Baldwin Bicycle Company

1
Baldwin Bicycle Company

• Analysis of Case 26-5
• Bryan Jerrett
• Louise Krogh
• Sherrie Reynolds
• Nov. 9, 2005

2
Overview

• Synopsis of case
• Definition of Problem
• Possible Alternative Solutions
• Evaluation of Quantitative Factors
• Evaluation of Qualitative Factors
• Recommendations

3
Synopsis of Case

• Baldwin Bicycle Company (BBC) has been making
  above average bicycles for almost 40 years
• Hi-Valu Stores Inc. (HVS) has approached BBC to
  produce a house-brand of bicycles for them
• Hi-Valu wants the Challenger to look different
  and cost less than Baldwin's regular line
• Preliminary financial analysis of the proposal is
  needed

4
Problem Statement

• The Hi-Valu offer represents a chance for BBC to
  increase production capacity but at a greater
  cost per unit than its current product.

5
Alternative Solutions

• Because the quantity and buying price put forth
  by Hi-Valu are non-negotiable, and assuming that
  laying off the excess capacity is not a
  possibility, the number of alternatives are
  limited
• Reject the proposal/maintain status-quo
• Accept the proposal

6
Quantitative Factors

• In conducting preliminary financial analysis,
  Suzanne Leister must consider quantitative
  elements in order to determine which alternative
  would be most financially beneficial to BBC
• These include
• Differential revenues
• Differential costs
• Cost of sales, one-time costs, asset-related
  costs, tax expenses
• Differential profit

7
Balance Sheets
Base case balance sheet Alternative balance
sheet
8
Income Statements
9
Differential Revenues

• Differential revenues those revenues that are
  different under one set of conditions than they
  would be under another
• Conduct a comparison of the projected revenues
  for the base case scenario (reject proposal) and
  the alternative scenario (accept proposal)

10
Differential Revenues

• Reject Proposal
• Projected sales
• 100,000 bikes
• Unit price
• 110.05
• Sales revenue
• 11,005,051

• Accept Proposal
• Projected sales
• 97,000 Baldwin
• 25,000 Challenger
• Unit price
• 110.05
• 92.29
• Sales revenue
• 12,982,150

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Differential Costs

• Differential costs those costs that are
  different under one set of conditions than they
  would be under another
• Conduct a comparison of the projected costs for
  the base case scenario (reject proposal) and the
  alternative scenario (accept proposal)

12
Differential Costs

• Reject Proposal
• Unit cost
• 81.43
• Cost of sales
• 8,143,454
• Income tax expense
• 233,945

• Accept Proposal
• Unit cost
• 81.43 Baldwin
• 83.90 Challenger
• Cost of sales
• 9,996,651
• Asset-related costs
• 95,379
• Income tax expense
• 244,787

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Questions 1-4

• What is the expected added profit from the
  Challenger line?
• What is the expected impact of cannibalization of
  existing sales?
• What costs will be incurred on a one-time basis
  only?
• What are the additional assets and related
  carrying costs?

14
Differential Profit (Year 1)

• Revenue Total Costs Profit
• Reject Proposal 273,652
• Accept Proposal 286,333
• Difference 12,681
• By accepting the proposal, BBC stands to make
  12,681 more than by maintaining the status-quo

15
Differential Profit (Years 2 3)

• Three year contract between BBC and HVS
• One-time costs of 5000 are incurred by BBC in
  year one
• Profit from yrs. 2 and 3 increases, from yr. 1,
  by 2,696 resulting in a total differential
  profit of 15,377
• Expenses Income Before Taxes Income Tax
  Expense

16
Cannibalization

• Cannibalization to deprive of vital elements or
  resources, such as personnel, equipment, or
  funding, for use elsewhere
• The impact of cannibalization is the 3000 less
  Baldwin bikes expected to be sold, plus the
  uncertainty of the success of the Challenger line
  of bikes

17
One-time Costs

• The one time costs that are incurred are the
  5000 associated with the preparations of
  drawings and designs and procuring sources for
  fenders, seats, handlebars, tires, and shipping
  boxes

18
Assets and Carrying Costs

• The additional assets are the increases in
  inventories and receivables associated with the
  addition of the production of the Challenger line
• The increase in inventory is 269,633 and the
  increase in receivables is 247,138
• The added carrying costs are 23 of added
  inventories and 13.5 of added receivables which
  amount to 62,015 for inventories and 33,364 for
  receivables

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Question 5

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

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Ratio Analysis
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Qualitative Factors

• A decision cannot be based solely on numerical
  analysis
• While numbers may appear favourable, it is
  imperative to consider the unmeasurable factors

22
Qualitative Factors

• While calculations are useful in narrowing down
  alternatives that should be considered,
  qualitative analysis assists in making the final
  judgement
• For each alternative there are associated risks
  and rewards

23
Question 6

• What are the strategic risks and rewards?

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Reject Proposal

• Risks
• BBC may face continually declining sales due to a
  poor economy
• BBC will continue to produce at only 75
  production capacity

• Rewards
• Maintain loyalty from current distributors
• Maintain 40-year reputation for above average
  quality and price

25
Accept Proposal - Risks

• Current dealers may drop Baldwin line
• Current dealers may request a similar product
  (Challenger)
• Loss of street cred
• Putting faith in a new product

• BBC may find itself with an abundance of
  Challenger-specific inventory
• Extra costs may result in having to use cheaper
  materials

26
Accept Proposal - Rewards

• With Challenger line, BBC will be producing at a
  higher capacity
• Greater penetration of the market through new
  market segments

• If Baldwin name is not on the Challenger bike,
  BBC's reputation may not be damaged
• Strong Challenger sales may balance weak Baldwin
  sales

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Question 7

• What should the company do and why?

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Recommendations

• Because there is a lack of research conducted
  regarding the new Challenger line, uncertainties
  exist as to how it will fare in the market
• However, because of the poor state of the economy
  accepting the proposal from HVS is a good idea
  for BBC
• Raise production capacity from approx. 75 to
  approx. 97
• Increase in Challenger sales could offset
  decreasing Baldwin sales

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Recommendations

• The condition of the economy is unlikely to
  improve in the short term, therefore taking a
  risk on a three year contract that projects
  favourable sales promises a better situation than
  they are currently facing
• Based on the information given, Baldwin Bicycle
  Company should accept Hi-Valu's proposal

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Thank You!