why is the price premium of 25% not taken into account when calculating the breakeven point

Question

Given the fact that they can ask a 25% higher prices this should be taken into account when calculating annual gros profits right?

Answer 1

Hello!

They are taking a percentage market share based on value of the market (vs. volume). This way, if the client's products are at a premium, this just means they would have to sell less wheelchairs (volume) in order to get to that value.

So they don't need to take the premium into account for this calculation (the average price when calculating market size already assumes that there are both cheaper and more expensive options on the market).

Best,

Maria

Answer 2

Hey there,

Breakeven even here refers to the payback period, i.e. the length of time, it would take to recoup the initial investment (or CAPEX rather in this case) from its profits, so this would be defined and calculated as:

Payback period (i.e. breakeven time period) = [ CAPEX ] / [ Profit ]

CAPEX = 100m
Profit = (Market size * Market share * Gross Margin) - Operating Costs
Profit = ($2.16b * 5% * 60%) - 10m = $54.8m (rounded to $55m)

So this becomes [ 100m ] / [ 55m ] = 1.8 years

The premium price of 25% that Comfort Chairs would charge is embedded in the expected market share (5%) assumption, indicating that they expect to obtain total revenue of $2.16b * 5% = $108m. This market share assumption also embeds an approximation for level of sales of wheelchairs. So essentially the 5% market share captures both an average price assumption (that would include the 25% premium over other wheelchairs) and an average expected volume of sales

Feel free to reach out if you'd like to go through this more in detail or if you'd like further explanation