Marketing Arithmetic for Business Analysis

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Marketing Arithmetic forBusiness Analysis

• Marketing for Engineers
• ELE 31MEL ELE 41EMT

George Alexander G.Alexander_at_latrobe.edu.au www.la
trobe.edu.au/eemanage
Lecture 10 11 April 2005
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Topics

• Need for Business Analysis
• The Profit Loss Statement
• Performance Ratios
• Return on Investment
• Break-Even Calculations
• Price Elasticity
• Economic Order Quantity

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Need for Business Analysis

• The marketing concept stresses profitability as
  well as consumer orientation.
• Marketing managers need to know how to evaluate
  an organisations financial success.
• The evaluation process requires a good
  understanding of financial statements and
  performance ratios from a marketing perspective.

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Profit Loss Statement

• The basic equation for profit is
• Profit Sales - Costs
• Profit Loss Statement shows an organisations
  sales revenues and costs over a given period,
  typically a year, quarter or month.
• Note Profit and Loss Statement is increasingly
  referred to as Statement of Financial
  Performance.
• A well-written statement can help in identifying
  the areas of the business associated with profit
  or loss.
• Assessment can be based on a division,
  department, business unit, product line, etc.

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Example Profit Loss Statement
Net Sales 707,500 Less cost of goods
sold 340,000 Gross Margin (gross profit)
367,500 Less operating expenses 325,500 Net
Profit 42,000
Note Tax is calculated on the Net Profit
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Performance Ratios

• The gross margin percentage
• The net profit percentage
• The operating expenses ratio
• The stock turnover ratio

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The Gross Margin Percentage
The Gross Margin Percentage is the percentage of
revenue available to cover expenses and provide
profit after the cost of goods sold has been paid.
Gross Margin
Gross Margin Percentage
Net Sales
367,500

0.52 or 52
707,500
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The Net Profit Percentage
The Net Profit Percentage (Net Income ratio)
identifies the percentage of profit from each
sales dollar.
Net Profit
Net Profit Percentage
Net Sales
42,000

0.06 or 6
707,500
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The Operating Expenses Ratio
The Operating Expenses Percentage is the
percentage of operating expenses needed from each
sales dollar.
Total Operating Expenses
Operating Expenses Ratio
Net Sales
325,500

0.46
707,500
or in percentage 46
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Improving Net Profit

• Increasing prices
• Pricing objectives
• Supply v demand, etc.
• Reducing cost of goods sold
• Alternative sources
• Make or buy, etc.
• Reducing operating expenses
• Efficient use of resources
• Management policies, etc.

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The Stock Turnover Ratio
The Stock (Inventory) Turnover Ratio indicates
the number of times stock turns over (sold)
during the period specified in the profit and
loss statement. It is a measure of the
efficiency of the Supply Chain Process. (More
detail later in the lecture)
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Return on Investment (ROI)

• Defined as the ratio of net profit to net worth
  of an organisational segment (company, division,
  business unit, or the like), product line or
  brand.
• It is a measure of financial efficiency that is
  often used to set marketing objectives.
• The information required for calculating ROI is
  obtained from the organisations Profit and Loss
  Statement, and its Balance Sheet (Statement of
  Financial Position).

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• Balance Sheet (Statement of Financial Position)
  as at
• Current Assets
• Cash at Bank 8 000
• Inventory 1 500
• Total Current Assets 9 500
• Non-Current Assets
• Equipment 5 000
• Total Non-Current Assets 5 000
• Total Assets 14 500
• Current Liabilities
• Accounts Payable 4 000
• Total Current Liabilities 4 000
• Net Assets 10 500
• Owners Equity
• Owner - Capital 10 500

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ROI Return on investment
ROI Net Profit / Net Worth
This shows the profitability of shareholders
equity. Suppose that the total assets for the
organisation is 425,000, the net profit is
42,000 and the total liabilities are 200,000.
ROI 42,000 /( 425,000 200,000) 0.187
or 18.7
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Break-Even Calculations

• The Break-Even Point is defined as the point at
  which costs and revenues meet (costs revenue).
• The concept is best describe graphically,
  mathematically it is written as

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Example Break-Even Calculation
Suppose the following Selling price
10 Variable cost 5 Fixed cost 50,000
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Interpretations of breakeven analysis

• The example showed how many units need to be sold
  in order to break even
• The question then may be how long will it take to
  sell that many units?
• A more detailed method, based on time may need to
  be used
• Note that the fixed costs and volume refer to a
  monthly or annual rate. E.g. for an annual fixed
  cost, there will be an annual breakeven volume.
• Breakeven should not be confused with payback

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Payback

• Payback can be expressed as the volume of product
  to be sold before the initial investment outlay
  is recovered
• Initial outlay/Average unit profit
• E.g. 200,000/2.00 100,000 units
• Alternatively it can be expressed in time
• Initial outlay/(annual volume X average unit
  profit)
• E.g. 200,000/(50,000 X 2.00) 2 years
• Payback is not highly regarded as a means of
  assessing an investment but does provide a simple
  guide.
• (More detail available in ELE22EMT Economics
  Lecture 5)

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Break-Even Analysis
Revenue
Area of profit
Loss Profit
Quantity of units produce and sold
Cost
Break-even point
Area of loss
Revenue and cost
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Price Elasticity

• Defined as the effect of a change in price on the
  quantity of product demanded.
• It involves calculating the ratio of the
  percentage change in quantity to the percentage
  change in price.

E Elasticity Q1 Initial quantity
demanded Q2 New quantity demanded P1 Initial
price P2 new price
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Example Price Elasticity Calculation
Suppose that the initial price was 5 and the
initial quantity demanded was 100 units. If the
price was raised to 6 and the quantity demanded
declined to 90 units, then the Price Elasticity
would be
Normally stated as 0.5
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The Stock Turnover Ratio
The Stock (Inventory) Turnover Ratio indicates
the number of times stock turns over (sold)
during the period specified in the profit and
loss statement. The calculation is done in two
steps as follows
Beginning Stock Ending Stock
Average Stock
2
100,000 160,000

130,000
2
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The Stock Turnover Ratio - Cont.
Net Sales
Stock Turnover Ratio (Retail)
Average Stock
707,500

5.44 times per period
130,000
Cost of Goods Sold
Stock Turnover Ratio (Cost)
Average Stock
340,000

2.62 times per period
130,000
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Interpretations of turnover ratio

• A rapid turnover may indicated higher ROI
• Low turnover means -
• High inventory carrying costs such as
• Cash tied up in stock or work in progress
• Costs of storage and handling
• Risk to perishables
• Risk of obsolescence
• Cost of insurance
• Impact on lead time (how long a customer has to
  wait for delivery of goods)

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Economic order Quantity

• There are several factors to consider when
  deciding on the order size at which total costs
  can be minimised.
• The main factors include
• Annual demand in units,
• unit cost of placing an order, and
• Annual holding costs as a percentage of the cost
  of one unit.

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Example
Annual demand 5,000 units Unit cost of the
merchandise 1.50 Per-unit holding costs 0.30
(20 of unit cost) (warehousing, insurance,
etc.) Cost of placing an order 5.00
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Cont.
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Stock Cycle
stock level
initial stock
trigger level
time
order
order
order
order
order
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References
Zikmund, William G., dAmico, Michael, Marketing,
5th edition West Publishing Company 1996.
Thanks for your attention