How to find out categories of core business generate positive earnings contribution

Question

In the solution it is said to remove the category of products under 5 EUR from the core business since it does not provide a positive earnings contribution. From Table 2 I can see the gross margins and that particular category is very low (5%). However, I could not find any other information of fixed costs structure to conclude if indeed only that category does not contribute for positive earnings.

Answer 1

Since the profit margin keeps constant over years, I doubt the client did not have a proactive plan for supplier management. What they are selling can likely be found from many suppliers in China, Southeast Asia, etc. The paramount action is to review the supplier, and come up with a supplier portfolio forecasting/management plan to bring down the cost of purchasing. Moreover, with the data provided, we still don't know if the decline of 31-70EUR portion is due to a product mix strategy problem or a change in market sentiment. It's possible customers are more budget-conscious with their spending lately. We would need customer survey data or some longitudinal data to verify this hypothesis.

Assuming it's true, it would likely be disastrous to get rid of the 5EUR tier, because eliminating this price point will not necessarily drive customers to buy more higher profit margin products. They may just quit the brand altogether and seek cheaper options elsewhere.

Answer 2

Hi Marcelo, I think it says in the case that due to the costs associated with free shipping of the products, those with a gross margin of less than 10% do not contribute to overall profit. Together with Table 2 this implies (from my point of view) that only those products with a price below 5 EUR need to be removed as all other categories have a gross margin higher than 10%. Does this answer your question?

Answer 3

Hello,

You can find your answer in the following pRt of the text:

Based on a conducted investigation, it was found that products with a gross profit margin of less than 10% do not make a positive contribution to earnings due to high shipping costs.

If you take a look at table 2, you see that the only products with gross margin below 10% are the ones <5€.

Best,
Luca