Question

Black Tyres (BT) manufactures and sells two products in Australia: low-budget tyres and high performance tyres. Low-budget tyres are made from hard rubber for durability while high performance tyres are made from softer rubber for superior grip in wet conditions. When the low-budget model was introduced in the market, another competitor from India introduced low priced tyres with almost alike features. Due to this, the Sales Director decides to reduce the price of low-budget tyres so that sales do not get hurt.

At the same time, the sales director decided to run a marketing campaign demonstrating the benefits of high performance tyres and promoting the brand to the top-segment customers. The campaign focused on unique features and safety of high-performance tyres.

The market is growing by about 0.8% per year, with strong competition due to tyres imported from India. The CFO, Peter Srock, has provided extracts from last year’s actual income statement and profit plan. When Peter prepared the budget in November 2017, he expected and assumed that the market would grow by 0.80% compared to the previous year. When he received the Annual Tyre Industry Report, he found that the market actually grew by 0.75%.

Black Tyres
Income Statement
Year Ended 30 June 2018
				budget	variance	flexible budget	variance	actual	total variance
		sales revenue	$'000	30,018	628	30.646	(384)	30,262	244
		variable costs	$'000	(21,012)	(440)	(21.452)	56	(21,396)	(384)
		contribution margin	$'000	9,005	188	9.194	(328)	8,865	(140)
		non-variable costs	$'000	(568)		(568)	10	(558)	10
		net operating profit	$'000	8,437	188	8.626	(318)	8,307	(130)
Product Breakdown
	Low-budget Tyre
		sales volume	tyres	205,000	(9,642)	195,358		195,358
		selling price	$ per tyre	86.460		86.460	(1.721)	84.739	(1.721)
		variable costs	$ per tyre	(60.522)		(60.522)	(0.720)	(61.242)	(0.720)
		contribution margin	$ per tyre	25.938		25.938	(2.441)	23.497	(2.441)
	High-performance Tyre
		sales volume	tyres	97,500	11,595	109,095		109,095
		selling price	$ per tyre	126.087		126.087	(0.441)	125.646	(0.441)
		variable costs	$ per tyre	(88.261)		(88.261)	1.801	(86.460)	1.801
		contribution margin	$ per tyre	37.826		37.826	1.360	39.186	1.360
	Both Products Combined
		sales volume	tyres	302,500	1.953	304,453		304,453
		market share		5.185%	0,036%	5,221%		5.221%
		selling price	$ per tyre	99.232	1,427	100,660	(1,262)	99.397	0.165
		variable costs	$ per tyre	(69.463)	(0,999)	(70,462)	0,183	(70.278)	(0.816)
		contribution margin	$ per tyre	29.770	0,428	30,198	(1,079)	29.119	(0.651)

Black Tyres
Reconciliation
Year Ended 30 June 2018
				$'000	$'000	$'000
Planned net operating profit						8,437
		market size variance		(4)
		market share variance		62
		product mix variance		130
		volume variance			188
		price variance		(384)
		variable cost variance		56
		non-variable cost variance		10
		price/cost variance			(318)
		Total variance				(130)
		rounding error				0
Actual net operating variance						8,307

C. (Part 1) Prepare a short report outlining BT’s performance for the year ended 30 June 2018. The focus of your report should be on how the variances may relate to each other and (Part 2) Suggest any issues that may warrant further investigation by Peter.

Answer 1

1. Sales Revenue for the Company declined largely due to sales price ($ per tyre) declining for both the types of tyres

2. Although company gained considerably on the market share variance and product mix variance, the hit on the profitability due to downward revision in price more than compensated for the gain

3. Marketing campaign seemed like helping the company sell more of the high performance tyre as compared to low budget tyres since the variance on quantity is positive in high performance which also results in higher profitability

4. The contribution on low budget tyres took a further beating on both the counts i.e. decline in selling price per unit and increase in variable cost per unit

Going forward, since the high performance tyres are giving better margins and market share for the company, Peter may want to evaluate concentrating all the efforts on the high performance tyres and eventually discontinue low budget ones