Customer And Distribution Channel Profitability Analysis

Analysis

Question 1: The reports are shown below:

Question 2: Report on customer costs, Customer Profitability, Distribution Channel profitability and Total Profitability:

Introduction: Louise Fairborn business comprises of only 2 divisions, viz; a consulting division and a commercial window treatment business. It has five clients to cater to; two from the architectural division and the remaining three from the window treatment business. Adams and Chatham are its two biggest clients in terms of revenue. Services to Adam are made at discounts to gain a competitive edge over rivals (Belton, 2017). Elm provides advance payments and thus is rewarded with a cash discount as these advance payments improves the liquidity of the company. 65% of the total overhead costs of the business are directly attributable to the divisions. The remaining 35% are general in nature.

Analysis:

Consulting Business division – Despite the greater revenues derived from Adams in comparison to Betz, the contribution margin from Betz is significantly higher (37.92% as against 27.35 % from Adams). Some of this could be attributable to the discount offered to Adams. The remaining effect could be a higher than usual direct cost as some high-grade material and manpower may have been used for this client as the competition to retain them would be more (Choy, 2018).

Commercial Window Treatment: The contribution margins for Chatham, Dedham and Elm are 38.89%, 21.72% and 17.07% respectively. As can be seen for Dedham and Elm it’s very low when compared to Chatham. This mainly due to some significantly higher direct costs to Revenue percentage which for Dedham is 78.27% and 82.02% for Elm as against 61.11% for Chatham. Also the specific overhead allocated to the three customers on the basis of direct costs is abnormally high in case of Dedham and Elm. The specific overhead costs to contribution percentage for Chatham, Dedham and Elm are 54.7%, 125.4% and 159% respectively. This ultimately renders these two clients loss making for the company (Clarke, 2013).

For the Consulting business Division: Overall this division is doing well. However the company should try to optimize its resources in order to curtail to some extent the specific as well as general overhead cost attributable to this division. It is because of the higher overheads that the division is not having profits despite having decent contribution percentages (Dichev, 2017). Options to outsource a few of its functions in order to reduce costs and identifying areas which increase the overhead should be a good thing to do. Staff salaries should be looked and a greater emphasis could be given to performance based remuneration rather than fixed. This could encourage the consultants to give their best (Goldmann, 2016).

Consulting Business division

For the Commercial Window Treatment business: A serious effort should be given to overhaul the direct costs scenario in case of Dedham and Elm needs to be put into. Both the direct materials and direct labor components needs to be considered. Better negotiation with material suppliers could help in procuring materials at lower costs. Labor force should be utilized to its maximum potential and should be monitored to identify below par performers. Just like the consulting division, commercial window division should also consider its overhead costs scenario and plug into the leakages wherever possible. Cash discount given to Elm could be reduced to some extent say giving 2.5% or 3% discount instead of the existing 5% (Linden & Freeman, 2017).

Conclusion: A better costs management is the only way going forward for the management. Identification, implementation and monitoring of the expense flow for both direct costs and overheads would help optimize the profit per product. If the resources are idle, then there is room for new client acquisition as well (Grenier, 2017).

• Contribution margin per hour of Super-Chips and Okay-Chips:

Assuming no inter-divisional transfers are to be made and given the fact that the semiconductor division has only 45,000 hours of capacity, it should produce the product which has the contribution per hour. Balance hours if any should be used to produce the other product. Therefore, in this case Super chips should be produced to its maximum sales potential (Heminway, 2017).

Hours Available:              45,000

Hours Required:              45,000

(15000 units X 3 hours per unit)

Balance hours if any          NIL

Therefore, the division should produce 15,000 units of super chip and therefore it can’t produce any okay-chip as the capacity is exhausted.

• Minimum Transfer price of Super-Chip to process division:

(Total Variable Cost of Super Chip + Variable cost of foregoing external sales of 5000 super-chips)/ Number of units transferred

(65 X 5000 units + 5 X 15,000 hours) / 5000 = $ 80 per unit

Additional procurement cost for Process division = $ 80 – $ 70 = $ 10 which is less than the additional selling price on the improved product which is $ 145 – $ 132 = $ 13. Hence there is a $ 3 gain if the units are procured from semi-conductor division even at a higher price. Therefore, the super-chips should be transferred to the Process control division to replace circuit boards (Jefferson, 2017).

Contribution of Process control units using the circuit board:

• The minimum transfer price for Semiconductor division would be its variable cost i.e., $ 65  for Super chips. The maximum transfer which Process division can pay is $ 83 beyond which it can’t make additional contribution and therefore transfer beyond that price wouldn’t be viable option for the process division. Any transfer price within the range of 65-83 would ensure goal congruence for the entity(Visinescu, et al., 2017).

• Total Capacity: 60,000 hours

Hours Required for External sales requirement for Super-Chip = 15000 X 3 = 45,000 hours

Hours required for manufacturing 5,000 units for Process Division = 5000 X 3 = 15000 hours

Unused capacity, if any: NIL.

Therefore, in the scenario of semi-conductor division having 60,000 hours of capacity it can meet both the demands of external sales as well as the 5000 unit of requirement of super-chip from the process divisional without any conflict (Sithole, et al., 2017).

Contribution of Process control units without using super-chip

Contribution of Process control units using the Super-Chip

Incremental Contribution per unit = $ 3.

The company would earn a total incremental contribution of 5,000 X 3 = $ 15,000.

References

Belton, P., 2017. Competitive Strategy: Creating and Sustaining Superior Performance. London: Macat International ltd.

Choy, Y. K., 2018. Cost-benefit Analysis, Values, Wellbeing and Ethics: An Indigenous Worldview Analysis. Ecological Economics, p. 145.

Clarke, J., 2013. Australian Contract Law. [Online]
[Accessed 8th August 2016].

Dichev, I., 2017. On the conceptual foundations of financial reporting. Accounting and Business Research, 47(6), pp. 617-632.

Goldmann, K., 2016. Financial Liquidity and Profitability Management in Practice of Polish Business. Financial Environment and Business Development, Volume 4, pp. 103-112.

Grenier, J., 2017. Encouraging Professional Skepticism in the Industry Specialization Era. Journal of Business Ethics, 142(2), pp. 241-256.

Heminway, J., 2017. Shareholder Wealth Maximization as a Function of Statutes, Decisional Law, and Organic Documents. SSRN, pp. 1-35.

Jefferson, M., 2017. Energy, Complexity and Wealth Maximization, R. Ayres. Springer, Switzerland. Technological Forecasting and Social Change, pp. 353-354.

Linden, B. & Freeman, R., 2017. Profit and Other Values: Thick Evaluation in Decision Making. Business Ethics Quarterly, 27(3), pp. 353-379.

Sithole, S., Chandler, P., Abeysekera, I. & Paas, F., 2017. Benefits of guided self-management of attention on learning accounting. Journal of Educational Psychology, 109(2), p. 220.

Visinescu, L., Jones, M. & Sidorova, A., 2017. Improving Decision Quality: The Role of Business Intelligence. Journal of Computer Information Systems, 57(1), pp. 58-66.

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