Prestige Telephone Company free essay sample

Bradley felt only more time was needed but Rowe felt action was necessary to reduce the drain on company resources. The subsidiary was originally established as a mechanism by which high and nonregulated returns could be used to boost the profits as well as to provide the computer services. Since the Public Service Commission had encouraged public utilities to seek new sources of revenue as a step toward deregulation and to reduce the need for rate increases which higher costs would bring, the PDS had begun selling computer time not needed by the parent company to other businesses. However, Public Service Commision restricted that the average monthly charge for service by the subsidiary to the parent not exceed $82,000, which was the estimated cost of equivalent services used by the parent company in 1994. By the end of 1996, income of Prestige Telephone Company was low enough giving the lowest return on investment. Rowe felt it was time to reassess Prestige Data Services. We will write a custom essay sample on Prestige Telephone Company or any similar topic specifically for you Do Not WasteYour Time HIRE WRITER Only 13.90 / page Bradley on the other hand asked for more time as she felt the subsidiary would be profitable by the end of the first quarter of 1997. But when the quarterly reports came, the three months ended March 1997 all reported a loss. Rowe resolved to study the subsidiary’s operations and assess its performance first before deciding whether PDS be closed down or sold. II. Problem Statement Based on the subsidiary’s current performance and quarterly reports, should Prestige Telephone Company discontinue the operations of its subsidiary? If not, how can Ms. Bradley prove that Prestige Data Services is still profitable despite its losses and can contribute that much to the company, n order to avoid the top management from what other measures should the company take in order to lead the subsidiary into having profits in the near future. III. Methodology First, an analysis of the current reports have been made in order to understand the nature of the subsidiary’s expenses and revenue. Costs were identified and classified for decision-making. Then an incremental cost-benefit analysis was done to weigh whether it would be more beneficial for the company to discontinue the subsidiary’s operations . Also, various alternative courses of action and scenarios were laid down aside from shutting it down and effects of these courses of actions were also assessed whether it would contribute profits for the subsidiary. Lastly, recommendations were given on how to redesign the reporting system in order to have the most relevant presentation of figures needed in decision-making for the top management. IV. Analysis To discontinue or not? By using incremental cost analysis, it is determined that the company would be better off if they would continue operating its subsidiary rather than to sell or shut it down. Both alternatives would incur losses however shutting it down would result to larger amounts of losses which includes the costs needed to outsource the data services and the contribution margin forgone from the subsidiary. Based on the first quarter reports of PDS, space, equipment costs (not including power), and salaries and the fixed portion of expenses the subsidiary incur every month. On the other hand, power and operation wages vary according to the use of computers. The overall cost of running Prestige Data service is quite high as the expenses are more than the revenue thus incurring net losses for the first quarter of 1997. In analyzing the cost-benefit of discontinuing the subsidiary, only the variable costs are relevant and will be considered as well as the opportunity costs. -DISCUSS EXCEL- Also, the non-cancelable leases on computer equipment has still four more years to run. If the company would discontinue the subsidiary, they will still have to pay for the lease without earning revenues from them. In addition to, the bottomline for the month of March would happen to be a profit if the depreciation is added back, giving a hint that the subsidiary can give inflows to the company and that time may still be needed to prove its profitability. To conclude, there is no need for the company to discontinue the operations of its subsidiary. How can the subsidiary be more profitable? CVP analysis Variable costs include power, operations wages, materials and sales promotions. Needed hours per month to breakeven? Sensitivity analysis a. ncrease price, decrease demand b. decrease price, increase demand c. increase promotions, increase demand d. 2 shifts (16 hours) rather than operating at 24 hours V. Conclusion and Recommendations It is therefore concluded that there is no need for the Prestige Telephone Company to discontinue its subsidiary, the Prestige Data Services, as it is promising to bring the company profits and savings. With just the right changes in relevant factors such as price s and variable costs, the subsidiary can make it to have positive bottomlines. It is recommended for the management of PDS to prepare a statement of cashflows in order to assess the actual inflow or outflow of cash from the subsidiary. Also, the financial statements can also be presented with the contribution margin the subsidiary brings. It would also be helpful if both the balance sheets of the parent company and subsidiary are shown for better analysis. With the decision to continue the subsidiary, it is also recommended to assess again its profitability after four years or when the computer leases has already expired. Prestige Telephone Company free essay sample Prestige Telephone Company Scott Johnson, Nicole Phillips, Ashton Shuler, Brandy Watts February 25th, 2014 Group Contributions Responded to all texts, discussion boards, and emails Participated in online chat and conference call Answered question 3 Provided the framework of how the case would be set up Suggested new ideas for later projects on how to discuss our topic Responded to all texts, discussion boards, and emails Participated in online chat and conference call Answered question 2 Set up a conference call, but we could not all attend, so we decided on a later time Came up with the idea we all should write a short conclusion for each question to make it easier to write a bigger one at the end of the case Responded to all texts, discussion boards, and emails Participated in online chat and conference call Answered question 4 Formatted the case into the format needed Set up the FaceBook message we used to check in with each other and share ideas Responded to all texts, discussion boards, and emails Participated in online chat and conference call Answered question 1 Set up a conference call where we confirmed what question each person would answer Made sure everyone was up to speed on what the individual expectations of the group would be QUESTIONS 1. We will write a custom essay sample on Prestige Telephone Company or any similar topic specifically for you Do Not WasteYour Time HIRE WRITER Only 13.90 / page ) Appraise the results of operations of Prestige Data Services. Is the subsidiary really a problem to Prestige Telephone Company? Consider carefully the differences between reported costs and costs relevant for decisions that Daniel Rowe is considering. In deciding whether Prestige Data Services is a problem to Prestige Telephone Company, we must look at the benefits and costs that are associated with both the company as a whole and as separate functioning parts. While the subsidiary looks to show a loss while standing on its own, it was initially created to provide services to the parent company. The benefits that it provides to the parent company allow them to operate at a lower cost of service. When we look at the shared costs that the data company and the telephone company have (accounting, payroll, etc) we have to remember that if the data company was not there, the costs of the shared services would be completely associated to the telephone company. Also, the services that the data company provides are at a much lower cost to the telephone company. It is hard to look at the activities in the two companies separately because they are dependent upon one another for services and that is why the subsidiary was created initially. Prestige Data Services allows Prestige Telephone Services to reduce their costs in two ways – shared expenses and reduced supply chain costs. From this point of view, the subsidiary is not a problem for the parent company; it is a benefit to them. 2. ) Assuming the company demand for service will average 205 hours per month, what level of commercial sales of computer use would be necessary to break even each month? In order to determine the level of commercial sales of computer use needed to break even each month, we had to start by determining and separating the companies fixed and variable costs in order to apply the break even calculation: Contribution margin 🙠 800-4. 53-80. 13) = $715. 34 Since the Prestige Telephone Company has an agreement with the Prestige Service Commission (PSC) to cover $82,000 of the total costs, we had to consider their contribution when calculating the breakeven point: (total FC) – [(PSC contribution) – (average monthly hours of demand*VC / unit)] / Contribution Margin FC = (9240+95000+5400+25500+680+12000+9000+11200+7677+15340) = 191,037 191,037–[(82,000–(205*84. 66)] = 176. 69 hour By taking the 176. 69 hours times the $800 per hour for commercial sales would = $141,532 in sales needed each month in order for the company to break even. 3. ) Estimate the effect on income of each of the options Rowe has suggested if Bradley estimates as follows: a. Increasing the price to commercial customers to $1,000 per hour would reduce demand by 30%. In March 2003, demand was for 138 hours, and a 30% reduction would put demand at 97 hours (138 hours x . 70 = 96. 6 hours). $5 Variable Op. wages + $25 Fixed Op. Wages = $30 (Power) Demand x Contribution per hour = Contribution 97 hours x ($1,000 $30) = $94,090 Compared to present 138 hours x ($800 $30) = $106,260 The monthly contribution to fixed costs and income at $800 is greater by $12,170 than the contribution expected at $1,000. Therefore, income will be greater if we retain the $800/hour price to commercial customers. b. Reducing the price to commercial customers to $600 per hour would increase demand by 30%. In March 2003, demand was 138 hours for commercial customers, so a 30% increase would put demand at: 179 hours (138 hours x 1. 30 = 179. 4 hours). 179 hours x ($600 $30) = $102,030 Compared to present contribution of $106,260, a price reduction would reduce income by $4,230 per month. c. Increased promotion would increase sales by up to 30%. Bradley is unsure how much promotion this would take. (How much could be spend and still leave Prestige Data Services with no reported loss each month if commercial hours were increased 30%? ) This increase would also move the hours up to 179 hours per month. At $800 per hour, the total contribution would be: 179 hours x ($800 $30) = $137,830 An amount up to the difference between this new contribution and the present contribution of $106,260 or $31,570 could be spent without reducing income. d. Reducing operations to 16 hours on weekdays and eight hours on Saturdays would result in a loss of 20 of commercial revenue hours. Reducing hours would reduce demand for commercial revenue hours by 20%, from 138 hours to 110 hours. At that level, the total contribution would be: 110 hours x ($800 $30) = $84,700 or $21,560 less than current costs. A loss of $21,560 would not offset the savings of variable costs each month. 4.  ) Can you suggest changes in the accounting and reporting system now used for operations of Prestige Data Services which would result in more useful information for Rowe and Bradley? Clearly seen in the case, Prestige Data Services has chosen to use the absorption costing method. The variable costs and the fixed costs are all mixed in through the different categories of costs. When you use absorption costi ng, you do not get the true value of your expenses when it comes to an internal point of view. The operations and power costs need to be set apart from the rest of the costs. As of right now, there is an excess of power and operations costs that are not being used. This excess of expenses takes away from the revenues, but really nothing is being used. The best option for Prestige Data Services is to switch to a simple allocation based costing model. By switching to the ABC method, Prestige Data services will be able to allocate the variable costs accordingly. They will not be reporting costs that are not even being used. The switch will also help set a proper price to clients and to their parent company Prestige Telephone Company. Prestige Telephone Company free essay sample They provide data services, data processing and computer services to commercial companies as well as to Prestige Telephone Company. The data services company was supposed to be profitable by March of 2003. They have been unable to do so. It is up to Mr. Rowe to convince Ms. Bradley to allow Prestige Data Services to stay in business. In order to assist with the preparation of this meeting, we have reviewed several scenarios to decide about the future of the subsidiary. Assessment of Strategies The subsidiary has failed to show a positive net income for the first quarter of 2003. It has also failed to keep the monthly computer usage billed to the telephone company under the promised $82,000 per month. Granted, February did show fewer revenues, however, it is a shorter month and therefore fewer billable hours available. In light of the continued net losses, we feel that the subsidiary is a problem to the telephone company and they will continue to be so unless significant changes are made. We will write a custom essay sample on Prestige Telephone Company or any similar topic specifically for you Do Not WasteYour Time HIRE WRITER Only 13.90 / page If we assume that the telephone service demand will continue to average 205 hours per month, the level of commercial sales of computer use necessary to break even each month will need to increase 27. 5 hours to 170 hours per month. This will increase the computer use revenue to $136,000. Assuming everything stayed the same as in March, this would allow them to break-even but not profit. He outlined four possible scenarios that might possibly make the subsidiary an asset to the company. The first scenario was increasing the price to commercial customer from $800 to $1000 per hour. The increased cost would reduce demand by 30%; from 132 average hours to 92. 4 hours per month. The monetary effect this would have would drop revenues to $92,400. This creates an elastic demand of 1. 2, which is unadvisable. Ed = . 3 / . 25 = 1. 2 An elastic demand shows that customers are more willing to leave and take their business elsewhere. Next, he looked at reducing the price to commercial customers from $800 per hour to $600 per hour. This reduction would increase demand by 30%; from 132 average hours per month to 171. 6 hours per month. The increased hours at $800 per month would only bring in $102,960. Even though this creates an inelastic demand (. 05) and increases customers, it is still below the revenue that is currently brought in. Ed = . 3 / -. 25 = . 05 This inelastic demand shows that customers are still willing to stay with the company at this reduced cost and it will attract new customers. Rowe determined that increased promotion would increase sales by up to 30%. We determined that increased sales of 30% would equal revenue of $137,280. The difference between the current revenue of 105,600 and forecasted revenue is $31,680 which, if added to the net loss in March, would give $10,242 net profit that could be spend on promotion and advertising (assuming all things stayed the same). Reducing operations from 24 hours to 16 hours on weekdays would result in a loss of 20% of commercial revenue hours. The current hours of 512 hours reduced by 20% would drop to about 410 hours. If we were to assume that a drop of 20% in hours would also mean a drop in variable costs it would still not be enough of a reduction in expenses to cover their net loss. (See Exhibit 1 for calculations). The changes to the accounting and reporting systems that are now used that we think should be made are accounting for the activities of the subsidiary separate from the parent company. We think that a more accurate picture of the revenues would be shown by showing the fees paid to the parent company as opposed to combining the payments to the parent company within the body of the financial statement. Conclusion After careful consideration of all the data and different scenarios proposed by Mr. Rowe, we have concluded that Prestige Data Services should not remain in business. It is apparent that they are unable to stay within the forecasted budget to charge to Prestige Telephone Company of $82,000. As well, they continue to show a considerable net loss month to month. Each scenario proposed did not show a sustainable formula for ongoing success and profitability.