Part i
OPTIMAL PRODUCTION PLAN AND CALCULATION OF NET PROFIT AFTER TAXATION
Hiking Mountain
STEP 1 - Assessment of adaquacy of leather
10% of Material Cost (10% of 600/700) 60 70
Square Meters required (60&70 divided by R50 per m2) = A 1,2 1,4
Sales (10 000/8000 *1.05) 10 500 8 400
Increase in stock (Unit sales *1.1) 1 050 840
Production = B 11 550 9 240
SQM Leather Required (A x B) 13 860 12936 26 796
Shortage (limit of 16 000SQM) 10 796
Labour is not a scarce resource as unskilled and can be employed on a casual 0
There are no capacity constraints as the factry can manufacture 22 000 units 0
STEP 2. Calculation of Per Unit Contribution
Hiking Mountain
Selling Price (1,10*1800; 1.12*2200) 1980 2464
Variable Costs 934 1129
Material-other (.9*600*1.1 ; .9*700*1.1) 594 693
Material- Special leather (1.2*60 ; 1.4*60) 72 84
Labour (W1) 127 170
Production Overhead (W2) 75 90
Selling Costs (W3) 66 92
CM 1046 1335
Square Meters required 1,2 1,4
Contribution per square meter of leather 871,7 953,6
Rank 2 1
Available square meters of leather 16 000
Required for manufacture of 9240 pairs of M boots (x 1,4) 12936
Balance of leather available (for H Boots) 3 064
Hiking Boots (3064/1.2) 2 553 H boots
Mountain Boots 9 240 M Boots
W1
Labour Costs- Current year (250*10000, 8000*300) 2 500 000 2 400 000
Variable Labour Costs - Current Year (10 000*3*40; 8000*4*40) 1 200 000 1280000
Fixed Labour Costs- Current year 1 300 000 1 120 000
Fixed Labour costs next year (Current Year *1.06) 1 378 000 1 187 200
Variable Cost this year per unit 120 160
Variable Cost Next year (120*1.06; 160*1.06) 127 170
W2
Manufacturing overhead costs
Total Overheads Per unit 250 300
Fixed (250*.7; 300*.7) 175 210
Total Fixed overheads (no increase next year) 1 750 000 1 680 000
Variable overheads per unit 75 90
W3 - Selling OH
Selling Costs (100* 10 000; 140 * 8 000) 1 000 000 1120000
Variable component (A) @60% 600000 672000
Fixed -current year 400000 448000
Fixed -next year 440000 492800
Variable Selling cost Per unit (A /10000 and A/ 8000) 60 84
Variable Selling Cost per unit next year (10% increase) 66 92
Part ii
Budgeted Total Profit for the next year Hiking Mountain
Sales 2321 8 400
Production 2 553 9 240
Closing Stock (10% of sales) 232 840
SALES (2321 * SP; 8400* SP) 4 596 000 20 697 600
PRODUCTION 5 344 804,00 12 445 384,00
Variable Labour (127*2553; 170*9240) 324 784,00 1 567 104,00
Fixed Labour 1 378 000,00 1 187 200,00
Direct Matrial - Other (594 ; 693) 1 516 680,00 6 403 320,00
Direct Material -Leather (72, 84) 183 840,00 776 160,00
Variable M Overheads (75 ; 90) 191 500,00 831 600,00
Fixed M Overheads 1 750 000,00 1 680 000,00
Closing Stock (total prod cost x CS units/Prod units OR 10/110) 485 638 1 131 399
GROSS PROFIT - 263 166,46 9 383 614,55
POSSIBLE INTERVENTIONS TO ENHANCE PROFITABILITY
To consider the migration to a ABC costing system for the allocation of overheads. The current
system may not be appropriate given the price pressures, high degree of FC and the need for more
accurate costing information
Undertake an analysis on the boots to consider is a cheaper substitute can be found for the
specialised leather given the import duties and depreciating rand.
Investigate opportunities for local suppliers to produce the specialised leather, which may be
cheaper considering the difficultyn in logistics and the need to fulfill demand (sales)
Diversification into apparel and expanding the range of boots for example running shoes/ hiking kit.
Rebranding or advertising campaigns/influencers to increase turnover of mointain boots
Consider outsourcing of production to more established footwear manufacturers who have better
economies of scale and cost management.
Possibly allowing other manufacturers to utilise the patented sole for royalties
Lease negotiations to reduce overhead or change of location of warehouse given World Heritage
Site location.
Expanding into the local market which may reduce exportation/selling overhead costs
other valid
H M Total
GROSS PROFIT - 263 166,46 9 383 614,55
Var Selling overheads (66xunits sold; 92 x units) 153 200,00 776 160,00
- 416 366,46 8 607 454,55 8 191 088,09
Fixed selling OH 932 800,00
OTHER non Manufacturing costs 1 650 000,00
Net Profit before Taxation 5 608 288,09
Taxation 1 570 320,66
Net Profit After Taxation 4 037 967,42
P/E 8 32 303 739,39
51% 16 474 907,09
FACTORS TO BE CONSIDERED BY ROGER STAR
1. Reasonableness of Offer
Discount for Private company, transferability of shares etc reduces the PE ratio from 12 (to 8?)
gives a value of R32 m, 51% will be valued at R16m
Offer of 10m is at strong discount, and opportunistic given that prior year net profit was R4,2 m after taxation
Valuation based on profit is however very problematic as many unsustainable line items included (COS with closing
stock etc)
OTHER FACTORS
Shareholders agreement with Business Partners and whether Business Partners has the right fo first refusal
The amount of working capital that will be injected by AOG and its positive impact on cash flow and operations.
The synergy and business potential that could be brought into the business by AOG with increased customer base
Will Roger continue to own the patent and the amount of revenue he will derive? This could alter his decision.
Will Roger continue to be employed by the BB if his shares are sold, and what is Roger's preference.
OAG is a large listed retail co. while BB is priavte and small niched business. This may not be an easy strategic and
cultural fit in its transition which could impact performance
There may be a key-man risk associated with Roger given his reputation and network in international market.
Stakeholders will have a vested interest to see him remain involved.
Roger losing control over BB and this will limit the decision making power of Roger in company's direction
Acquisition by OAG will affect existing supplier contracts/agreements held by BB, which is an administrative load