Baldwin Bicycle Company (BBC)

Presentation By Group 6

Prof. Ashutosh Das Strategic Cost Management

Synopsis of Case
BBC making above average bicycles for almost 40 years Included 10 models, ranging from beginners to deluxe Distribution through several independent retailers Hi-Valu Stores Inc. (HVS) approached BBC to produce a house-brand naming Challenger

Proposition from HVC

Would sign contract with BBC to buy bicycles from BBC only for a 3yr period 25,000 units per year Hold the units on consignment basis without payment until delivery to a specific store Wanted to purchase bikes from BBC at lower prices than the wholesale prices of comparable bikes sold through BBCs usual channels. Payment within 30days

BBC Facts Problem Statement

Plant operating at 75% of one shift capacity HVS proposal a chance to increase production capacity But at a greater cost per unit than its current product. Analysis will be based on differentials costing

Q.1 What is the relevant cost of manufacturing a challenger bike?

Ans. Variable Cost Materials Labor Overhead Total Variable Cost

39.80 19.60 9.80 69.20

Q.2 What is the relevant cost (on per bicycle basis) of carrying the working capital investment involved in the challenger deal?

Ans. Relevant Asset Costs Record Keeping Inventory Insurance State Property Tax on Inventory

1% 0.3% 0.7% Inventory -handling labor and equipment 3% Pilferage, obsolescene, breakage etc 0.5% 18%

7,355.38 2,206.61 5,148.76 22,066.13 3,677.69 40,454.56 132,396.75 172,851.31 6.91

Interest expense Net Relevant Asset Cost Per Bicycle

Q3. Should the challenger deal be charged for the lost sales of bikes through the regular distribution channel (erosion or cannibalization cost)? If so what is the relevant erosion charge. Ans. Yes, we should consider the opportunity cost of the lost of sales (3000units) of bikes through regular channel. Contribution margin loss on 3000 units.
cost of sale (from Income statement): Labor and overhead cost: Balance Material Cost: $81.43 $44.10 $37.33

Now, variable cost of regular bike: Material Cost + Labor Cost + Variable cost of Overhead: $66.73 Contribution margin per unit: $ 43.32 Therefore, on 3000 units margin lost is: $129,962 Plus one time added cost: $5,000 Total Opportunity cost $134,962

Q.4 Can you estimate the incremental return on investment for the challenger deal?
Particulars Units Selling Price COS p.u. Gross Margin p.u. Total Gross Margin Selling & Administration Exp. Income before Taxes Income Tax Net Income Assets Employed ROI Regular 97,000 110.05 81.43 28.62 2,775,749 2,311,324 464,425 214,048 250,377 8,092,000 3% Challenger 25,000 92.29 83.90 8.39 209,750 172,851 36,899 17,006 19,893 735,538 3% Total 122,000 12,982,150 9,996,651 2,985,499 2,484,175 501,324 231,054 270,270 8,827,538 3%

Q5. What are the major cash flow implications of the challenger deal. Ans. The abnormal term proposed by HVS would expose BBC to unnecessary cash flow risks. HVS will release the payment only after 3months, with discounting rate of 18% the net present value might be an interesting factor here as the differential profit is not huge. In case BBC is making upfront investment with no credit from its suppliers can result in negative NPV.

Q6. How would you describe BBCs financial situation at the end of 1982?
Ans. Profit (net Income) 255 Gross Profit Ratio Net Profit Ratio Return on Assets Return on Equity Inventory Turnover Ratio Account Receivable Ratio Debt Equity Ratio

26.00% 2.35% 3.15% 8.22% 2.92 times 8 times 1:2

Q.7 How would you describe BBCs strategic situation at the end of 1982? Is the Challenger deal a good Strategic fit for BBC?
Ans. BBC is currently operating at 75% of Capacity This deal will raise the operating capacity to 93%. The condition of the economy is unlikely to improve in the short term. therefore taking a risk on a three year contract that projects favorable sales promises a better situation than they are currently facing Based on the information given, Baldwin Bicycle Company should accept HVS proposal

Thanks