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(that is, overall sales would remain about the same at $1.1 billion but now with services and high-end
each at 25%, or $275 million, and midrange at the other 50%, or $550 million).
What would be the new estimated variable cost percentage, assuming pricing remains constant?
Exhibit 12.6 demonstrates the impact on the variable cost element of the cost structure. The
management of Company X seems to be planning well for this loss of value position. By driving the
higher-contribution service business, if the 25% goal is attained, the cost structure would remain
relatively the same, allowing Company X to maintain profitability at the same revenue level even with
the negative shift of the product business. Unfortunately, sales mixes are always evolving, requiring
constant vigilance of cost structure assumptions of competitors.
Data Reporting Format
In order to be thorough, one needs to read the footnotes that accompany the financial statements of the
company under review. Often nonrecurring events such as write-offs of obsolete inventory are
contained in the cost of sales figure. In this case, Company X did report a $15 million inventory
charge in quarter 1 that was buried in the cost of sales number. This was pulled out of the “cost of
sales” account and transferred to the “Other” account in order to once again focus only on the
recurring nature of the costs. If this adjustment had not been made, the results for the quarter 1 to
quarter 2 analysis would have shown an increase in sales of $35 million and a decrease in cost of sales
of $4 million, clearly a result that makes no sense. Only in the footnotes was this revealed, which in
turn led to the required adjustment which then yielded a meaningful result.
Relevant Range Assumption
So far the examples used to illustrate how cost structure analysis is employed in a competitive setting
have assumed that (1) Company X had idle facilities sufficient to support a 10% increase in output and
(2) a mix change would have no impact on facility requirements. Often this is not the case. The cost
analysis discussed in the preceding pages of this chapter was applicable only for the current output
capacity of Company X. If Company X were to grow beyond this, a new estimate would have to be
calculated. Additional scale factors might drive variable costs down and would certainly increase fixed
costs. Different industries have different inherent relevant ranges.
Exhibits 12.5 X—Product Mix Analysis.