Riddhi Goel

Rajesh Sheth

Drabir Ghosh
Nemish Mehta

Manik
Garg
Sushant
Raj

Cost Analysis of
DMR Enterprises
Ltd.
Group 9

Table of Contents
I.

Executive Summary...........................2

II.

Problem Statement...........................2

III.

Criteria for decision making.............3

IV.

Assumptions and Constraints...........3

V.

Strategic choices and Cost Analysis..4

VI.

Reccomendations..............................7

VII. Appendix...........................................8

Executive Summary
Business summary: DMR enterprises Ltd (DMR) is an importer and
distributor of beauty supplies for Canadian Retailers which offers 10
products among three major product lines.
Purpose: To analyze the effect of different cost structures for the company.
Methodology: Sensitivity analysis and Indifference Point Calculation.
Findings: For the same sales figures the net income for the current scenario
is higher than the net income of the second scenario where the sales
commission is 8.5% with a fixed selling expense of $4,000,000.
Recommendations: If the company is planning not to increase their sales
volume then they should continue with their present operations and
increase the commissions on sales. But if the company is seeking expansion,
capitalizing on large fixed cost will increase bottom line by leaps and
bounds.

Cost analysis of any company is done keeping in mind the cost object
of the said concern. As there are various factors affecting cost which can be
segregated in many different buckets depending on way they are treated,
cost structure analysis involves segregating cost in different dimensions.
The overall as well as individual impact of costs should be analyzed for
better picture of the overall company. A cost analysis provides an
opportunity to judge the efficiency of initiatives. A cost analysis can track
expenses and spending, which can help a company determine if funds are
misappropriated or not.

COST ANALYSIS OF DMR ENTERPRISES LTD. -

Problem Statement
DMR Enterprises Ltd. (DMR) is a small importer and distributor of beauty
supplies, and has experienced moderate success. The president of the
company, Karen Van Brundt, recently received a phone call from Summit
Sales and Marketing Inc., (the companys sales agent), and was told that
unless DMR agreed to a sales commission increase (from 12.5% to 17.5% of
sales. similar companies are paying their own sales forces a commission
rate of 8.5%. However fixed selling expenses would go up $4,000,000 to
cover sales salaries, automobile expenses, travel, and training costs.

In

addition, DMR would save $55,000 per year on work.

Criteria for decision making

Several criteria has been observed to make a final decision for the company.
These are the following

a)
b)
c)
d)

Net Profits
Change of bottom line on change of Sales
Percentage of Fixed Cost incurred by the company in both the cases
Future scope of growth in both the cases

Assumptions and Constraints

Analysis is always based on certain assumptions and constraints and in this
framework, decision are taken, keeping in mind the limitation of opinions.

a) We also assume that interest figures will not change in spite of

company occurring heavy Fixed expenses
b) Since, variable cost per unit is not given, indifference revenue level is
calculated instead of volume level.
c) Sensitivity Analysis has been done with limited number of variables
COST ANALYSIS OF DMR ENTERPRISES LTD. -

d) Lack of volume data has tweaked the calculation of Indifference point

e) We have assumed that incase of in house sales team, sale level of
revenue can be maintained.

COST ANALYSIS OF DMR ENTERPRISES LTD. -

Strategic choices and Cost Analysis.

Firstly we segregate our different cost in different buckets on the basis of

the cost object. Taking our cost object to be the goods imported and
distributed by the company , the manufacturing fixed and variable cost
remains the same n both the scenarios and will have no impact on the
Selling and Administrative costs .

Scenario 1

Commissions are deemed to be direct and variable as it can be easily

traceable to a particular product as 17.5% of the sales amount as the cost.
This will also vary directly in proportion to the volume of units sold. 64% of
the total Selling and Administration cost is variable and direct.

Marketing and Administration cost are fixed and indirect and forms a
relatively smaller portion of the overall cost as compared to the above
variable cost. 36% of this cost is fixed, a small portion compared to the
variable counterpart. This also focuses on the fact that as volumes rise, the
variable component being high, and the cost advantage on large scale
movement of goods will be far less than what should have been in the ideal
situation.

Another important aspect of this option is the steep hike demanded by the
external marketing firm will give it a greater bargaining power in the long
run. As per the research that standard commission in the market is 8.5%
COST ANALYSIS OF DMR ENTERPRISES LTD. -

whereby the company is already giving 12.5% which is 4% higher than the
industry standards. Increasing the commissions to 17.5% would be more
than 100% of the norm which will be very difficult to accept for any
business. Bearing this cost will have a significant impact on our bottom line
and as per the estimates calculates , it should dip by close to 33%. This kind
of cost cannot be passed on to the consumers as well, as it will make our
product highly uncompetitive in the market.

Scenario 2

Taking all variables as same as in the previous case, this option explores the
possibility of developing its own sales force rather than outsourcing it to
external third party. This involves incurring huge fixed cost to the tune of Rs
40, 00,000. On the benefit side our commissions drops from current 12.5%
and the demanded 17.5% to 8.5% only. We are saving a part of our funds in
auditing cost to the tune of Rs 55,000.

Going by the idea, this seems a far credible option but it comes with its own
risk factors. The fixed cost component of the Selling and Administration
Cost has steep incline from 36% in the previous case to close to 75% in this
case. Nonetheless this scenario creates huge capacity for the firm to
leverage of fixed cost and increase its sales volume.

Consideration involves that as this is a relatively small company presently

with moderate success, increasing the volumes by such mammoth figures is

COST ANALYSIS OF DMR ENTERPRISES LTD. -

possible or not. It is long term strategic decision that has to be taken

keeping in mind the future goals and mission of the company.

On doing the sensitivity analysis , we see that when the sales are increased
and decreased by 50% , the impact on bottom line is much larger in case of
scenario 2 where the company creates its own in house sales team. Net
profit jumps from by 485% compared to only 185% in case of scenario 1
where the company agrees on providing 17.5% sales commission to its
external marketing agency.

On the other hand when sales are decreased by 50%, impact on latter
course of action is far greater than the first one. Net Profit dips by 653%
compared to 223% in option 1 . These figures showcases that the second
scenario is far more risky approach for the company than the first one. The
company is able to take advantage of huge fixed cost to increase capacity,
adding leverage to its high volume of production. Capitalizing on this fixed
cost is only sustainable when the sales volume increases by leaps and
bounds. Similarly when the sales volume decline, the company bears the
brunt of serving its huge fixed cost without getting the advantage of
economies of scale. In scenario 1 , the commissions change directly in
proportion to sale along with absence of huge fixed cost , gives a more
conservative approach to costing.

Iindifference Point

COST ANALYSIS OF DMR ENTERPRISES LTD. -

We have calculated the indifference point for the company keeping scenario
1 as constant where the company should be indifferent to both the options.
As per calculations, sales would have to increase moderately by 12.2% in
scenario 2 to achieve the same level of net profits as in the case scenario 1.

Key Findings

Net Profit
Change in Net Profit when Sales increase by 50%
Change in Net Profit when Sales decrease by 50%
Sales neede to achiece Net Income Rrs 937500
% of Fixed Cost as part of Selling and Administrative
Cost

COST ANALYSIS OF DMR ENTERPRISES LTD. -

Reccomendations

There are 2 pathways which the company can adopt keeping in mind the
long term strategy and goals .

1. The company should continue with the external marketing agency and
increase the sales commission to 17.5% where they are no long term
plan for future expansion , delving into new product lines and markets
. This will be the most feasible action as its a more conservative
approach whereby the variable costs of the company goes up without
subsequent rise in fixed cost. The bottom line will take a hit via this
approach to close to 33%. This approach seems reasonable in the
short term as incurring large amount of fixed expenditures will also
increase interest cost and take a toll on the overall management of
the firm . To remain in the current size of business , Scenario 1 will be
recommended.

2. The second approach is to opt for scenario 2 in case the company

plans to increase its capacity to a very large extent as to take benefit
of the huge fixed cost. Fixed cots increases capacity and hence higher
volumes will bring in better costing to the company in terms of lower
commissions. The leverage of high fixed cost in only exploitable at
higher sales volume via increasing product lines and products within

COST ANALYSIS OF DMR ENTERPRISES LTD. -

each product line , building a strong sales force and expanding in new
markets .

COST ANALYSIS OF DMR ENTERPRISES LTD. -

10

Appendix
Scenario 1
Particulars
Sales
Manufacturing
Costs
Variable
Fixed
Gross Margin
Sales
Selling and
Administrative
Manufacturing Costs
Cost
Commissions
Variable
( Variable and
FixedDirect)
Fixed Marketing
( Fixed and
Grosscost
Margin
Indirect)
Fixed
Administration
Selling
and
Cost
(Fixed and
Administrative
Indirect) Cost
Commissions

Normal Sales
250,00,
000

Sales decrese
Sales increased
by 50%
by 50%
125,00, 375000
000
00

90,00,0
00
50,00,0
00

450000
135000
0
00
140,00, 50,00,0
95,00,0 50,00,0
185000
000
00
00
00
00
Scenario 2
110,00,
30,00,0
190,00,
Normal Sales
000
Sales decrease
00 by Sales increased
000
by
50%
50%
250,00,00
125,00,00 3750000
0
0
0

90,00,00
437500 0
0
50,00,00
0
5,00,00
0

4500000
218750
0
140,00,00 50,00,00
0
0
5,00,00
110,00,00
0
0

20,00,0
687500
00
0
2125000

1350000
656250
0
0
95,00,000 50,00,00
0
5,00,00
30,00,000
0

20,00,0
468750
00
0
1093750

20,00,0
906250
00
0
3187500

Fixed Marketing cost

5,00,000

Fixed Administration
Cost - savings)
FixedOperating
Sales CostIncome

19,45,00
19,45,00
41,25,0
16,87,5
0
0
00
00
40,00,00
8570000
40,00,00
7538750
0
0
10,00,0
10,00,0
00
00
24,30,000
45,38,750
31,25,0
26,87,5
10,00,000
00
00
10,00,000
14,30,000
937500
55,38,750
429000
21,87,5
26,87,5
00
00
10,01,00
0
55,38,75
0

Interest Expense
Operating Income
Eearning Before
Interest
Expense
Taxes
Eearning
Before
Taxes
Income
Taxes
Income Taxes
Net Income
Net Income

COST ANALYSIS OF DMR ENTERPRISES LTD. -

5,00,000

11

190,00,00
0

5,00,000
19,45,00
99,37,5
0
40,00,00 009632500
0
10,00,0
00
93,67,500
89,37,5
10,00,000
00
268125
83,67,500
0
25,10,250
62,56,2
50
58,57,25
0

COST ANALYSIS OF DMR ENTERPRISES LTD. -

12

Indifference Curve

We calculate the indifference point assuming Scenario 1 to be constant

whereby the company pays 17.5% of commision.
Objective : To find out at what level of Sales will the company
achieve same Profits level as scenario 1
Assumptions :
We assume the reuired amount of Sales to be
Rs "X"
We also assume that interest figures will not change in spite of company occuring
heavy Fixed expenses
We will take Operating income as the start as , income tax rates and interest
expenses are constant.
Since , variable cost per unit is not given , indifference revenue level is calculated
instead of volume level.
Variable Cost as percentage of Total Sales
Variable Cost

90,00,000

Sales

250,00,000

% basis

36%

36% of sales will always comprise of Variable Cost as it will

increase in proportion to the Sale .
Operating Income = {Sales -( Variable Cost + Fixed Cost) } - (Commissions
+ Fixed Addministration Cost + Fixed Selling Cost + Fixed Marketing Cost
41,25,000 = {X - ( .36X + 50,00,000) } - (.085X +
19,45,000 + 5,00,000 + 40,00,000)
X

28054054

Hence , to achieve the same level of net income , the company would
have to have a revenue of Rs 28,54,054 . At this level the company
would be indifferent in terms on Net Income

COST ANALYSIS OF DMR ENTERPRISES LTD. -

13