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Baptiste

on Apr 30, 2025

Europe

Question about

Why do we assume cost is 0.7c per envelope in new profit calculation?

Hi all!

I do not understand why we take 0.7c as the cost per envelope when calculating the new profits (section III.).

My reasoning:

0.7c is the total cost we calculated per envelope when company was producing 50m units.

However those costs include fixed and variable costs (COGS).

Hence, when calculating the new profits we should assume gross margin remains the same at 36% and that fixed costs remain the same at 17m.

Profits would then be 75*0.9 - 75*36% - 17m ~ 23.5m.

Any comment?

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Top answer

Daniel

Coach

on May 01, 2025

Ex-McKinsey, Bain & Kearney | 5+ yrs consulting, coaching & interviewing | 95%+ candidate success

Hi,

the case states that the unit costs are already optimized so no change. The gross margin cannot remain the same if the price is lowered.

Hope this helps.

2 comments

Baptiste

on May 01, 2025

Hi, Regarding gross margin your point is correct and my reasoning wrong but the result is the same. Reasoning should not be 75m$ revenues * 36%, but 75m units * variable cost per unit so 75*0.36 however since the initial price was 1 dollar per unit the result is the same 27m. As per the fact that the unit costs are already optimized, to me the way is it written is not perfectly clear. It sorts of imply that at current situation 50m the costs cannot go down (to avoid interviewee going in that direction) but in no way it says that fixed costs should be considered variable. It would make no sense imo that R&D, SG&A and Labor cost would grow proportionally with revenues, just like variable costs would do. Best,

Daniel

Coach

on May 01, 2025

Ex-McKinsey, Bain & Kearney | 5+ yrs consulting, coaching & interviewing | 95%+ candidate success

The case wanted the interviewee to ask these questions - I hope your interviewer then provided proper guidance. Fixed costs are never variable costs - you can however take the fixed costs and divide them by the units produced to get the average fixed costs per unit, yet these are not variable costs. The assumption was based on the costs being optimized and hence remaining unchanged, so you have to work on your topline.