Marketing Finance Independence` ` `` Finance ` Functions The purpose of financial accounting is to summarize financial activity of the business in the profit and loss statement, balance sheet and cash flow statement. Accounting records and bookkeeping are the basis of your business’s financial accounting. Financial accounting dictates the amounts you owe to suppliers, what customers owe you, operating costs, payroll costs and available cash. You can use financial accounting to analyze significant aspects of your business, such as monthly sales or the reasons for high expenses in one month. Sound financial records demonstrate financial controls and oversight that reduce the risk of fraud and theft, something that investors like to see. Financial accounting helps you formulate your future course of action or strategy and measure the success of this strategy with the financial information produced from another period. Marketing Functions Gathering and Analysing Market Information Marketing Planning Product Designing and Development Standardisation and Grading Packaging and Labelling Branding Customer Support Service Pricing of Products . Promotion Physical Distribution Transportation Storage or Warehousing Advertising Marketing Finance Interdependence The Key functions of a business are: Operations- involves organising the production of goods and services Employment Relations- responsible for organising the business's huma n resources - the people who work in the business. Marketing- the link between the business and its customers. Accounting and Finance - responsible for providing the financial resour ces necessary to run the business. The business functions are interdependent and work together to achieve the objectives of the business. Companies generate three types of costs including discretionary. Various costs fall into one of these three categories based on the cause and effect relationships involved. Revenue is provided from sales of merchandise by retailers. These three cost concepts are summarized in next slides. * Cause and effect relationship – A relationship in which one event makes another event happen. . engineered and committed costs.Conceptual Framework of Financial Performance Financial performance depends on revenue and cost. sales of products and sale of services. . . legal advice. and may also decrease product quality and increase employee turnover. Many activities are viewed as beneficial to an organization. Quality control. or when it wants to present enhanced short-term earnings in the financial statements. Employee training Equipment maintenance.Discretionary Cost A discretionary cost is a cost or capital expenditure that can be curtailed or even eliminated in the short term without having an immediate impact on the short-term profitability of a business. These costs are discretionary in the sense that management must choose the desired level of the activity based on intuition or experience . even though the benefits obtained or value added by performing these activities cannot be defined precisely . sales promotion. However. Research and development. or resources required to perform such activities are referred to as discretionary costs. discretionary costs are actually only discretionary in the short-term.The costs of the inputs. advertising. a prolonged period of reduction in discretionary costs gradually reduces the quality of a company's product pipeline. reduces awareness by customers. Building Maintenance etc. Thus. . not the long-term. Management may reduce discretionary costs when there are cash flow difficulties. Examples includes employee training. either before or after the activity is completed. increases machine downtime. 3. Managers will focus mostly on efficiency or productivity. . warehousing cost. E. When these cost is compared to actual cost . distribution cost.g. engineered cost are strictly proportional to the output volume.Engineered costs Engineered costs result from activities with reasonably well defined cause and effect relationships between inputs and outputs and costs and benefits. The optimal amount of input required to produce one unit of output can be established. In an engineered expense center. the difference between the two represents the efficiency of the organization unit being measured. Manufacturing ohs per unit etc. Engineers can specify precisely how many parts (inputs) are required to generate a specific output. Engineered cost are committed at the design stage of a product like direct material and direct labour. Once the design is final. Direct Material cost per unit. Engineered cost is basically a manufacturing cost. Characteristics of Engineered cost 1. the Quantity multiplied by the standard cost or each unit produced represents what the finished products have the cost. Outputs can be measured in physical terms. Direct labor per unit. 2. Inputs can be measured in Monetary terms. 000 in each of the next three years. a patent. Committed cost will continue even if an organization shuts down for a short time For example. There is usually a long-term legal agreement associated with a committed cost. copy rights. A committed cost is an investment that a business entity has already made and cannot recover by any means.000 and also issues a purchase order to pay for a maintenance contract for $2.Committed costs Committed costs refers to the costs associated with establishing and maintaining the readiness to conduct business. because the company has already bought the machine. it is much easier to negotiate the termination of an expense. You should be aware of which costs are committed costs when you are reviewing company expenditures for possible cutbacks or asset sales. The cost of facilities and top management. . all $46. and has a legal obligation to pay for the maintenance. Examples 1. as well as obligations already made that the business cannot get out of it.000 is a committed cost. 2. If not. It has been committed by Management The benefits obtained from these expenditures are represented by the company's infrastructure. since it is extremely difficult to terminate a lease agreement.These cost can not be eliminated without exposing an organization’s overall health and existence. the costs associated with the purchase of a franchise. A multi-year property lease agreement is also a committed cost for the full term of the lease. if a company buys a machine for $40. Marketers are under more and more pressure to “show a return” on their activities. The purpose of ROMI is to measure the degree to which spending on marketing contributes to profits. . Here manufacturing and marketing department are two different profit center so performance measurement will be separate. Usually. The idea of measuring the market’s response in terms of sales and profits is not new. but terms such as marketing ROI and ROMI are used more frequently now than in past periods. Instead of money that is 'tied' up in plants and inventories (often considered capital expenditure or CAPEX). because marketing is not the same kind of investment It is basically a relationship between Net Marketing Margin (NMM) and Investment in Marketing Operation. marketing funds are typically 'risked. So amount of total costs and revenue have to be kept differently. marketing spending will be deemed as justified if the ROMI is positive.Marketing ROI It is different from Corporate ROI.' Marketing spending is typically expensed in the current period (operational expenditure or OPEX). Construction Return on Marketing Investment (ROMI) = [Incremental Revenue Attributable to Marketing ($) X Contribution Margin (%) – Marketing Spending ($)] /Marketing Spending ($) A necessary step in calculating ROMI is the estimation of the incremental sales attributable to marketing.000 in incremental revenue.000 (= $500. is also used as a simple index measuring the dollars of revenue (or market share. These incremental sales can be 'total' sales attributable to marketing or 'marginal.000 of marketing spent is $300. . short-term ROMI.' Short term The first. If the incremental contribution margin for that $500.000 spent on direct mail advertising will be subtracted and the difference will be divided by the same $100.000 on a direct mail advertising and it delivers $500.000 . if a company spends $100. For example. the $100. Of which. then the ROMI factor is 5. contribution margin or other desired outputs) for every dollar of marketing spend.000 revenue is 60%. Every dollar expended in direct mail advertising translates an additional $2 on the company's bottomline. then the margin ROMI (the incremental margin for $100.0.000 x 60%). COST–VOLUME –PROFIT ANALYSIS . It helps to ascertain the financial performance at a given level of sales. and vice versa. .CVP ANALYSIS Cost Volume profit analysis means any analysis to study the effect or impact on cost and profit of changes in volume. It helps to know the break even level for an organization where total revenue equalize the total cost. Increase MOS – Increase Profit .decrease MOS – Decrease The reverse of above BE units.Increase Cont/Sales ratio.Increase Cont/Sales ratio.Change Impact/Effect In fixed cost: a) Increase BE units.Increase The reverse of above Margin of Safety and profit Increase Margin of Safety and profit decrease .decrease Cont/Sales ratio.Same MOS – Decrease The reverse of above b) Decrease In variable cost a) Increase b) Decrease In sale price: a) Increase b) Decrease In sales Unit a) Increase b) decrease BE units. Selling prices are constant at all sales volume. Labor etc) are constant at all sales volume .Assumptions.there is constant sales mix at all level of sales. Efficiency and productivity remain unchanged. In a multi product situation . Turnover level is only relevant factor affecting cost & revenue . Factor prices (raw material. Fixed cost remain static & marginal costs are completely variable at all levels of output. PROFIT /VOLUME RATIO . BREAK EVEN POINT . . MARGIN OF SAFETY.ELEMENTS MARGINAL COST EQUATION CONTRIBUTION MARGIN . MARGINAL COST EQUATION SALES=VARIABLE COSTS +FIXED EXPENSES+P/L OR S-V=F+P/L . CONTRIBUTION MARGIN- CONTRIBUTION =SELLING PRICE –MARGINAL COST OR C=F+P/L OR C-F=P/L . P/V= CONTRIBUTION x 100 Sales OR P/V ratio =CHANGE IN PROFITS OR CONTRIBUTION CHANGE IN SALES x 100 .PROFIT /VOLUME RATIO. Break Even Point Break even point(in units)= Fixed cost Contribution per unit .Break even point(in Amt)= Fixed cost P/V ratio . VALUE OF SALES TO EARN DESIRED AMOUNT OF PROFIT . Calculations of sales for desired profit Required sales = Fixed cost+ Desired profit P/V ratio Required sales (units)= Fixed cost + Desired profit Contribution per unit . Sales at B. margin of safety(Rs) = Actual Sales .E.E.B.P. (units) Or = Profit Contribution per unit .P Or = Profit p/v ratio Margin of safety (units)=Actual sales(units).MARGIN OF SAFETY . 20000 units Variable cost p. 5 per unit.-Rs.Assignment 1 ABC Ltd has provided the following information Sales @ Rs..8000 Calculate PV Ratio and Break even sales.3 Fixed Cost – Rs. .u. 6 Fixed cost – 300000 Calculate Margin of safety. . Sales @ Rs 10 pu -100000 Units Variable cost per unit – Rs.Assignment 2 Following data is given by XYZ Ltd. Assignment 3 A company producing a single product sells it at Rs. New break even sales if variable cost increase by Rs.50pu . Find out Break Even Sales and P/V ratio. Volume of sales required to earn a profit of Rs. Unit variable cost is Rs.1200000.4 lakh .3 pu without increase in selling price.35 and fixed cost is Rs.2. 4.Assignment 4 Ridewell Cogcle Ltd purchases 20000 bells per annum from an outside supplier at Rs.00 Labor cost per bell will be Variable overheads You are required to advise whether I.50 per unit ? Rs. The company should continue to purchase the bells from the outside supplier or should make them in the factory II the company should accept an order to supply 5000 bells to the market at a selling price of Rs. 2. The Management feels that these be manufactured and not purchased.00 100% of labor cost . The following additional information is available Material cost per bell will be Rs. 50000 will be required to manufacture the item within the factory. The machine has an annual capacity of 30000 units and life of 5 years.5 each. 1. A machine costing Rs. 1400000. a) At what level of sales does the company break even ? b) Determine profit or loss on a present sales volume of Rs. 420000 higher than in 2003. 6000000 as compared with Rs. 8000000 c) If there is reduction in selling price in 2005 by 10% and the company desires to earn the same profit as in 2004. In 2004 sales amounted to Rs. what would be the required sales volume ? .Assignment 5 A company has annual Fixed cost of Rs. 4500000 in 2003 and profit in 2004 was Rs. Assignment 6 Material cost 120 Labour Cost 30 Overhead is 12 Selling price – 270 Fixed cost – 14 lakhs Sales – 40. Number of units that would require to be sold during the forthcoming year to have the same amount of profit in the current year without increasing the selling price.5 lakhs. .5% and overhead by 5% Fixed cost will rise by 3% Find New sales price in the forthcoming year if current P/V ratio is to be maintained. During forthcoming year direct workers will be entitled a rise in 10% Material cost will rise by 7. 5595 Materials cost (Including Purchased components) = Rs. taxes and Depreciation) = 2352000 per year. made by the Markdata Computer company: Sales Price = Rs.Assignment 7 The following data refer to a single product . 899 Direct labour cost = rs. the techwhiz. 200000 If the company’s income Tax rate is 22 percent what unit sales are necessary to achieve an after tax profit of Rs. 233 Facilities Cost = ( for a highly automated plant mainly includes rent. Required What is the unit contribution margin What is the BEP in units and Amount What is the desired level of sales unit if the company plans to increase Fixed cost by 5% and to achieve a desired before Tax profit of Rs. 150000 . insurance . Concept of Return on Investment ROI = Net Profit X 100 Capital Employed Further Decomposed it is the multiplication of Net Profit Ratio and Capital turnover Ratio NPR is NP/Sales CTR is Sales/Capital Employed Capital Turnover Ratio indicates the efficiency of the organization with which the capital employed is being utilized. Higher the capital turnover ratio better will be the situation. . A high capital turnover ratio indicates the capability of the organization to achieve maximum sales with minimum amount of capital employed. Marginal Cost 300 270 350 350 includes 320 and another 30 are variable marketing exp. .warehouse.a . office equipment by MKTG Capital Employed Fixed Asset 100 90 10 Working Capital 100 40 60 Total 200 130 70 Sales 400 320 400 320 is the transfer price of goods from Manufacturing to Marketing.Fixed Cost Operational 40 18 22 .Financial Charges 20 13 7 Total 60 31 29 Net Profit 40 19 21 NMM is 21.Particular Total NonMarketin g marketing remarks 10% represents automobiles . Contribution 100 50 50 . . Margin of safety . Contribution to Sales Ratio and Capital Turnover Ratio.Assignment 1 Fixed asset – 100 Working Capital – 100 Sales 400 Variable cost of sales 300 Fixed Cost Operation – 40 Fixed cost Finance Charges – 20 Calculate ROI. find out its break even point and net profit. .4 lakhs. If its contribution to sales is 0.Assignment 3 A company has a margin of safety at 20% and a profit of Rs. If sales volume of the company is Rs. Assignment 4 Profit /Volume ratio of a company is 50%. while its margin of safety is 40%. 50 Lacs.4 calculate its current sales and fixed cost. Multi Product Sales Mix A manufacturer may have more than one product and also their sales. . The relative proportion of each product sold in the aggregate sales is termed as sales mix A change in the mix of products sold usually affects the weighted average P/V Ratio and hence the BEP So when the product have different P/V Ratios changes in the sales mix will affect the BEP. 60000.40000 sales of the product X could be shifted equally to product Y and Z then what will be the new profit and new BEP sales for the firm. If Rs. . 40000 respectively. 24000 respectively. Fixed cost for the firm is 27000 find out the break even sales for the firm. Their variable costs are 80000.Assignment Three products X Y and Z have their sales at 100000. 42000. The increase or decrease in fixed cost does not affect the P/V ratio even though it may increase or decrease the total profit.Impact of selling price. The increase in P/V Ratio means lower break-even point and higher margin of safety and vice versa. Increase in variable cost per unit will reduce the contribution and result to decrease in P/V Ratio and vice versa. An increase in selling price increases the amount of contribution resulting in improvement in P/V Ratio and vice versa. . Fixed Cost and Variable cost on BEP. Rs.Make an analysis of the below mentioned assignment.50 Proposed Rs.30 Fixed Cost p. Production units 10000 units in both the cases. Selling price per unit Present Rs.30 and Proposed Rs.a.40 Variable Cost per unit Present Rs.60000 in both arrangements. . Calculate P/V Ratio Break Even Point and Margin of safety and comment on the situations of lowering selling price per unit in the light of previous slide’s discussion. 100000 Estimated profit at the above capacity M1 Rs 160000 and M2 Rs. It received offers for two models M1 and M2. You are required to find out the Break Even level of sales for each model.100 per unit. 200000 .Further details of these two models are given below.Assignment A company wants to buy a new machine to replace one which is having a frequent break down. The level of sales at which both the models will earn the profit of Rs. Installed capacity in units for M1 10000 and for M2 10000 Fixed overhead p. for M1 Rs. 240000 and for M2 Rs. The product manufactured using this type of machine M1 or M2 is sold at Rs.a.100000. 23. Total Sales Total Cost Year ended 31st March 2005 22.000 21.51.200 Assuming stability in price with variable cost carefully controlled to reflect predetermined relationship and an unvarying figure cost calculate the following P/V Ratio.83.Assignment The following figures relate to a company manufacturing a varied range of product. Break even point and margin of safety for the year ended 2005 and 2006.43. .600 Year ended 31st March 2006 24.Fixed Cost % to Sales. Fixed Cost.000 19. 200 for product B.0 .400 per item and product B at Rs.1 0. The variable unit cost are Rs.0 1.a.3 0.1 Total 1. It does not have the production capacity to launch both the product. The likely demand for both the products are given by the following probability distribution.Assignment XYZ Ltd has to decide between launching one or two similar new products.4 300 0.2 0.4 0.20000 p. Calculate the Break-even point for both the product and estimate the profitability of these two products.240 for Product A and Rs. Likely Demand Probability of A Probability of B 100 0. Fixed Cost for the company is Rs. Product A can be sold at Rs.2 500 0.3 200 0.350 per item. Cost volume profit analysis – for Multi product cost volume profit analysis.Practical application of Linear Programming technique Allocation of scares resources : Limited resources to be allocated to various products. Product mix problems – Capacity utilization optimization so that profit can be maximized. LP may help determine the profitability of further processing. . Determinations in joint product profitability – In case of product involving joint cost where one or more of the joint products may be processed further. raw material etc. cost. Such constraints must be expressed as linear equalities or inequalities in terms of decision variables.To formulate the LPP 1. The solution of an LP model must satisfy these constraints. Constraint functions : There are always certain limitations on the use of limited resources like labour. It expressed as x > 0 and y > 0. . revenue etc.X and Y being the no. 3. cannot have negative values. of units produced . Objective Functions : The objective functions of each problem is a mathematical representation of the objective in terms of a measurable quantity such as profit. 2. Thus both of them can assume values only greater than or equal to zero. It should be an optimization function either to maximize or to minimize. Non Negativity condition. machine. Define decision Variables: Express each constraints in words Formulate the constraints imposed by the resource availability and express them in linear equality or inequality in terms of decision variables defined. .Guidelines for formulations Express objective function in words. Express it as a linear function of decision variables multiplied by their profit or cost considerations. Express them in mathematical terms. Define the objective function whether to maximize or minimize. . Every jacket needs 1. A store has requested a manufacturer to produce pants and sports jackets. Every pair of pants (1 unit) needs 1 m 2 of cotton and 2 m2 of polyester. For materials. $40.5 m2 of cotton and 1 m2 of polyester. the manufacturer has 750 m 2 of cotton textile and 1. What is the number of pants and jackets that the manufacturer must give to the stores so that these items obtain a maximum sale? . The price of the pants is fixed at $50 and the jacket.000 m 2 of polyester. Each unit of product A requires 2 kg of raw material and 4 labour hours for processing.40 and one unit of product B sold gives Rs.Assignment A firm is engaged in producing two products.35 as profit. Formulate this as an Linear Programming Problem to determine as to how many units of each of the products should be produced per week so that the firm can earn maximum profit. the firm has an availability of 60 kg of raw material and 96 labour hours. Every week. One unit of product A sold yields Rs. . where as each unit of B requires 3kg of raw materials and 3 labour hours for the same type. A and B. The manufacture also makes a profit of Rs. 6 per unit of Product A sold and Rs. 5 per unit of product B sold. The manufacturer has 5 units of R1 and 12 units of R2 available. . Each unit of Product A requires 1 unit of R1 and 3 units of R2. Each unit of Product B requires 1 unit of R1 and 2 units of R2. Formulate this as an Linear Programming Problem to determine as to how many units of each of the products should be produced so that the firm can earn maximum profit.Practice Problem A small manufacturer making two products A and B Two resources R1 and R2 are required to make these products.