CVP Analysis in time warp 2

CVP Analysis in time warp 2

In time warp 2 the CVP analysis will play an important role in helping me to decide issues such as to discontinue products, set pricing as well as to be able top make decisions on R&D allocations for all the products in one sitting as opposed to waiting for the end of the year to make decisions for the following year (Nagle & Holden, 2001).

In order to carry out an effective CVP analysis of my strategy for time warp 1, it would be essential to determine the exact ratios of profits and volume sales for each product achieved each year throughout the five years, assuming that my initial target for the 4 years was 1,873,011,484. This will then enable me to determine the target profits as well as how they should be allocated each year in order to achieve the overall 2,100,000,000 after the 4 years. The X7 after a CVP anal;ysis and the realization that at the current sales rate only a further increase in price will result in profitability, will remain discontinued. This is due to the fact that achieving the fixed costs and breaking even will require a much higher price than the current $190, which is already well above the market average for similar products (Jensen, 2004).

Ratios of profit allocations and targets

For the first year (2012) the ratio for profit allocation was therefore 56% for the X6 and 44% for the X5, the second year the profits were 32.6% for the X5 and 67.4% for the X6, in 2014 the ratios for the profits were 23% and 77% for the X5 and X6 respectively. In the final year, the profits were 35% for the X5 and 65% for the X6.

It is also necessary to determine how the profits are going to be spread out over the years in order to determine the yearly profit targets that will result in a cumulative 0f 2,100,000,000.

Seeing as the profit in 2011 had already been realized by the time I started my strategy it will be deducted from the cumulative 1873011484, leaving 1,791,440,346, spread out in the form of 14% for 2012, 27.4% for 2013, 37.2% for 2014 and 21.4%.

Using these ratios on the new figure of 2,100,000, would mean that the target profits for the years are:

2,100,000,000 -81,571,138 = 2,018,428,862

This is then divided into a target of 282,580,040 for the first year (2012), 553,049,508 for 2013, 750,855,536 for 2014 and 431,943,776 for 2015.

This can further be divided into targets for the X5 and X6 as follows for the 4 years

2012 – 158,244,823 for the X6 and 124,335,218 for the X5

2013 – 372,755,368 for the X6 and 180294,140 for the X5

2014 – 578,158,763 for the X6 and 172,696,773 for the X5

2015 – 280,763,454 for the X6 and 151,180,322 for the X5

In order to achieve the new targets above, I must engage in smart pricing strategies as well as reduce costs if and when necessary. Using the CVP Calculator and the volume sales assumed to be similar to those achieved during my first time warp the new parameters will be set as follows:

The X5

2012

The fixed costs for the product using my strategy in time warp one were 75,000,000 plus the R&D costs which were set at 9,600,000 = 84,600,000, while the variable costs were 185,691,618, translating to a variable cost of $143, assuming the sales volume for the X5 for 2012 is similar at 1301944

The ideal pricing according to the CVP calculator is $303.5 per unit

The contribution margin for 2012 would therefore be

Contribution Margin per Unit = Selling Price per Unit – Variable Cost per Unit

The Contribution Margin per unit is therefore = 303-143 = $160

In order to break even the number of units that must be sold = 84,600,000/160 = 528,750

This therefore essentially means that for the X5 to maintain profitability it must maintain sales of more than 528,750 units for 2012.

Seeing as by 2011 the number of units sold per year had already exceeded the required target of 528,750 units (968,980) under Joe Schmoe, using the pricing strategy of the CVP might achieve the required target profits for the X5 for 2012 would still have realized profits. This is based on the evidence that in time warp 1 increasing the price of the X5 from $285 to 300 did not affect sales. As such therefore the approach I took in Time warp 1 to increase the price was a wise one. I would therefore make the decision to increase the price to $303 based on a CVP analysis for year 2012. The R&D costs for the X5 will be 40% and the price will be $303

2013

For 2013, the fixed costs remain the same at 84,600,000, with the variable cost being 245,070,129, which translates to a variable cost per unit of $150. Assuming the sales volume is the same as the one realized in time warp 1, the ideal pricing is $312 per unit. The new figures for 2013 are therefore R&D costs of 40% and a pricing of $312, this is slightly higher than the figure of $300 set for 2013 in time warp 1.

The per unit contribution margin using the new price will be:

$312-$150 = $162

The number of units that have to be sold in 2013 to reach the break even point is therefore 84,600,000/162 = 522,222

2014

For 2014, the fixed costs are still the same at 84,600,000, with the variable costs set to rise further to 238,488,160, translating to a variable per unit cost of still $150. Seeing as the target profit for the X5 in 2014 this year 172,696,773, the ideal unit selling according to CVP calculations is $311.8, quite close to the price of 312 employed the previous year. The values for 2014 for the X5 as suggested by the CVP analysis are R&D costs of 40% and a price of $312.

The contribution margin per unit will therefore be:

312-150 = $162

The break even point in terms of sales volume is therefore 84,600,000/162 = 522,222

2015

For 2015, the fixed costs remain constant but the variable costs continue to rise to 247,391,910, which translates to a variable cost per unit of 150 if the sales are as projected 1,649,279 for 2015. In order to achieve target profits of 151,180,322, the ideal price according to the CVP analysis is 292.93, rounded of to $293, with the R&D costs still at 40%. This is slightly higher than the price set for 2015 in time warp 1 of $285.

The per unit contribution margin will therefore be 293-150 = 143

This means that the break even point in terms of sales will be 84,600,000/143 = 591,608 X5 units.

The X6

2012

For the X6 fixed costs for the year 2012 were projected to be 51,900,000, while the variable costs with a sales volume of 936230 were 257,463,477. The Variable cost per unit, would therefore be $275. According to the CVP analysis, the ideal price in order to achieve the target profits of 158,244,823, would be $499.5 which can be rounded off to $499 in order to give the potential customers an illusion that it is cheaper.

This will therefore mean that the Contribution margin per unit is

$499-$275 = $224

In order to break even, the number of X6 units that have to be sold will be

51900000/224 = 231,696 X6 units for 2012

This is a figure the units sold in 2011 had already surpassed suggesting that the X6 would remain profitable considering that sales were actually in the growth phase in 2012.

2013

For 2013, the fixed costs remain the same, with the per unit variable cost remaining at $275 with the projected sales of 1868500 units. In order to achieve the target profit of 372,755,368, with the figures described the ideal price according to the CVP analysis is $502. The new figures for the X6 for 2013 will therefore be a price of $502 and R&D costs of 60%.

The per unit contribution margin in this case will therefore be $502-$275=$227

This therefore means that in order to break even the number of units that will have to be sold will be 51,900,000/227 = 228634 X6 units for 2013. The price will therefore be adjusted to $502 for 2013.

2014

For 2014, the fixed costs still remain at 51,900,000 and the per unit variable cost also remains at $275. With a projected sales of 2748742 X6 units, in order to achieve the target profit of 578,158,763, the ideal price according to the CVP analysis will be $504.

This translates into a per unit contribution margin of $504-$275= $229

The number of units that must be sold: 51,900,000/229=226638 X6 units

In order for the X6 to remain profitable in 2014, it will therefore be necessary to sell at least 226,638 units (breakeven point). For 2014, the price will be adjusted further upwards to $504 with all the other figures remaining constant

2015

For 2015 the fixed costs will remain the same, with the per unit variable cost will actually remain at $275, with a projected sales of 1919198 units. The ideal price according to the CVP analysis in order to achieve the target profit of 2015 $527,779,541, will be $448, which will be rounded upwards to $449 to give it a more attractive price (Engelson, 1999).

The per unit contribution margin will therefore be $449 – $275 = $174

The number of units that must be sold= 51,900,000/174 = 298276

In order to meet the total fixed costs and break even, the firm will have to sell 298276 X6 units, which according to performances in time warp 1 should not be difficult to achieve.

Overall, the R&D costs do not really add significant costs when looked at in retrospect. The price is therefore the variable that will have to be continuously adjusted to realize the target profits set for Clipboard Tablet Company.

References

Engelson, M. (1999). Pricing Strategy: An Interdisciplinary Approach. Joint ManagementStrategy.

HYPERLINK “http://forio.com/simulate/jelson/tablet-development-sim-1/simulation/#p=page0” http://forio.com/simulate/jelson/tablet-development-sim-1/simulation/#p=page0

Jensen, M. (2004). Pricing Psychology Report. Jensen-Fann Publishers.

Nagle, T., & Holden, R. (2001). The Strategy and Tactics of Pricing: A Guide to ProfitableDecision Making. Prentice Hall.