Profit Wheel Analysis
Cash Wheel
This part of the profit wheel is composed of the operating cash, inventory, accounts receivable, and sales. The main question therefore is whether the company has enough inventories, accounts receivable, operating cash, and sales to switch to a private brand of coffee. The answer to which would be a yes. In terms of cash, the company posted an initial cash of 1.121 Billion ITL at the start of the year; the composition of private coffee sales on total sales is continuously increasing month on month and the same goes for the account receivables as well.
Profit Wheel
Sales, investments in assets, operating expenses, and profits would be the main consideration in this area of profit planning. As a whole, Café Bianco still shows a healthy financial picture in terms of these four variables. In terms of sales, its private brand managed to generate some 9.934 Billion ITL in 2000 out of the total sales of 56.112 Billion ITL for that entire year. Operating expenses have been roughly steady as its profits were able to cover for it substantially. Net profit stood at 1.945 Billion ITL for the year 2000 which meant that its operations are going to be sustainable in the near future should it continue to have the same business model that it is using.
ROE Wheel
The main considerations for this part of profit planning would be profits, asset utilization, stockholders’ equity, and return on equity. Among the four, the ROE and ROA should be the most important one as it directly answers the question on whether the company is using its equity and its assets effectively. ROE is obtained by dividing net income over shareholders’ equity. The ROE for Café Bianco would be 0.04. ROA is obtained by dividing net income by assets. The ROA for Café Bianco would be 0.04 as well. Since Café Bianco is just starting out, it would be important to have a positive ROE and ROA values because that means that it is using whatever resources (equity, assets, and cash, among others) to generate a steady income.
Under the above strategy, it would be hard to tell when exactly Café Bianco will start running into some cash problems. The main consideration to answer this question would be how much net cash the company has and whether its cash flow is on a positive or a negative direction. Its initial cash was at 1.121 Billion ITL. Its cash flow is far from being on the negative territory because it is generating a net profit after tax of 1.945 Billion ITL per year. Its operating expenses are flat and have been more than covered by its gigantic revenues. The division that sells private brands of coffee’s total expense is not that high to make a dent on the company’s net profit figures. Moreover, its expenses have been more than covered by its huge sales for the year already. This means that the company’s cash flow is sustainable and so it should not run into any cash problems in the future.
The main recommendation that should be given to Giacomo Salvetti would be to continue the shift towards selling a private brand of coffee with a diverse coffee grade. The key here would be to do the transition slowly so as not to introduce unnecessary shocks into the business, its customers, and most importantly its finances. So far, the private coffee brand division’s revenues represent some twenty percent of the company’s total revenues so it would be too risky a move to make a sudden shift into private branding.
The main assumptions that were made in order to come up with the analysis were: 1) the revenue and profitability figures would be relatively stable with significant growth over the next few years, 2) that the company would continue its shift into a private brand of coffee slowly rather than abruptly. These assumptions are critical in that they could easily tell the difference between a successful and a soon to be bankrupt business for Café Bianco and its owners. A drop in profitability figures over the next years would, for example, undermine the business’ cash situation. That would make it harder than expected to generate the cash it needs to continue funding its plan to shift to a private brand of coffee.
At 7%, the yearly cost of completely shifting to a private brand of coffee with a grade of “A” with an advertising cost of 7% would be 63.616 Billion ITL. This computation is based on the figures from Exhibit 2 where it says that the estimated cost for a private brand coffee graded A would be 35,500 ITL per kg and the estimated volume would be 1,792,000. Would Café Bianco be able to cover this expenditure? The answer is no because its revenues (without all the deductions such as operating and other expenses) is even lower than that at only 56.112 Billion ITL. This would be a foolish move financially because that would surely bankrupt the company.