FAR EASTERN UNIVERSITY - MAKATI

GRADUATE STUDIES
MASTER OF BUSINESS ADMINISTRATION
MANAGEMENT ACCOUNTING

A CASE STUDY: BALDWIN BICYCLE COMPANY

SUBMITTED BY GROUP 2
MEMBERS:

ARIVAN, JOHN DANTE

BAUTISTA, ROWENA
COLOMA, IANA CHRISTINE
DUY THANG, PHAM (JOSEPH)
GAMOS, MARIA EMILY
LEE, KASIAN
RODRIGUEZ, RICHES
URFANO, KATRINA JOIE

SUBMITTED TO:
PROF. CHRISTOPHER HISO
BALDWIN BICYCLE COMPANY (BBC)

I. Background Information

Company Analysis

 Baldwin Bicycle Company (BBC) is a bicycle manufacturing company that is in the industry
for almost 40 years.
 Its product line includes 10 models ranging from small beginner’s model with training wheels
to deluxe 12-speed adult’s model.
 The company distributes its product through independent retailers and bicycle shops, but it
hasn’t penetrated department stores-like segment.
 BBC’s sales were currently at an annual rate of $10 Million and in 1988, the company sold
98,791 bikes.

Hi-Valu Proposal

Hi-Valu, approached BBC and proposed private-label arrangement whereby BBC would produce
a “Challenger” brand of bicycle for Hi- Valu. A seeming good fit, Hi-Valu estimates a requirement
for 25,000 units per year—a number which would bring BBC’s production up to capacity even in
this depressed bicycle market.

Several of Hi-Valu’s proposed terms, however, deviate from standard practices from that of BBC:
1. Hi-Valu would hold the units on consignment in its own warehouses and withhold payment
until delivery to a specific store
2. A bicycle would be paid within 30 days once a bicycle was shipped to a specific store or 120
days had elapsed in the regional warehouse
3. Although the proposed Challenger line represented significantly increased costs to produce,
Hi-Valu would pay $92.29 per unit—less than the wholesale price of an equivalent model—
in order to preserve its own margins.
4. Hi-Valu demanded customized designs for handlebars, seats, tires, and packaging. While the
frame and mechanical components could be the same as used in current Baldwin models,
the fenders, seats and handlebars would need to be somewhat different, and the tires would
have the name “Challenger” molded into their sidewalls. See figures below for reference to
various parts mentioned.
Current Financials of the Company

EXHIBIT 1 Financial Statements (thousands of dollars)

BALDWIN BICYCLE COMPANY

Balance Sheet
As of December 31, 1988

Assets Liabilities and Owner's Equity

Cash $ 342 Current liabilities $ 3,478

Accounts receivable 1,359 Noncurrent liabilities 1,512
Inventories 2,756 Total liabilities $ 4,990
Plant nad equipment (net) 3,635 Owner's equity 3,102
$ 8,092 $ 8,092

Income Statement
As of December 31, 1988

Sales revenue $ 10,872

Cost of sales 8,045
Gross margin 2,827
Other expenses 2,354
Income before taxes 473
Income tax expense 218
Net income $ 255
II. Problem Statement

Should BBC accept the proposal of Hi-Valu for the production of “Challenger”?

In answering the question above, the items below should also be taken into consideration:

III. Alternative Course of Actions

For this case, the company BBC has 2 alternative courses of actions as follows with their related
analysis of situation:

Accept the Proposal

 Higher cost of production due to specialized components of the Hi-Valu bikes
 Added asset-related costs plus related carrying costs resulting from accommodating the
special engagement
 Additional one-time added costs due to difference of the Challenger model with the
standard Baldwin bikes
 The poor economy led to decreasing sales volume for the past two years the proposal would
open up guaranteed sales revenue of 25,000 units for the next 3 years and possible
extension per year after the initial 3-year contract
 Decrease in sales due to cannibalization, around 3,000 units

Reject the Proposal

 Lost additional sales or contribution margin from the proposal
 Lost units due to unutilized existing excess capacity of the plant

IV. Answers to Case Questions

1. What is the expected profit from the Challenger line?

 Contribution margin from 25,000 units Per Unit Total Amount

Selling Price $ 92.29 $ 2,307,250.00

Direct Materials $ 39.80 $ 995,000.00

Direct labor 19.60 $ 490,000.00
Variable Overhead ($24.50 x 40%) 9.80 $ 245,000.00
Total variable cost $ 69.20 $ 1,730,000.00

Contribution margin $ 23.09 $ 577,250.00

2. What is the expected impact of the cannibalization of existing sales?

Lost sales - 3,000 units BBC bikes Per Unit Total Amount

Selling Price $ 110.05 $ 330,150.00

Variable cost:
Cost of sales per unit $ 81.43
Less: Fixed part of overhead per unit ($19.60*125% x 60%) 14.70 $ 66.73 $ 200,190.00

Contribution margin on lost sales - 3,000 units $ 43.32 $ 129,960.00

Amount
per IS Unit Sales Per unit Percentage
Sales revenue 10,872 98,791 110.05 100%
Cost of sales 8,045 98,791 81.43 74%
Gross margin 2,827 98,791 28.62 26%

ALTERNATIVE:
Lost sales - 3,000 units BBC bikes Per Unit Total Amount

Selling Price (Total VC $83.90 / Cost of Sales percentage 74%) $ 113.38 $ 340,135.14
Variable cost:
Materials $ 39.80
Direct labor 19.60
Overhead ($24.50 x 40%) 9.80 $ 69.20 $ 207,600.00

Contribution margin on lost sales - 3,000 units $ 44.18 $ 132,535.14

3. What costs will be incurred on a time basis only?

 The one-time costs that will be incurred would be the $5,000 which is associated with the
preparations of drawings and/or arranging sources for fenders, seats, handlebars, tires and
shipping boxes that differ than those used in the company’s standard models.

4. What are the additional assets and related carrying costs?

Related Cost
Additional assets and related carrying cost:
Pretax cost of funds (to finance receivables or inventory) 11.50%
Recordkeeping costs (for receivables or inventroies) 2.00%
Inventory insurance 0.60%
State property tax on inventory 0.70%
Inventory-handling labor and equipment 6.00%
Pilferage, obsolescence, damage, etc. 2.20%
23.00%
Direct Materials 39.8 $ 9.15

Pretax cost of funds (to finance receivables or inventory) 11.50%

Recordkeeping costs (for receivables or inventroies) 2.00%
Inventory insurance 0.60%
State property tax on inventory 0.70%
Pilferage, obsolescence, damage, etc. 2.20%
17.00%
Work-in Progress (DM($39.80) + DL&OH($29.40 x 50%) 54.50 $ 9.27

Pretax cost of funds (to finance receivables or inventory) 11.50%

Recordkeeping costs (for receivables or inventroies) 2.00%
Inventory insurance 0.60%
State property tax on inventory 0.70%
Inventory-handling labor and equipment 6.00%
Pilferage, obsolescence, damage, etc. 2.20%
23.00%
Finished goods (DM($39.80) + DL&OH($29.40)) 69.20 $ 15.92

Related carrying cost:

Pretax cost of funds (to finance receivables or inventory) 11.50%
Recordkeeping costs (for receivables or inventroies) 2.00%
13.50%
Finished goods Hi-Valu (DM($39.80) + DL&OH($29.40)) 69.2 $ 9.34

Related carrying cost:

Pretax cost of funds (to finance receivables or inventory) 11.50%
Recordkeeping costs (for receivables or inventroies) 2.00%
13.50%
Hi-Valu receivable 92.29 $ 12.46
 Additional Costs: Per Unit Total Amount
Additional assets:
Direct Materials (25,000 / 6) $ 9.15 $ 38,141.67
Work in Progress (1,000) $ 9.27 $ 9,265.00
Finished goods (500) $ 15.92 $ 7,958.00
Related carrying cost:
Finished goods Hi-Valu (25000 / 6) $ 9.34 $ 38,925.00
Hi-Valu receivables (25000 / 12) $ 12.46 $ 25,956.56

Total additional seets and related carrying costs $ 120,246.23

5. What is the overall impact on the company in terms of (a) profits (b) return on sales (c)
return on assets (d) return on equity?

Overall effect if Proposal accepted:

Additional contribution margin on 25,000 units $ 577,250.00
Less: Additional assets and related carrying cost $ (120,246.23)
Less: Contribution margin lost on decrease of 3,000 units $ (129,960.00)
Increase in company operating income $ 327,043.77
Additional one-time added costs $ (5,000.00)
Net increase in company operating income for the 1st year $ 322,043.77

Original (based on 1988

figures) Accepted

Return on Sales
Net income 473,000 4.4% 795,043.77 6.2%
Total Sales 10,872,000 12,849,100

Return on Assets
Net income 473,000 5.8% 795,043.77 8.0%
Total Assets 8,092,000 9,953,160

Return on Equity
Net income 473,000 15.2% 795,043.77 20.4%
Total Equity 3,102,000 3,897,043.77

6. What are the strategic risks and rewards?

Risks Reward

 Brand value and Market reputation will
be diluted.
 In a long run profits will be reduced due
to loss of sales
 Loss of distributors due to loss of sales
 Company does not need marketing
activities
 Buying ad selling process will be in Bulk
 Company will have small no of bulk
buyers to concentrate on
 7. What should the company do and why?
The company should try to evaluate the consequences of accepting the offer by looking at
the possible dollar contribution to the company which would tell them to accept the offer.

Overall effect if Proposal accepted:

Additional contribution margin on 25,000 units $ 577,250.00
Less: Additional assets and related carrying cost $ (120,246.23)
Less: Contribution margin lost on decrease of 3,000 units $ (129,960.00)
Increase in company operating income $ 327,043.77
Additional one-time added costs $ (5,000.00)
Net increase in company operating income for the 1st year $ 322,043.77

*During the first year, if accepted, increase in company operating income will be reduced further due to the
one-time added cost of $5,000

Overall effect if Proposal rejected:

Lost contribution margin on 25,000 units $ (577,250.00)
Less: Additional cost if proposal accepted $ -
Add: Contribution margin of 3,000 units
Decrease in company opearting income $ (577,250.00)

Other than the dollar amount, next consideration would be the non-dollar effect on the
company or so as to say the qualitative side to it.

Threats/ Limitations:
 Possibility of cannibalization of BBC of the market for bikes
 Decrease in annual sales by 3,000 units
 Possibility of a few dealers dropping once they found out BBC is also making bikes for Hi-
Valu

Opportunities:
 Opportunity to earn added income should the proposal of Hi-Valu be accepted by BBC in
light of the decline in the economy
 The company is currently operating at 75% one-shift capacity of 100,000 units per year,
there is excess capacity for the proposal of Hi-Valu; in 1988, sales was at 98,791 which
translates to 130,000 units capacity if reconstructed (98,791 units/ 75%)

V. Recommendation

In line with the analyses and discussions for BBC bikes, the group recommends ACCEPTING the
proposal of Hi-Valu. There will be additional costs but the ultimate benefit from the additional
contribution margin will still be higher compared to not accepting the offer. Plus, the decline in
sales revenue for the past 2 years tells us that the company badly needed a boost in the sales,
this is where the opportunity from Hi-Valu comes in handy.