Determination of relative winnings as a result of price management
Why, however, for the needs of pricing is it so important to know the real unit costs per unit of product or service? There are at least three reasons for this.
First, this is the most important step to creating a cost management system and monitoring their dynamics, adequate to the pricing needs. The fact is that usually accountants are more concerned with controlling the dynamics of variable costs. However, as practice shows, even the best variable cost control system does not always allow you to catch the real dynamics of fixed costs. But they, as we have already established above, include conditional-constant costs, which can significantly affect the results of price decisions.
Secondly, the definition of such costs gives firm managers the opportunity to identify the minimum price at which a firm can afford to sell an additional amount of this product. At the same time, it becomes possible to take such a decision in such a way that it does not distort the results of price decisions regarding other goods or services of the firm.
How to ...
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Thirdly, it becomes possible to determine the amount of winnings from the sale of each additional unit of the product. And this is especially important for us, as it allows us to make really well-founded and leading price increases to the profitability of the firm.
The winning index (contribution) is an important tool for the financial analysis of the firm's performance, even more important than the profit measure. The scheme of its calculation is simple: winnings mean everything that remains to the firm from the sales proceeds of a unit of the commodity, minus the variables (direct) costs of manufacturing the goods (rendering services).
It is from the win (if any) that the firm covers its fixed costs. And everything that remains above this becomes a profit.
The most correct option for calculating the amount of gains from the sale of a unit of goods is described by the following equation:
where C and - the gain from the sale of a unit of goods (unit contribution ); MR - Marginal revenue from the sale of goods, which is equal to the price of its actual implementation (marginal revenue ); MS - Marginal costs of production or purchase price plus unit costs of selling a unit of goods (marginalcost).
If we now calculate the size of the firm's profit as a percentage of the price of the commodity, we get a relative indicator of the "sales profitability", which is very important for managerial analysis. As a matter of fact, it shows that share of the absolute value of the price, which helps to compensate for the firm's constant costs, increase its profits or reduce losses.
This indicator should be distinguished from the profitability (profitability) indicator of sales, which is widely used in the financial analysis system (for example, for analyzing the dynamics of the company's financial results by years or comparing the success of various firms in the same industry). Profitability of sales characterizes the average share of profit in sales revenue (price) after deducting all types of costs.
Meanwhile, in order to justify price decisions, as we have established above, it is not so much the average as the incremental indicators that are important to determine clearly the measure of the positive or negative impact of a particular price decision on the profitability of the firm as a result of increasing or cutting sales. And the difference arises from the fact that even with invariable variable costs, the level of profitability on the sold products may be higher than the average, because some of the costs of the firm are by nature permanent or even non-returnable. Thus, the relative gain of a firm can be determined by us as the share of the price of an additional sold product, which remains after the additional costs for its production and marketing are covered.
If we are dealing with a situation where the specific variable costs for the entire sales volume affected by our price solution are the same, you can calculate the relative gain based on the consolidated sales data without special errors. To do this, we need to first determine the sales revenue and the gross profit of the firm as a result of sales growth (recall that it is equal to sales revenue minus incremental, preventable variable costs), and then calculate based on the following formula:
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where CM p - relative gain (percentage contribution margin ), %; ТСМ - total profit from sales (total contribution margin ), rub .; SR - sales revenue (sales revenue ), rubles.
If we are dealing with another situation, when the specific variable costs for the release of additional quantities of goods are not the same (for example, part of this amount is issued through overtime work of staff, which is accompanied by an increased pay), then the calculation must be done in a different way.
First we need to determine the specific absolute winnings only for the volume of goods that is affected by our price decision. It (with some simplification, if we can not calculate the marginal costs) is calculated as follows:
where C a - the specific absolute gain (absolute contribution) ', P - price; C - variable (direct) production costs.
At the same time, of course, we are talking only about those variable costs that are necessary to produce just this volume of goods, and which are preventable. Having determined the specific absolute gain, we can now correctly determine the value of the relative gain and for the situation when the values of the specific variable costs differ. For this calculation, we can use the following formula:
The relative gain, in its economic essence, characterizes the degree of influence of the growth of the firm's sales volumes on its profit. So, this indicator allows you to directly link marketing policy with financial results, and therefore make price decisions more reasonably.
So, the higher the relative gain for a particular product, the easier a firm can go to reduce its price for the sake of increasing sales. Understanding this, we can now use the scoring indicator to quantify the boundaries of the acceptability of price decisions.
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