Horatio Alger has just become product manager for Brand X. Brand X is a consumer

Question

Horatio Alger has just become product manager for Brand X. Brand X is a consumer product with a retail price of $1.00. Retail margins on the product are 33%, while wholesalers take a 12% margin. Brand X and its direct competitors sell a total of 20 million units annually; Brand X has 24% of this market. Variable manufacturing costs for Brand X are $0.09 per unit. Fixed manufacturing costs are $900,000. The advertising budget for Brand X is $500,000. The Brand X product manager's salary and expenses total $35,000. Salespeople are paid entirely by a 10% commission. Shipping costs, breakage, insurance, and so forth are $0.02 per unit.

What is the unit contribution for Brand X? What is Brand X's break-even point?

What market share does Brand X need to break even?

What is Brand X's profit impact?

Industry demand is expected to increase to 23 million units next year. Mr. Alger is considering raising his advertising budget to $1 million.

a. If the advertising budget is raised, how many units will Brand X have to sell to break even?

b. How many units will Brand X have to sell in order for it to achieve the same profit impact that it did this year?

c. What will Brand X's market share have to be next year for its profit impact to be the same as this year?

d. What will Brand X's market share have to be for it to have a $1 million profit impact? Upon reflection, Mr. Alger decides not to increase Brand X's advertising budget. Instead, he thinks he might give retailers an incentive to promote Brand X by raising their margins from 33% to 40%. The margin increase would be accomplished by lowering the price of the product to retailers. Wholesaler margins would remain at 12%.

a. If retailer margins are raised to 40% next year, how many units will Brand X have to sell to break even?

b. How many units will Brand X have to sell to achieve the same profit impact next year as it did this year?

c. What would Brand X's market share have to be for its profit impact to remain at this year's level?

d. What would Brand X's market share have to be for it to generate a profit impact of $350,000?

Explanation / Answer

Wholesaler price to retailer = Retail Price * (1- Retail Margin) = $1 * (1-33%) = $0.67 Manufacturer price to wholesaler = Wholesaler to Retailer price * (1-Wholesaler margin) = $0.67 * 1-12%= $0.59 Variable cost manufacturer costs $0.09 per unit, sales commission: 10% of the manufacture to wholesaler price = $0.59 * 10% = $0.06 shipping costs, breakage, insurance, etc.: $0.02 per unit Variable Cost Variable cost: $0.09 + $0.06 + $0.02 = $0.17 What is the unit contribution for Brand X Unit Contribution = Price (the price manufacturer to wholesaler) – Variable Cost = $0.59 - $0.17 = $0.42 What is Brand X's break-even point? Break-even volume = Fixed Cost / UC = ($900,000 Fixed manuf. costs + 35,000 Alger's salary + $500,000 advertising) /$0.42 = $1435000 / $0.42= 3416667 What market share does Brand X need to break even? Break-even market share = 3416667/20000000 = 17.08% What is Brand X's profit impact? Profit impact = UC x Units Sold – FC = 20000000 (total market) * 0.24 (market share)* 0.42 - $1435000 = 581,000 Industry demand is expected to increase to 23 million units next year. Alger is considering doubling his advertising budget to $1 million. New FC = $1,000,000 (adv) + $900,000 (Fixed manuf. costs) + $35,000 (Alger's salary) = $1,935,000 If the advertising budget is raised, how many units will Brand X have to sell to break even? BEV = Fixed Cost/ Unit Contribution = $1935000 / $0.42 (unit contribution) = 4,607,142.9 units How many units will Brand X have to sell in order for it to achieve the same profit impact that it did this year Volume to achieve the same profit impact = (FC + Profit Impact) / Unit Contribution = ($1935000 + $581,000) / $0.42 = 5,990,476 units What will Brand X's market share have to be next year for its profit impact to be the same as this year? Market share needed to achieve the same profit impact as this year = Volume to achieve the same profit impact / Total market size = 5,990,476 units / 23 million units = 26% What will Brand X's market share have to be for it to have a $1 million profit impact? Market share to achieve $1 million profit impact - Volume to achieve $1m profit impact = (1935000 +1000000)/0.42 = 6988095 units - Market share to achieve $1m profit impact = 6988095 / 23 million units = 30.4% Suppose Alger decided not to raise advertising budget, instead he will raise retailer margins to 40% selling price: $1 * (1-40%) * (1-12%) = $0.528 new variable cost is $0.09 + $0.0528 + $0.02 = $0.1628 Unit Contribution = Price – VC = 0.528 - 0.1628 = 0.365 Fixed cost remains the same: 900000 + 500000 + 35000 = 1435000 If retailer margins are raised to 40% next year, how many units will Brand X have to sell to break even BEV = 1435000 / 0.365 = 3,931,507 units How many units will Brand X have to sell to achieve the same profit impact next year as it did this year? Volume for the same profit impact = (FC + Profit impact) / UC = (1435000 + 581000) / 0.365 = 5,523,288 units What would Brand X's market share have to be for its profit impact to remain at this year's level? Market share to achieve this profit impact = 5,523,288 units / 23,000,000 units (projected market size next year) = 24% What would Brand X's market share have to be for it to generate a profit impact of $350,000? Market share to achieve $350,000 profit impact = Volume for $350,000 profit impact / Projected market size next year = (FC + Profit impact) / UC / Projected market size next year = (1435000+$350,000) / 0.365 / 23,000,000 = 21.3%

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