Advising the firm on the right pricing strategy and the financial areas on which the organisation should focus along with preparing the entire budget

Assignment Taken

Financing head of our consultancy firm

Case Understanding

Two friends (Manoj and parth) decided to form a private limited company in Bengaluru, named, pm clean air solutions private limited (PMCASPL). Their idea was basically focused upon how through the natural plants they can help in absorbing bad pollutants from the atmosphere and helps in improving the atmosphere naturally. They did thorough research and came with a final product.They raised Rs. 10 crores equity for 5% stake (valuation-200 crores). In the next round they raised rs.5 crores for 5% stake (valuation-100 crores) along with Rs. 5crore term loan. Their valuation dropped to half which is a point of concern. The major problems in this organization are as follows- 1.Keeping huge fund idle-The organization has already raised Rs. 20 crore funds but still it has allocated Rs.10 crore funds only as budget keeping 50% idle and paying interest cost Of Rs. 60 lacs and 5% stake resulting in no benefit creating an unnecessary burden for the organization.If we would use the full budget, it could result in production of approximately 8000 pieces while now we can only produce approximately 3500 pieces. The fixed cost remains same irrespective of the units. If we produce more, the per unit fixed cost decreases resulting in more profit and greater market share. The company could give tough competition to the market and could expand quickly. This is a kind of bad market strategy. 2.Field executives-The organization currently has only 2 field executives which are very less if they want to achieve bulk production because if the final product is not sold, what they will do by producing it. By keeping more field executives for the product, the company can do bulk production resulting in less variable cost of air sense air loop. 3.Marketing-The company haven’t decided the methods of marketing which is not a good sign keeping in mind that it is a new product and will reach more and more people only if the customers know about it. 4.Cost of developing Air Quality Management System (AQMS)-The cost of developing AQMS is Rs. 1,20,00,000/- which is a huge cost, thus reducing the company’s target market. Also, the fact that it attracts regular updates and maintenances expenses from time to time makes it more expensive. Apart from that, they have a pretty good idea, and this product could well turn out to be a revolutionary product which could yield them super profits in the short run until it could be imitated by competitors. They can charge a premium for their product compared to other competitors. Considering the market size of air purifiers in India, it is around USD 100 million which is expected to grow at a CAGR (compounded annual growth rate) of 34.6% during the next 5 years. The Indian market for air purifiers is growing significantly.This has led to a surge in the adoption of air purifiers as indoor air can be more contaminated than outdoor air since it does not undergo circulation, thereby propelling the market growth.The co. has a very good idea.

BCS Solution Summary

Though the firm had various concerns regarding huge funds idle,field executives,marketing and Aqms cost,they have been addressed as follows by preparing an effective budget of Rs.10 crores which can focus upon all the areas.The solutions are as follows: • Term loan: The company has taken a loan ofINR 5Cr as a Term Loan for a period of 3 years carrying ROI @12% p.a.It carries Rs.60 lacs per annum as interest costs. Also, there are other Rs.5 crore kept idle. The company can look to invest this fund in doing more production. It will result in only hiring more field executives and unit cost (other all costs) remaining the same, but the company could expand resulting in more profits because it charges a revolutionary price and ultimately gaining a good market share. • Field executives: Since the company currently has only 2 field executives and because field executives are the main staff responsible for making the product reach the customer, the organization will need more field executives. So, we have decided to recruit 12 more field executives, taking the total field executives to 14 people. They will be responsible to meet the demands of the customer and the organization can focus on bulk production reducing the variable costs of air sense and air liposome are producing 3500 units in whole year and there are 14 people. So, per person per year the target is 3500/14=250 units which amounts to approx. 21 units per month which is a pretty good target because the field executives must travel to the client’s location. Also, the additional field executive cost per unit is Rs.4680000/3500 pieces=Rs.1337 which is less than 10% of total cost per piece. • Since the product is a revolutionary product, it will require a good amount to be spent on marketing Marketing cost: 75 lacs/3500 pieces=Rs.2143 per piece which amounts to 13.47% cost per piece is for marketing expense. Since the product Is new, this % is a good percentage. Also, the fact that the marketing expenses constitutes 7.5% of the total budget makes it a fair expense. • Cost of developing Air Quality Management System (AQMS): Though the costs of developing AQMS Is high but assuming that AQMS life is at least 20 years with regular updates and maintenance and will be very useful, it will not concern organization a lot.

Solution

“A pricing decision is one of the most crucial & difficult decision that a firm must make. Such a decision affects the long- term survival of any enterprise.”

Accounting information is often an important input to pricing decisions. Most firms need to make decision about setting or accepting selling prices for their products or services.

In consideration to Michael Porter’s theory about creating a superior performance and competitive advantage, a firm’s overall competitive advantage derives from the difference between the value it offers to customer and its cost of creating that customer value. To survive and prosper in industry, firm must meet two criteria– they must supply what customers want to buy and they must survive competition.

To attain superior performance and attain competitive advantage, firm must have distinctive competencies. Distinctive competencies can take any of the following two forms:

Relative low-Cost advantage– A firm enjoys a relative cost advantage if its total costs are lower than those of its competitors. This relative cost advantage enables a business to do one of the following:

▪ Charge a lower price than its competitors for its product or services to gain market share and still maintain current profitability; or

 ▪ Match with the price of competing products or services and increase its profitability

An offering or differentiation advantage– It occurs when customers perceive that a business unit’s product offering is of higher quality, involves fewer risks and/or outperforms products offered by competitors. In other words, customers perceive the product or service offered by a business to be superior. For example, differentiation may include a firm’s ability to deliver goods and services in a timely manner, to produce better quality, to offer the customer a wider range of goods and services, and other factors that provide unique customer value.

A differentiation advantage can be achieved by adopting the following techniques:

▪ Superior Quality

 ▪ Superior Innovation

 ▪ Superior Customer Responsiveness

Manoj and Perth who have completed their b. Tech and resigned from their respective Jobs. Manoj who was closely associated with the R&D of his Air Quality company had an idea to develop a product which was far superior and better compared to other existing purifiers which had limited scope of purification. Since this was a superior service involving superior innovation, the firm can go for differentiation advantage. For example, differentiation may include a firm’s ability on how different pollutants from atmosphere can be absorbed by different plants and helping in improving the atmosphere naturally.

A new product is analyzed into three categories for the purpose of pricing:

Revolutionary Product: A product is said to be revolutionary when it is new for the market and has the potential to create its own value. This type of product has revolutionary impact on the market and consumer behavior

Evolutionary Product: A product introduces upgraded version with few additional characteristics of the product is known as evolutionary product. The evolutionary products may be priced taking cost-benefit, competitor, and demand for the product into account.

Me-too Product: A product is said to be me-too product when its emergence is a result of the success of a revolutionary product. These are known as market followers.

 

This product also meets the characteristics of a revolutionary product since it is new for the market and has the potential to create its own value. It replaces the existing method or technology by using different variety of plants to remove bad pollutants.

 

For PM Clean Air Solutions Private Limited (PMCASPL), they have raised Rs. 10 crores from SAIF capital for a stake of 5% in equity and Rs. 10 crores from judges of a famous television programmers now, they have a budget Of Rs. 10 crores for the financial year 2022-23.

 

The various costs for them are as follows:

1.Air sense and air loop costs: These are variable costs which can be reduced on bulk production (Image-Cost bifurcation of Prototypes). The cost of air sense is Rs.15000 which can be reduced to Rs.10500 per unit depending on bulk production. In the same way the cost of air loop which is Rs.8000 can be reduced to Rs.4400 per unit on bulk production.

2. Air Quality Management System (AQMS): This is a fixed cost since it is mentioned that it will not vary depending on per unit. Its cost is Rs. 1,20,00,000/- and will attract regular updates and maintenances expenses from time to time which will further increase the cost.

3.Other overhead expenses (image-Other overhead expenses that the company is currently incurring)

HEADS	MONTHLY COST(TOTAL)	YEARLY COST(TOTAL)
Salary of two Software Developer	3,00,000	36,00,000
Salary of Web Designer	35,000	4,20,000
Salary of Mobile App developer	80,000	9,60,000
Rent of Premises	25,000	3,00,000
Salary of two Field Executives*	65,000	7,80,000
Two Directors Salary	2,00,000	24,00,000
TOTAL COST	7,05,000	84,60,000

 

*Calculation of salary of 2 field executives:

For first 9 months:30000 per month*2 executives*9 months=540000

For next 3 months:40000 per month*2 executives*3 months=240000

4.Consultancy expenses: Rs.5,00,000 per month (Rs.60,00,000 per annum)

Considering the budget Of Rs. 10 crores for the financial year 2022-23, the overall budget allocation is as follows:

Assuming 3500 pieces each of air sense and air loop

Costs	Calculation	Total (in lacs)
Air sense	Rs.10500*3500 units	367.5 lacs
Air loop	Rs.4400*3500 units	154.00 lacs
AQMS (software)	-	120.00 lacs
Salary and other expenses	Calculated above	84.60 lacs
Consultancy expense	Rs.500000*12 months	60.00 lacs
Interest cost (term loan)	Rs.5crores*12%	60.00 lacs
Marketing expenses		75.00 lacs
Additional field executives(new)	Rs.32500*12*12 executives	46.80 lacs
Regular updates & maintenance in AQMS (assuming 10 lacs p.a.)		10.00 lacs
Contingency reserve in case of price variations		22.1 lacs
	Total amount (in lacs)	1000 lacs/Rs.10 crores

 

• Since the product is a revolutionary product, it will require a good amount to be spent on marketing

Marketing cost: 75 lacs/3500 pieces=Rs.2143 per piece which amounts to 13.47% cost per piece is for marketing expense. Since the product Is new, this % is a good percentage. Also, the fact that the marketing expenses constitutes 7.5% of the total budget makes it a fair expense.

• Field executives: Since the company currently has only 2 field executives and because field executives are the main staff responsible for making the product reach the customer, the organization will need more field executives. So, we have decided to recruit 12 more field executives, taking the total field executives to 14 people. They will be responsible to meet the demands of the customer and the organization can focus on bulk production reducing the variable costs of air sense and air liposome are producing 3500 units in whole year and there are 14 people. So, per person per year the target is 3500/14=250 units which amounts to approx. 21 units per month which is a pretty good target because the field executives must travel to the client’s location. Also, the additional field executive cost per unit is Rs.4680000/3500 pieces=Rs.1337 which is less than 10% of total cost per piece.

 

• Contingency reserve: The company has also kept a contingency reserve of Rs.22.1 lacs which could be needed in case of price variations during the year or more hiring.

 

• Regular updates and maintenance costs: it is assumed at Rs.10 lacs but it is still good because AQMS will be mainly responsible for receiving the information from Air sense and giving solutions to air loop.

 

• Term loan: The company has taken a loan ofINR 5Cr as a Term Loan for a period of 3 years carrying ROI @12% p.a.It carries Rs.60 lacs per annum as interest costs. Also, there are other Rs.5 crore kept idle. The company can look to invest this fund in doing more production. It will result in only hiring more field executives and unit cost (other all costs) remaining the same, but the company could expand resulting in more profits because it charges a revolutionary price and ultimately gaining a good market share.

 

• Cost of developing Air Quality Management System (AQMS): Though the costs of developing AQMS Is high but assuming that AQMS life is at least 20 years with regular updates and maintenance and will be very useful, it will not concern organization a lot.

 

• Cost of variable units: Since the organization is already producing 3500 units, so it has achieved bulk production.

 

• Capacity of premises: The present premises capacity is sufficient as it can accommodate 10 people and field executives will not be required at the premises, but still it can rent more premises since it has contingency reserve.

Conclusion

Considering the market size of air purifiers in India, it is around USD 100 million which is expected to grow at a CAGR (compounded annual growth rate) of 34.6% during the next 5 years. The Indian market for air purifiers is growing significantly owing to the prevalence of air borne diseases and pollution in different cities of India. This has led to a surge in the adoption of air purifiers as indoor air can be more contaminated than outdoor air since it does not undergo circulation, thereby propelling the market growth.

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