The company DJ Inc. manufactures a pocket size charger for car batteries. Unlike
ID: 2500582 • Letter: T
Question
The company DJ Inc. manufactures a pocket size charger for car batteries. Unlike other battery chargers that requires a power cord to function, the DJ is charged in advance and stores electrical power for many weeks, which comes in handy when a car owner needs to charge a battery away from home. Instead of calling a towing service, the car owner can jump-start his car using DJ, and is back on the road again within a minute or so.
The inventors of this technology expect many different uses for such storage of electrical power, but the owners of DJ Inc., who has licensed the technology for car battery chargers only, have limited sources of funding and have to concentrate on this small niche in the market, at least in the near future.
expects the income statement for 2015 to look as follows:
Sales income (1): 2 600 000
Production costs (2): 910 000
Royalty paid to inventors of technology (3): 130 000
Sales and marketing costs (4): 720 000
Administration and other overheads (4): 680 000
Finance costs (4): 70 000
Forecasted profit 2015 before taxes: 90 000
(1) Expected sales and production 100 000 units
(2) Of which 70% is considered variable costs
(3) 5% of sales income, according to a five-year agreement from year 2012
(4) Regarded as fixed costs
The balance sheet per 31st December 2015 to look as follows:
Production machinery and tools (1): 290 000
Company cars (2): 100 000
Inventory: 320 000
Accounts receivable (3): 440 000
Bank deposits: 180 000
Total assets: 1 330 000
Share capital: 50 000
Retained earnings: 130 000
Long-term liabilities (4): 440 000
Accounts payable (4): 450 000
Other short-term liabilities (4): 260 000
Total equity and liabilities: 1 330 000
(1) Annual depreciation 30 000
(2) Annual depreciation 30 000
(3) No provision for bad debts
(4) No payback to creditors planned for 2016
(5) All payable within the end of 2016, including corporation tax of 30 000 for fiscal year 2015 (corporation tax for 2016 is paid in 2017)
So far, DJ Inc. has concentrated on the US domestic market, predominately the coldest states where winter temperatures challenge car batteries. According to the company's strategy plan for 2015-2018 the company has decided to enter the CAD market and to have success there before the end of the planning horizon. Parallel to that, the growth in the US market shall continue steadily. The question is therefore if it is possible to do both in 2016.
When the activity plan for 2016 is discussed, three alternative scenarios are presented to the management:
Scenario
Sales US
Sales CAD
Sales price per unit
Variable costs (1)
Fixed costs
New investments (2)
110,000 units
0 units
24.00
Production costs per unit unchanged
5% increase
None
130,000 units
30 000 units
20.00
Production costs per unit decreases with 3%
10% increase
180 000
150,000 units
60 000 units
17.00
Production costs per unit decreases with 6%
15% increase
330 000
(1) Cost structure variable/fixed costs same as in 2015
(2) New investments depreciated linearly over three years
Questions: What is the most profitable of the three scenarios? Present your conclusion with the necessary supporting calculations.
Scenario
Sales US
Sales CAD
Sales price per unit
Variable costs (1)
Fixed costs
New investments (2)
1110,000 units
0 units
24.00
Production costs per unit unchanged
5% increase
None
2130,000 units
30 000 units
20.00
Production costs per unit decreases with 3%
10% increase
180 000
3150,000 units
60 000 units
17.00
Production costs per unit decreases with 6%
15% increase
330 000
Explanation / Answer
Profitability in scenario 2 is more in all the three option.
Supporing workings are presented below:
Projected income statement is as below:
Following is the Projected income statement for all the scenarios:
Basing on the above income statement, the following are the scenarios as given:
Particulars 2015 (100,000 units) Sales income $2,600,000.00 Variable costs Production costs $637,000.00 Royalty paid $130,000.00 Total Variable costs $767,000.00 Contribution $1,833,000.00 Fixed costs Production costs $273,000.00 Sales and marketing costs $720,000.00 Administration and other overheads $680,000.00 Finance costs $70,000.00 Total Fixed costs - other than depreciation $1,683,000.00 Depreciation $60,000.00 Total fixed costs $1,743,000.00 Net income $90,000.00