Ronnie s comments - 1

The case analysis should ideally

Identify the unit of output (this is expected sales per sales territory per year. Sales territory is as a second input complementary to sales rep labour) Consider various alternative assumptions as to what are fixed and sunk cost and what are not you will find conclusions are largely unaffected except for the profitability of direct sales. Note that allocated overheads are one clearly irrelevant and sunk cost item. Use marginal analysis and the incremental margin (or marginal profits) to arrive at a hiring decision. Identify the break-even level relative to third party sales on which no profitability data are given Possibly identify the long market share costs, if any, of short run profit maximization (thanks, Hosni) Try to go beyond one year by suitable scenario building (make assumptions and identify high and low case scenarios) Draw broad lessons

Ronnie s comments - 2
The case reproduced below is that of group A7 who have effectively used marginal analysis. The shortcomings in their presentation can be made out by looking at what is missing in the previous slide Note that third part sales break-even could be written as
No information given on profits from third party sales (TPS). If minimum profit from TPS exceeds $xxxx per 30 accounts serviced per year, then Cetus should not hire any inexperienced reps. If minimum profit from TPS exceeds $yyyy then Cetus should not hire any experienced reps either.

My broad lessons
Principles of analysis are very similar in different contexts: e.g. output choice and labour hiring decisions Marginal analysis is saves time and effort. Accounting information has to be carefully looked at to identify relevant costs and of these fixed costs for managerial decisions. Fortunately, decisions often remain unchanged under alternative scenarios. Decisions should take into account a company s future goals even if only limited current information is available.

CETUS Computer Corporation

Presented by: Group 7, Section A

Problem Statement
CETUS decided to develop its own sales force for dealing with large end-use customers and was faced with decisions on how to staff that The questions facing the CETUS sales manager were: 1) how many, if any, highly experienced sales representatives to hire, and 2) how many, if any, less experienced representatives to hire

Assumptions
Corporate overheads are sunk cost, because COH involves the internal infrastructure that supports organisations in delivering their core and ancillary services to the community Cost of producing, shipping, installing, and servicing a $20,000 system = $9500 Commission on each sale = $500 Therefore, Net revenue from selling one unit = $10,000 Hired sales representatives will have to cover 2700 accounts covering 265 companies. Each account of roughly comparable size. Highly experienced sales representative = HESP and Less experienced sales representative = LESP Each HESP is allotted maximum 30-accounts territory, and sells only 18 systems in each such territory. Each LESP sells only 8 systems per 30-accounts, 12 systems per 60accounts, 15 systems for 90-accounts territory. Further, each standard sales territory consist of only 30, 60 and 90-accounts.

Approach to analysis
(Ronnie: This is their key methodology slide)

Calculate the variable cost incurred per year on HESP (at salary $60,000 and $78,000) and LESP (at salary $36,000) Calculate the marginal profit from a LESP for 30-accounts, 60accounts, and 90-accounts territory. Marginal profit = (Net revenue from selling X systems) (Variable cost incurred) where X = 8 for 30-accounts, 12 for 60-accounts, 15 for 90accounts. This is to determine the number of accounts to be allotted to a LESP so as to have a profit. Calculate the marginal profit from a HESP at salary $60000 and $78000. From the marginal profits calculated above for L-rep and Hrep, determine the number of H-Reps and L-Reps to be hired

Marginal Profit Calculation for LESP

Variable cost of hiring 1 LESP = 120000 (given in exhibit) a) If LESP is assigned 30 accounts: Marginal profit= (10000 * 8) - 120000= -$40,000 (loss) b) If LESP is assigned 60 accounts: Marginal profit= (10000 * 12) - 120000 = $0 (no profit/no loss) c) If LESP is assigned 90 accounts: Marginal profit= (10000 * 15) - 120000 = $30,000 So, assigning 90 accounts to LESP will generate profits for Cetus.

Marginal Profit Calculation for HESP

Variable cost of hiring 1 HESP = 150000 (given in exhibit) a) For first 30 HESP : Marginal profit= (10000 * 18) - 150000= $30,000 b) For HESP above 30 : Marginal profit= (10000 * 18) - 172500 = $7500

Number of HESP and LESP hired

a) If hiring 30 LESP and assigning them 90 accounts each Total marginal profit = Marginal profit of 1 LESP * 30 = 30000 * 30 = $900000 b) If hiring 30 HESP and hiring 20 LESP and assigning them 90 accounts each Total marginal profit = (Marginal profit of 1 HESP * 30) + (Marginal profit of 1 LESP * 20) =30000 * 30 + 30000* 20 = $1500000

Continued
c) If hiring 27 HESP and hiring 21 LESP and assigning them 90 accounts each Total marginal profit = (Marginal profit of 1 HESP * 27) + (Marginal profit of 1 LESP * 21) = (30000 * 27) + (30000 * 21) = $1440000 d) If hiring 33 HESP and hiring 19 LESP and assigning them 90 accounts each Total marginal profit = (Marginal profit of 1 HESP till 30 * 30) + (Marginal Profit of 1 HESP above 30 * 3) + (Marginal profit of 1 LESP * 19) = (30000 * 27) + (7500 * 3) + (30000 * 19) = $1402500 So, hiring 30 HESP along with hiring 20 LESP and assigning each LESP 90 accounts will generate maximum profits for Cetus.

Final Recommendations
Based on the calculations, Cetus should adopt the following strategy Hire 30 HESPs each serving a 30-accounts territory. Thus 30*30= 900 accounts will be covered. Number of systems sold = 30*18 = 540 For the remaining 1800 accounts, hire 20 LESPs with 90accounts territory each. Number of systems sold = 20*15=300 Profit is maximum for the above ratio Thus, profit from direct sales of sale reps = $1500000

Observations
It may be observed from the case that when the sales territory size increases from 30-accounts to 60-accounts, the marginal product is 12-8 = 4 units. Again for increase from 60accounts to 90-accounts, marginal product is 15-12= 3 units. Thus, we see diminishing return with the increase in sales territory size For HESPs the marginal product is zero beyond a 30-accounts territory, due to selling-time constraints

On a lighter note Experience matters!

Thank You