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IDIS 424

IDIS 424. VALUE OF PURCHASING Spring 2004. How will the company compete in a changing competitive environment? How companies make money: Raise Prices INCREASE REVENUE Increase Volume Reduce Personnel (downsize) DECREASE COSTS Reduce process waste cost

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IDIS 424

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  1. IDIS 424 VALUE OF PURCHASING Spring 2004

  2. How will the company compete in a changing competitive environment? • How companies make money: Raise Prices INCREASE REVENUE Increase Volume Reduce Personnel (downsize) DECREASE COSTS Reduce process waste cost Reduce materials cost

  3. OPTION 1: INCEASE REVENUE KEEPING COSTS STEADY • Not easy. Number of lower-priced, higher-quality products is always increasing OPTION 2: (More proactive) REDUCE COSTS AND PASS THE SAVINGS TO THE CUSTOMER WHILE PRESERVING A PROFIT MARGIN AND MAINTAING RETURN TO SHAREHOLDERS • First reaction: Reduce workforce size • Next: Reengineering processes (identify & attack non-value-added activities) • System integration, System simplification, Standardization, Performing processes in parallel, increased automation etc.

  4. Increasing Price

  5. Scenario Analysis • If we increase Net Sales (selling price) by 1%, how do you think this will affect our Net Profit Before Tax amount?

  6. Scenario Analysis Net Sales Cost of Goods Sold Gross Profit Operating Expenses Operating Profit Other Income/Expense Net Profit Before Tax Base Year $1,000,000 730,000 270,000 260,000 10,000 10,000 $20,000

  7. Scenario Analysis Net Sales Cost of Goods Sold Gross Profit Operating Expenses Operating Profit Other Income/Expense Net Profit Before Tax Base Year New Case $1,000,000 730,000 270,000 260,000 10,000 10,000 $20,000 $1,010,000 730,000 280,000 20,000 $30,000 260,000 10,000

  8. Scenario Analysis • What changed? By how much? • Was the outcome different than you had expected it to be?

  9. Scenario Analysis Net Sales Cost of Goods Sold Gross Profit Operating Expenses Operating Profit Other Income/Expense Net Profit Before Tax Base Year % Change New Case $ Change $1,000,000 730,000 270,000 260,000 10,000 10,000 $20,000 $1,010,000 730,000 280,000 260,000 20,000 10,000 $30,000 $10,000 ____0 10,000 0 10,000 ____0 $10,000 1% 0% 3.7% _05 100% _0% 50% 1% Increase in Selling Price = 50% Increase in Net Profit Before Tax !

  10. Increasing Product Mix and Penetration

  11. Scenario Analysis • Start with base year information. • If we increase sales volume by 1%, what effect do we EXPECT this to have on our profit? • What effect does this change ACTUALLY have on our net profit before tax?

  12. Scenario Analysis Net Sales Cost of Goods Sold Gross Profit Operating Expenses Operating Profit Other Income/Expense Net Profit Before Tax Base Year $1,000,000 730,000 270,000 260,000 10,000 10,000 $20,000

  13. Scenario Analysis • If we increase Sales Volume by 1%, how do you think this will affect our Net Profit Before Tax amount? Presume that the rate of COGS remains the same percentage of sales and that 50% of Operating Expenses are fixed and does not change with sales volume.

  14. Scenario Analysis Net Sales Cost of Goods Sold Gross Profit Operating Expenses Operating Profit Other Income/Expense Net Profit Before Tax Base Year New Case $1,000,000 730,000 270,000 260,000 10,000 10,000 $20,000 $1,010,000 737,300 272,700 261,300 11,400 10,000 $21,400

  15. Scenario Analysis Operating Expense : $260,000 (50 % Fixed Cost) Prior Period: Fixed -- $130,000 Variable -- $130,000 This Period: Fixed -- $130,000 Variable -- $130,000 x 1.01 = $131,300 Total fixed & variable = $130,000 +131,300 = $261,300

  16. Scenario Analysis • What changed? By how much? • Was the outcome different than you had expected it to be?

  17. Scenario Analysis Net Sales Cost of Goods Sold Gross Profit Operating Expenses Operating Profit Other Income/Expense Net Profit Before Tax Base Year % Change New Case $ Change $1,000,000 730,000 270,000 260,000 10,000 10,000 $20,000 $1,010,000 737,300 272,700 261,300 11,400 10,000 $21,400 $10,000 7,300 2,700 1,300 1,400 ___0 $1,400 1% 1% 1% 0.5% 14% 0% 7%

  18. Scenario Analysis • Wow! A 1% increase in our sales volume results in a 7% increase in Net Profit! • What are some of the ways in which sales volume can be increased?

  19. Improving Purchasing

  20. Scenario Analysis • Start with base year information. • If we reduce Cost of Goods Sold by 2%, what effect do we EXPECT this to have on our profit before tax? • What effect does this change ACTUALLY have on our net profit before tax?

  21. Scenario Analysis Net Sales Cost of Goods Sold Gross Profit Operating Expenses Operating Profit Other Income/Expense Net Profit Before Tax Base Year $1,000,000 730,000 270,000 260,000 10,000 10,000 $20,000

  22. Scenario Analysis • If we improve in Purchasing and are able to reduce our Cost of Goods Sold by 2%, how do you think this will affect our Net Profit Before Tax amount?

  23. Scenario Analysis Net Sales Cost of Goods Sold Gross Profit Operating Expenses Operating Profit Other Income/Expense Net Profit Before Tax Base Year New Case $1,000,000 730,000 270,000 260,000 10,000 10,000 $20,000 $1,000,000 715,400 284,600 24,600 $34,600 260,000 10,000

  24. Scenario Analysis • What changed? By how much? • Was the outcome different than you had expected it to be?

  25. Scenario Analysis Net Sales Cost of Goods Sold Gross Profit Operating Expenses Operating Profit Other Income/Expense Net Profit Before Tax Base Year % Change New Case $ Change $1,000,000 730,000 270,000 260,000 10,000 10,000 $20,000 $1,000,000 715,400 284,600 260,000 24,600 10,000 $34,600 $0 (14,600) 14,600 _____0 14,600 ___0 $14,600 1% (2%) 5.4% 0% 146% 0% 73% A 2% reduction in COGS Results In a 73%increase in Net Profit Before Tax !

  26. Scenario Analysis • Wow! A 2% reduction in our COGS results in a 73% increase in Net Profit Before Tax! • How can we reduce COGS?

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