Lille Tisages

Lille Tissages, S. A.

Background

Lille Tissages, S.A. was one of the largest companies in the textile industry located in Lille, France.

Its 2003 sales had exceeded FF96 million out of which 2.6% was for item 345. Item 345 was one of the most successful products. In its prime years from 1998 – 2001 they had a market share for Item 345 of 35%. In 2002 the market share dropped to 30%, and then continued to drop in 2003 to 20%. See exhibit 1. This is believed to have been caused by Lille Tissages, S.A. raising the price of Item 345 from FF15.00/m to FF20.00/m in 2002, while the competitors kept their price atFF15.00/m.

The reason for raising the price in 2002 was the need to bring the profit per meter up to that of other items on the line. Although the company was in a strong position financially, it would require considerable capital in the next few years to finance a recently approved long-term modernization and expansion program.1

Facing stiff competition the senior management needed to reconsider the pricing plan for Item 345. So in early 2004 they held a meeting to decide in which direction to go.

A reasonable forecast of industry volume for 2004 was 700,000 meters.

The sales director proposed that if the firm were to reduce the price of Item 345 to FF15.00/m, they would be able to increase sales to 175,000 units (or 25% of industry volume). But if they were to keep the price at the current value of FF20.00/m, they would be able to sell not less than 75,000 units (or 11% of industry volume).

Questions

1. Should Lille Tissages, S.A. lower the price to FF15.00/m? (Assume no

intermediate prices are being considered.)

2. If the department that produces Item 345 was a profit center and if you were

the manager of that department, would it be to your financial advantage to

lower the price?

3. Is there any possibility that competition might raise their prices if Lille

Tissages, S.A. maintains its price of FF20.00/m? If so, how do you take this

fact into your analysis?

4. At FF15.00, will Lille Tissages, S.A. earn a profit on item 345? How do you

decide?

Question 1

Should Lille Tissages, S.A. lower the price to FF15.00/m? (Assume no intermediate prices are being considered.)

To determine if Lille Tissages, S.A. should lower the price to FF15.00/m or not we need to consider the Variable costs and the Contribution margin associated with Item 345.

Variable costs: “Variable costs are costs that vary with the volume of activity”2 and they are: direct labor, Materials, Material spoilage & direct department expenses.

Fixed costs: “Fixed costs are those that are independent of the level of activity”3 and they are: indirect department expense, Selling and Administrative expense, and General overhead.

Changing the price will alter the unit contribution margin, which is the sale price

minus variable cost.

We can see that with a selling price of FF 20.00 / meter the

contribution margin per meter is FF13.20. If Lille Tissages, S.A. is to reduce the

selling price to FF15.00 / meter the contribution margin per meter will be FF8.51.

Contribution Margin at FF15.00 / meter

Lille Tissages, S.A. expects to be able to sell up to 175,000 meters of Item 345 at

FF15.00 / meter.

Selling price: 15.00

Contribution /unit: 08.51

Total contribution: 1489250.00

Contribution Margin at FF20.00 / meter

Lille Tissages, S.A.expects to sell not less than 75,000 meters of Item 345 at FF20

Selling price: 20.00

Contribution /unit: 13.20

Total contribution: 990000.00

The other