Question

The marketing manager of Michelin Tire Company is planning to introduce a new replacement tire to the market. The tire will be sold in stores at a price of $120.00 each. The retail stores require a margin of 25%. The wholesalers require a margin of 10%. Replacement tires account for half of all tire sales in the total tire market. The total tire market is estimated to be 20,000,000 units per year.

The variable manufacturing costs needed to produce a tire are $40.00. The cost of the machinery needed to produce the new tire is $15,000,000 per year. The R&D expenses incurred toward developing the new tire are $5,000,000.

In order to help build a quality image for the tire, the marketing manager is considering spending $5,000,000 on advertising. The manager’s salary is $100,000 and the sales personnel of Michelin receive a 5% commission on the selling price.

1.) What unit sales are required for Michelin to break even?

2.) What market share in the replacement tire market does Michelin need to break even?

3.) What is Michelin’s profit if it gets a 10% share of the replacement tire market?

4.) If the wholesalers demand a 20% margin, how many units of tires would Michelin have to sell to break even?

Answer 1

1) Computation of Fixed Cost : Managers Salary - $100000, Advertising Expense - $5000000, Depreciation -$1500000 (Depreciation Rate @10%) =$ 66,00,000

Break even units = 66,00,000/120-40 =82,500

Note : R&D expenditure is considered as sunk cost.

2) Market Share : 82500/10000000 = 0.83%

3) Computation of Profit : Contribution = 80*10%*10000000 = 80000000

Less : Fixed cost = 6600000

Profit = 73,400,000

4) Computation of break even sales: If profit is 20% then fixed cost is 80% and contribution is 100%, Contribution Amount =82,50,000. And PV Ratio is 66.67%, therefore Sales Value = 12,374,381. No.of units =12,374,381/120 =103120 units.