs. Incremental Cost – Sunk Cost – Programmed Cost – Avoidable Cost – Fungible Cost – Opportunity Cost – Relevant Cost – Joint Cost – Accounting Alocation

• 3 – Margins

• Gross • Trade • Net Profit – A: Gross Margin (Profit) Total GM = R – CGS Unit GM = P – Unit CGS • Four Factors – Q – P – Cost – Product Mix – B: Trade Margin Mfgr  Wholesaler  Retailier For a Single Channel: Pm = P x (1-%Discount) Ex: Pc = $2.00

% Discount = 0.03

$1.40 = 2.00 x 0.70

Also Pc = Cost/(1-%Discount) For N Channels Pc = Cost/(1-%Discount) Cost = Pc(1-%Discount)

– C: Net Profit Margins (before taxes)

• 4 – Contribution Analysis

BEQ = FC / (P-AVC) R -CGS_______ % CM = (P-AVC) / P GPM BER = _FC = BEQ x P -Other VC % CM -FC_________ Net Profit Margin (NPM) • Note % of NPM = NPM R BER = P x BEQ = P x FC / (P-AVC) Divide by P  P x [FC / P – AVC]=FC P P %CM

ILLUSTRATION Channel

Manufacturer Wholesaler Retailer Consumer

Unit CGS

2.00

2.88

3.60

6.00

Calc. of Prices and Margins

Price to Consumer Retailer Margin Wholesale Price Wholesale Margin Manufacturer Price Manufacturer Margin Manufacturing Cost

GM

0.88

0.72

2.40

GM%

.306(.88/2.88) .200(.72/3.60) .400(2.40/6.00)

Make-UP%

.44(.88/2.00) .25(.72/2.88) .67(2.40/3.60) $6.00

x 0.40

2.40

3.60

x 0.20

0.72

2.88

x 0.306

0.881

$2.00

SP = CGS x Product of Mark-Ups

= 2.00 x (1.44 x 1.25 x 1.67) = $6.00

CGS = SP/Product of Mark-Ups

= 6.00 / 3.00 = $2.00

Alternatively, SP = Cost / Product (1-%D)

= 2.00 / (1-.4)(1-.2)(1-.306) = $6.00

Cost = SP x Product (1-%D)

= 6.00 x (1-.4)(1-.2)(1-.306) = $2.00

• (1) (2) Applications Sensitivity Analysis: Vary P or AVC or FC to determine BEQ Calculate Q to achieve Profit Objective (  ) Qp = FC + P P – AVC Suppose objective is to achieve a profit of X% on sales R – C = %  R PQ-AVC(Q)-FC = %  PQ Q (P-AVC) – FC = %  PQ Example: P=$25; AVC=$10; FC=$200,000; %  = .20

Q(25-10) – 200,000 = .20

25Q Q = 20,000

• 5 – Cannibalization

Assume: • X X+ P 1.00 1.10

AVC .20

.40

CM .80 .70

• Qx = 1,000,000 if X+ is not introduced; = 5,000,000 if X+ is introduced Qx+ = 1,000,000 if X+ is introduced • Assume no incremental FC

Query: Should X+ be introduced?

Solution: Method A X+Gain 1,000,000x.70 = 700,000 Cannibalization Loss 500,000 x .81 = 400,000 300,000 Method B Contr: w/o X+1,000,000x.80= 800,000 Contribution with X and X+: X 500,000 x .80 = 400,000 X+ 1,000,000 x .70 = 700,000 Total Contr. Of X + X + = 1,100,000 Contr of X alone = 800,000 Net Gain from Add. of X+ = 300,000 • • • •

• 6 – Financial Concepts and Ratios

– A –Liquidity

Working Capital

= Current Assets – Current Liabilities

Current Assets

= Cash, Accounts Receivable, Inventory, Prepaid Expenses

Current Liabilities

= Accounts Payable, Income Taxes

Operating Leverage

= FC/VC

Current Ratio =

Assets Liabilities

Quick Ratio

=Assets-Inventory Liabilities

• •

–

Asset Management

Inventory Turnover

= Sales / Inventory

Asset Utilization

= Sales / Total Assets • • •

–

Profitability Ratios

Profit Margin in Sales

= Profitability Before Taxes / Sales

Return on Assets

= Profitability Before Taxes / Total Assets

Return on Investment

= Net Income / Investment • (Investment = Total Assets) Net Sales X Net Income Investment Net Sales

ROI

= f (Stockturn, ratio of CGS to Net Sales)

•

Net Present Value Illustration

Assumptions Cost of Capital Sales from New Product New Equipment Useful Life of Equipment Depreciation Salvage Value Cost of Goods and Expenses Tax Rate

Calculating Net Cash Flows

10% $1,000,000/yr $700,000 10 yrs 10% / yr $100,000 $700,000 50%

GI = Sales – CGS

= 1,000,000 – 700,000 = 300,000

Taxable Income = GI – Depreciation

= 300,000-60,000 [(700,000 – 100,000) x .10] = 240,000

Net Income = Taxable Income – Tax

= 240,000 – 120,000 (240,000 x .5) = 120,000

Net Cash Flow = Net Income + Depreciation

= 120,000 + 60,000 = 180,000

Year

1 2 3 4 5 6 7 8 9 10

Net Cash Flow

$180,000 $180,000 $180,000 $180,000 $180,000 $180,000 $180,000 $180,000 $180,000 $280,000

10% Discount Factor

0.9091

0.8264

0.7513

0.683

0.6209

0.5645

0.5132

0.4665

0.4241

0.3855

PV

$163,638 $148,752 $135,234 $122,940 $111,762 $101,610 $92,376 $83,970 $76,338 $107,940 $1,144,560