Profitability Analysis

Case 3 – Snack Food Company

Question (posed by interviewer):

A large salted snack food company has steadily been losing market share over that past two years, from
a high of 20% to the current level of 18%. Profits as a percent of sales, however, have been growing.
What could be causing this?

Information to be given if asked:

Market

 The size of the total salted snack food market has grown from $15 billion to $17 billion during
these two years; (the interviewee’s conclusion should be that the client’s total dollar sales have
actually grown, but not kept pacewith the market)
 The largest competitors are two multinational consumer products companies that feature
complete lines of snack foods. Together, these two companies have 55% of the market.

Product

 The product line of the client has not changed over this period.

Costs

The costs for the client have changed over this period: (% of selling price)

Current Two Years Ago

Raw Ingredients 28% 26%
Conversion costs 24% 24%
Distribution 8% 9%
Marketing 16% 18%
Sales force 7% 9%
Pre-tax profit 17% 14%

 The sales force was cut to reduce costs, though the same no. of outlets are still covered by this
sales force
 The changes in the marketing budget come from reduced trade promotions.

Sales Force/Distribution

 The products are mostly sold through large grocery store chains and convenience stores.
 The sales force generally visits each customer at least once per quarter.
  Promotions usually occur at the end of each quarter. Grocery stores and convenience stores
require some type of promotion to grant valuable end of aisle displays or advertising space.
 Competitors’ sales forces are regarded as the best in the industry.

Solution:

The data show that the greatest change is in the sales force numbers. It turns out that the company
went on a cost-cutting spree over the past two years. The sales force was drastically cut and the
commission scheme was reworked.

The marketing expenditure was also decreased. Most of the reduction came from trade promotions. The
product is sold through the same channels as previously: large grocery chains and convenience stores.
These channels are traditionally driven by periodic trade promotions. The reduction in trade promotions
brought about a loss of shelf space, which has directly led to the decrease in market share. Also, the
product line has not changed in the past two years in a product category where new products and line
extensions are routine. In addition, the market has been growing, indicating a missed opportunity for
new products in the market. Lastly, the increase in profitability has resulted from the lower costs, but
may not be sustainable.
 Case 4 – Agriculture Equipment Manufacturing

Question (posed by interviewer):

Your client is a large agricultural equipment manufacturer. Their primary product line, farming tractors,
is losing money. What questions would you ask of your client to help them solve their profitability
problem? Information to be given if asked:

Market

 Your client has 40% of the market, competitor #1: 30%, competitor #2: 15%, with the remaining
15% belonging to many small manufacturers.
 Five years ago, your client had 60% of the market, competitor #l, 15%, and competitor #2, 10%.
Obviously, your client has lost significant market share to its two competitors over the last few
years.
 All three competitors sell to the same customers.

Product

 Your client’s product is priced higher than competitors and has historically been the most
expensive.
 Essentially the tractors have the same basic features. Of course, tractors are not commodity
items and a few differences do exist.
 Your client has a strong reputation/image of quality in the market and the market has always
been willing to pay a premium for that reputation because it meant they would last longer and
need less maintenance. This can be critical for some farmers because they cannot afford to have
a piece of equipment break down at a critical time.
 Client has been involved in product improvement efforts-- tightened tolerances and improved
the durability of component parts.
 They have needed to buy more expensive parts to execute this.

Margins

 Sales quantity and revenues are down.

 However, price and costs are up. Fixed costs are constant while material costs have increased.
The client has no answer as to why material prices have gone up so staggeringly.
 The operation is primarily an assembly operation and finished part prices have gone up.
 Client does not think that raw material prices or labor costs for your suppliers have increased.

Solution:
It turns out that prices have been raised to cover the costs of these improvements, but customers do
not value these improvements unless they are essentially free --so sales are down. The client needs to
incorporate a cost/benefit analysis procedure into its product improvement process. Don't forget
though, that you must consider the long-term effects of these decisions.