OPERATIONAL FINANCIAL MANAGEMENT

Operational Financial Management

Operational Financial Management

Introduction

An organization has to determine as to whether starting a new product line is a profitable option or not (Kotler & Armstrong, 2004, 111 - 112). In order to do so, a detailed financial analysis needs to be performed using decision-making costing techniques, which elaborate all the aspects of costing and present a clear picture of the feasible option. Similarly, this company also seeks to expand its operations and start a new product line in order to earn profits.

Current Profitability Level

The financial objectives are clear that the company is producing goods to earn profits. However, certain objectives have to be clearly mentioned that include the idea that the organization will be continuing the business as a going concern. The organization will shift from one decision to another in order to generate profits, which is clearly reflected in the fact that a new product line is being introduced.

The current profitability is very high due to the controlled costs that the company bears to produce the unit. The current sales revenue is £ 10,000,000 and the expenditures are only £ 5,110,000. The calculations are based on the following provided data set:

Total Sales Revenue £ 10,000,000

The Material A Costs £ 2,200,000

Other Material Costs £ 200,000

Fixed Overhead (Department 1) £ 800,000

Fixed Overhead (Department 2)£ 120,000

Variable Overhead (Department 1)£ 60,000

Variable Overhead (Department 2)£ 80,000

Labour Hours (Department 1)£ 1,000,000

Labour Hours (Department 2)£ 650,000

The profitability is great due to the fact that the expenditures are much less than the gain in selling the products. The expenditures make up a little more than fifty percent (50 %) of the total costs. The profitability is detailed in the Table 1 below and all the calculations regarding this table are provided in the appendix.

Table 1 - Current Product Line

Sales Revenue

£ 10,000,000

Less: Variable Cost

Direct Material Cost (Material A)

£ 2,200,000

Direct Labour Cost

£ 1,650,000

Variable Overheads

£ 140,000

(£ 3,990,000)

Contribution Margin

£ 6,010,000

Less: Fixed Costs

Indirect Material (Other Material)

£ 200,000

Fixed Overheads

£ 920,000

(£ 1,120,000)

Net Profit

£ 4,890,000

Introducing the New Product Line

In order to decide whether the new product line should be launched or not, the company management must determine all the costs that have to be incurred to produce the new product. Apart from that, the overall impact that the new product line will bring to the company should be known. Thus, it is important that all the variables be considered and incorporated into the calculations of decisions making process.

An organization must take into account the methods that ensure that the organizational goals, its performance and operations are aligned (Crawford, 2002, pp 188). The costing technique that will be used would be Marginal Costing. This is because the marginal costing provides a good picture for comparison of two or more aspects of calculating costs (Hisrich, Peters & Shepherd, 2001, pp 87 - 90). Marginal Costing also enables the decision makers to calculate the breakeven point easily as it provides fixed costs and variable costs separately. The most important aspect of using marginal costing for the purpose of assessing a costing decision is ...