Appendix B – Financial Aspects of Marketing
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CHAPTER CONTENTS
PAGE
POWERPOINT RESOURCES TO USE WITH LECTURES …………………………………….B-2
LECTURE NOTES …………………………………………………………………………………………………..B-5
POWERPOINT RESOURCES TO USE WITH LECTURES
PowerPoint
Textbook Figures Slide
Figure B-1 The Caplow Company operating statement …………………………………………………………. B-3
Figure B-2 How to calculate selling price, markups, markdown, stockturn rate, and
return on investment (ROI) ………………………………………………………………………………. B-8
Excel Spreadsheets
Standard markup on cost [See AppBStandardMarkupCost.xls] ………………………………………………. B-9
Standard markup on selling price [See AppBStandardMarkupSell.xls] ……………………………………. B-9
Markdown [See AppBMarkdown.xls] …………………………..……………………………………………………… B-9
Stockturn rate [See AppBStockturnRate.xls] ………………………………………………………………………… B-10
Return on investment (ROI) [See AppBROI.xls] ………………………………………………………………….. B-11
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LECTURE NOTES
THE CAPLOW COMPANY
• Jane Westerlund bought an existing retail picture frame store, The Caplow Company.
• Westerlund chose three kinds of business activities:
1. Cutting the frame, mats, and glass for customers who brought in their own
pictures or prints to be framed.
2. Selling prints and posters that she had purchased from wholesalers.
3. Restoring high-quality frames and paintings.
A. The Operating Statement [Figure B-1]
• The title of the operating statement for Caplow shows it is for a one-year period.
• The operating statement:
a. Is also called an income statement or profit-and-loss statement.
b. Summarizes the profitability of a business firm for a specific time period,
usually a month, quarter, or year.
• The purpose of an operating statement is to show the:
a. Profit of the firm.
b. Revenues and expenses that led to that profit.
• This information:
• The left side of Figure B-1 shows three key elements to all operating statements:
a. Sales of the firm’s products and services.
b. Costs incurred in making and selling these products and services.
c. Profit or loss, which is the difference between sales and costs.
1. Sales Elements.
a. The sales elements of Figure B-1 have four terms that need explanation:
• Gross sales.
– Represent the total amount billed to customers.
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– Are reduced through returns or allowances by:
* Dissatisfied customers.
* Errors.
• Returns.
– Occur when a customer gives the item purchased back to the seller,
who either:
* Refunds the purchase price.
* Allows the customer a credit on subsequent purchases.
– In any event, the seller now owns the item again.
• Allowances.
– Are given when:
– Unlike returns, in the case of allowances the buyer owns the item.
• Net sales. Are simply gross sales minus returns and allowances.
b. The operating statement for The Caplow Company shows Gross Sales less
Returns and Allowances = Net Sales
c. The low level of returns and allowances shows the picture frame shop:
• Has done a good job in satisfying customers, which…
• Is essential in building the repeat business necessary for success.
2. Cost Elements.
a. Cost of goods sold (COGS).
• Is the total cost of the products sold during the period.
• Varies according to the kind of business.
• A retail store:
– Purchases finished products.
– Resells them to customers without reworking them in any way.
• A manufacturing firm:
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• All these activities are reflected in the cost of goods sold item on a
manufacturer’s operating statement.
• The Caplow Company has features of both:
– A pure retailer (prints and posters it buys that are resold without
alteration).
– A pure manufacturer (assembling the raw materials of molding,
matting, and glass to form a completed frame).
• Terms that relate to cost of goods sold:
– Inventory.
* Is the physical material purchased from suppliers.
* May or may not be reworked.
– Purchase discounts.
* Are reductions in the original billed price.
* Examples: Prompt payment of the bill or the quantity bought.
– Direct labor.
* Is the cost of the labor used in producing the finished product.
* For Caplow: Is the cost of producing the completed frames from
the molding, matting, and glass.
– Gross margin (or gross profit).
* Is the money remaining to:
◊ Manage the business.
* Is net sales minus cost of goods sold.
• The two right-hand columns in Figure B-1 between “Net sales” and
“Gross margin” calculates the cost of goods sold.
• This section considers:
– The beginning and ending inventories.
– The net cost of purchases delivered during the year.
– The cost of the direct labor going into making the picture frames.
• Subtracting the $36,000 cost of goods sold from…
– The $80,000 net sales gives…
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– The $44,000 gross margin.
b. Three major expense categories in Figure B-1 below the gross margin include:
• Selling expenses.
– Are the costs of selling the product or service produced by the firm.
– For Caplow: There are two such selling expenses:
• Administrative expenses.
– Are the costs of managing the business.
– For Caplow: Includes three expenses:
* The owner’s salary.
* A part-time bookkeeper’s salary.
* Office supplies expense.
• General expenses.
– Are miscellaneous costs not covered elsewhere.
– For Caplow: Includes these seven expense items:
* Depreciation expense (equipment). * Utility expenses.
• For Caplow: Selling, administrative, and general expenses total $37,600.
3. Profit Element.
a. Profit before taxes.
• Is what a company has earned.
B. General Operating Ratios to Analyze Operations
• Looking at the elements of Caplow’s operating statement that extend to the right-
hand column highlights the firm’s performance on some important dimensions.
• Using operating ratios such as expense-to-sales ratios for expressing basic
expense or profit elements as a percentage of net sales gives further insights.
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• Caplow can compare its performance from one time period to the next. It:
a. Should keep the same definitions for each operating statement element.
b. Is a significant factor in using the electronic spreadsheets.
• Performance comparisons between periods will be more difficult if she changes
definitions for the accounting elements in the operating statement.
• To analyze its performance, Caplow can use either:
a. The dollar values.
b. The operating ratios:
• The value of the element of the operating statement…
• Divided by net sales.
• The operating ratios are more valuable than the dollar values for two reasons:
a. The simplicity of working with percentages rather than dollars.
b. The availability of operating ratios of typical firms in the same industry which
(published by Dun & Bradstreet and trade associations).
• Caplow can:
a. Compare its performance with those of:
b. Identify where her operations are better or worse than other similar firms.
c. Example: If a typical picture frame shop of Caplow’s size…
• Had a ratio of cost of goods sold to net sales of 37 percent…
• Compared with its 45 percent.
• Caplow might consider steps to reduce this cost through:
* Purchase discounts.
C. Ratios to Use in Setting and Evaluating Price [Figure B-2]
Using The Caplow Company as an example, there are four ratios that relate to setting
a price: (1) markup, (2) markdown, (3) stockturns, and (4) return on investment.
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1. Markup.
a. Both markup and gross margin:
• Refer to the amount added to the cost of goods sold to arrive at the selling
price.
• May be expressed in either dollar or percentage terms.
b. The term markup is more commonly used in setting retail prices.
c. Suppose the average price Caplow charges for a framed picture is $80.
d. Then in terms of the first two definitions in Figure B-2 and the earlier
information from the operating statement.
e. The 3rd definition in Figure B-2 gives the percentage markup on selling price:
Markup on Selling Price (%) = (Markup ÷ Selling Price) x 100
g. Inexperienced retail clerks sometimes fail to distinguish between the two
definitions of markup, which…
• Can represent a tremendous difference.
• Is essential to know whether the base is cost or selling price.
h. Marketers:
• Generally use selling price as the base for talking about markups unless…
• Specifically state that they are using cost as a base.
i. Retailers and wholesalers that…
• Rely heavily on markup pricing (discussed in Chapter 14)…
j. The two equations below show how to convert one to the other:
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k. Using the data from The Caplow Company gives:
l. Consider the use of an incorrect markup base in Caplow’s business:
• A markup of 122.2 percent on cost of goods sold for a typical picture
m. If a new clerk:
• Erroneously prices a framed picture at 55 percent of cost of goods sold…
• If the error is repeated, it could be disastrous for Caplow:
a. A markdown:
• Is a reduction in a retail price that is necessary if the item…
• Will not sell at the full selling price to which it has been marked up.
b. The item might not sell for a variety of reasons. Perhaps:
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• The item has become soiled or damaged.
c. The seller “takes a markdown” by:
d. The markdown percentage cannot be calculated directly from the operating
statement.
e. Suppose Caplow had a total of $700 in markdowns on the prints and posters
that are stocked and available for sale.
• Since the frames are custom made for individual customers…
• There is little reason for a markdown there.
f. Caplow’s markdown percent is then:
g. Other kinds of retailers often have markdown ratios several times this amount.
• Women’s dress stores have markdowns of about 25 percent.
• Menswear stores have markdowns of about 2 percent.
3. Stockturn Rate.
a. Stockturn rate, or simply stockturns:
b. For a retailer:
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c. When a firm sells only a single product:
d. The 6th item in Figure B-2 shows how to calculate stockturn rate using
information in the operating statement:
Stockturn Rate = Cost of Goods Sold ÷ Average Inventory at Cost
e. The dollar amount of average inventory at cost is calculated by:
• Adding the beginning and ending inventories for the year and…
f. From Caplow’s operating statement:
Stockturn Rate = Cost of Goods Sold ÷ Average Inventory at Cost
g. What is considered a “good stockturn” varies by industry.
• Supermarkets:
• For pet food, the stockturn rate is about 22 times per year.
• For paper products, the stockturn rate is about 25 times per year.
4. Return on Investment.
a. Return on investment (ROI):
• Is the ratio of net income to the investment used to earn that net income.
b. To calculate ROI, it is necessary to:
• Subtract income taxes from profit before taxes to obtain net income…
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c. The balance sheet:
d. One definition for investment is “total assets.”
e. Assume that Caplow’s total assets (investment):
f. If Caplow:
g. Using the ROI ratio, the last item in Figure B-2, Caplow’s ROI is:
h. If Caplow wants to improve its store’s ROI next year, the strategies are found
in this alternative equation for ROI: