Hisec pk is a divisionalized manufacturer and assembling company in which each division is regarded as a profit centre. The Digital Measurement Division is one of six divisions and is headed by a Divisional Managing Director, who reports directly to the main board of Hisec pk.
The division manufactures three main products which provide detailed electronic measurement devices for manufacturing processes and outputs. Because of the rapidly changing techno logy within microelectronics and computer applications the Digital Measurement Division is particularly conscious of its product offering.
The budget committee within the division has just received the following initial draft master budgets for the next financial year. This usually forms a basis for negotiation within the divi sion before an agreed budget is submitted to the main board of Hisec pk.
Initial draft master budget by product
|
Sales (units)
|
MXR
1,000
|
Product
E210
400
|
Omega
100
|
Total
|
|
|
£000
|
£000
|
£000
|
£000
|
|
Sales
|
4,000
|
3,200
|
800
|
8,000
|
|
Variable costs
|
|
|
|
|
|
Materials
|
800
|
320
|
120
|
1,240
|
|
Labour
|
640
|
400
|
160
|
1,200
|
|
Overheads
|
160
|
80
|
40
|
280
|
|
|
1,600
|
800
|
320
|
2,720
|
Contribution Fixed costs
Manufacturing Administration
Selling and distribution Research and development
Profit
2,400 2,400 480 5,280
840
720
480
80
2,120
3,160
At the meeting of the budget committee, it was decided that revisions should be made to the initial draft budget in the light of information submitted by the marketing manager, who main tains that the product market is becoming more competitive, particularly with the development of European companies enter ing the UK market.
MXR was introduced on to the market several years ago and although it is still a well-established product, it is considered to be approaching the decline stage of its life cycle. A decision is made to manage MXR as a 'Cash Cow' and maximize the profit it makes. Market research indicates that price elasticity of demand only applies to price increases. If the price is reduced, this is likely to provoke a price war. However, for every £100 increase in price, demand is likely to diminish by 50 units.
E210 is becoming well established in the market where demand is increasing, although competition is beginning to have some impact. A policy of price skimming has been in operation since the launch of E210. The market is expanding but is subject to increasing competition and management feel the time is now right for a price reduction. Market research indicates that every price reduction of £500 per unit would increase demand by 50 units, although this level of elasticity would only apply up to a 50% increase above the levels in the draf t budget. Above this level, competitors are likely to retaliate. The decision is made to manage E210 as a 'Rising Star' and expand sales units by 50% by reducing the price.
Omega is a newly developed product that was recently launched by the division. Although competition is currently insignificant, it is expected to increase in the next year and a decision is made to adopt a policy of price penetration. The selling price is to be adjusted to give a contribution/sales ratio of 70%. Demand is expected to fall, resulting in a 5% reduction of original units.
As a result of the above changes, fixed costs are expected to be changed as follows:
Manufacturing overheads Administration
Selling and distribution Research and development
5% decrease No change 10% increase No change
You are required to:
(a) Outline the scope and purpose of the annual budget of the Digital Measurement Division in the context of the company's long-term planning, decision-making and control.
(b) Use the information provided to:
(i) prepare a statement to show for each product: the selling price, variable cost and contribution per unit;
(ii) calculate the sales volumes needed to comply with the decisions made at the budget committee meeting;
(iii) re-draft the master budget to incorporate these decisions for submission to the next budget committee meeting.
(c) Briefly comment on the proposed revisions.