Question

Miltons Ltd is a company based in Germany and is specialised in the production of a wide range of mobility scooters. Miltons Ltd exports its production to a retailer in the UK. The Management Board of Miltons Ltd is considering the budget for the coming year. The table below provides the original budget:

	Original Budget
Expected volume of sales	10,000 units
Selling price	€200 per scooter
Costs
Total Variable Cost	€600,000
Fixed Cost	€400,000

However, Benjamin Hans the Director of Sales suggests that if the price of the scooters were reduced by 20%, then he estimates that sales volume would go up by 25%.

Rebecca Eldridge, the Director of Marketing who is based in the UK, has a different opinion. She believes that the best way to increase sales is to find new distributors. She believes that to increase sales by 25% the company needs an additional marketing push costing €200,000.

The board has asked for some figures and advice to help it in deciding which of the three strategies to adopt:

1.          Remain with the original budget
2.          Adopt Benjamin’s
3.          Adopt Rebecca’s

(Each alternative should be considered independently.

Question 1 continues on next page

1. Presenting your answer in a table, use the Cost-Volume-Profit analysis model to determine :

(i)The profit

(ii)The contribution margin ratio (c/s ratio)

(iii) The breakeven point in €’s

(iv) The margin of safety (as a percentage of sales revenue)

(v) The sales level in number of units that would be required if the company wished to make a profit of €1,200,000                     

                                                                           

2. State and critically analyse FIVE assumption of the Cost-Volume-Profit analysis.
3. Critically Evaluate the figures that you have calculated for each strategy in part (a) above, and recommend a strategy for the Board to adopt. Ensure that you fully justify your answer.
4. Explain the difference between fixed costs, variable costs and semi variable costs giving examples of each.

Answer 1

Answer-(a):

Answer-(b):

Following are the assumptions of CVP Analysis:

1. It assumes that the total variable costs and revenues would increase or decrease only due to a change in no. of units.

2. This assumption says that all the costs are either variable or fixed. In other words, it says that there are no semi-variable or semi-fixed costs.

3. CVP analysis assumes that there are no changes in the price and variable cost per unit irrespective of change in time period and relevant range. It ignores the chances of changes in prices due to inflation, economic conditions etc. Also, ignores the bulk order discounts.

4. It is assumed that all units produced are sold during the period; hence, there is no change in beginning and ending inventory levels.