BOGS at the Park...BOGS at Home Planning Divisional Profitability

The Durham Bulls organization is a minor league baseball team based in Durham, North Carolina, and plays in the International League. Since the 1998 season, the team has been the AAA affiliate of the Tampa Bay Rays, and currently plays in Durham Bulls Athletic Park. Storm Enterprises is the partial owner of the organization, and maintains full ownership of park vending operations. The sale of hot dogs is so vital to the overall profitability of the organization that owner Greg Storm has often been quoted as saying I dont own a baseball team; I sell hot dogs! This line ties in well with the recent strategy of minor league organizations to transform games into an affordable family experience with much more entertainment offered than just the game. In fact, in addition to the wide array of foods, drinks and snacks, ballparks have recently been designed with kids in mind by providing various forms of entertainment around the perimeter of the park.

To bring some of this ballpark experience into the homes of fans, several years ago, the Company obtained an exclusive franchise from its manufacturer to purchase BOG (short for Bull Dog) ovens (branded with the Durham Bulls for distribution via phone and internet orders. A BOG is a special type of hot dog that has become a hit with fans of all ages, and has even been labeled out of this park by many sports vending companies.

This management strategy of extending beyond the core line of business has required the accounting organization to re-think its focus in planning the financial profitability of the business. Hence, while the accounting organization had historically placed primary emphasis on profitability from ticket sales, management had recently begun thinking about the impact that hot dogs could have on the business even during the off-season. In fact, several years earlier, management decided to create a separate segment to track and report (internally) its hot dog oven business which moved to a separate yet modest headquarters.

With fiscal 2018 on the horizon, the Controller of Storm Enterprises, Evan Longoria, has asked the divisional accounting team to begin planning profitability from oven sales. As an aid in planning, he has decided to start using a contribution margin format income statement in addition to its GAAP based P&L. To provide the necessary data to prepare its budgeted financials for fiscal 2018, the accounting staff have begun analyzing expenses associated with the hot dog segment and have summarized some key elements of the cost structure as described below.

Cost of Goods Sold has historically amounted to $35 per oven sold, while sales commissions represent 6 percent of sales. These figures are not expected to change for fiscal 2016. Schmidt has also advised the team that advertising expense must remain flat relative to the prior year, while administrative salaries and insurance expense are each subject to inflationary increases of 3 percent. Cost data for the prior sixteen quarters is available for these items in the general ledger. Similarly, cost data for shipping, electricity, maintenance and depreciation are available for the prior sixteen quarters in the general ledger as well. The sales and operations teams have also provided relevant volume data over the last sixteen fiscal quarters as shown below in Table 1.

Table 1: Volume (Cost Driver) Data for Hot Dog Oven Segment

Quarter	Units Sold	Kilowatt Hours		Quarter	Units Sold	Kilowatt Hours
FY2014:				FY2016:
Q1	9,100	4,300		Q1	10,000	4,000
Q2	14,700	5,250		Q2	16,000	5,000
Q3	16,900	6,310		Q3	18,000	6,000
Q4	14,800	10,011		Q4	15,000	10,000
FY2015:				FY2017:
Q1	9,500	11,777		Q1	11,000	12,000
Q2	15,100	10,966		Q2	17,000	11,000
Q3	17,000	9,120		Q3	20,000	9,000
Q4	15,000	8,320		Q4	13,000	8,000

Management has also planned to build up its balance sheet during the first quarter of fiscal 2018 with capital expenditures of $500,000 for additional trucks to assist in the ground distribution of the product and with a massive investment in POG ovens of $1,000,000.3 The trucks are expected to have a useful life of 10 years. For planning purposes, the division does not consider tax-effects in its financials because taxes are calculated at a corporate level and allocated to the divisions based upon overall performance. Engineers expect to use 13,000 kilowatt hours during the first quarter of fiscal 2018.

In planning for the first quarter of fiscal 2018, Longoria was interested in three scenarios for the budgeted financials: (1) Base Case: Assume 12,000 ovens sold at a price of $100 per oven; (2) Market Penetration Strategy: Assume the company can sell 10% more ovens by offering a 5% price discount; (3) Market Premium Strategy: Assume the company loses 15% of its planned customers if it attempts to sell the ovens at a 15% premium by spending $5 more per unit to make the logo bigger.

Required Question (Part I)

1) In your own words, provide a brief synopsis of the business problem described in this case.

2) Next, list each of the expenses described in the case, and attempt to classify them as variable, fixed or mixed (i.e., having both fixed and variable traits), based on the limited information provided. For items you consider variable or mixed, indicate which of the potential cost drivers (e.g., sales dollars, unit volume or kilowatt hours) you think would be the most likely to drive the variable component. Be sure to justify your classifications and cost drivers. (Note: I am looking for the thought process more than the correct answer.)

3) Based on your responses in #2, describe in words how you think this expense would be affected (increase, decrease, no change) when comparing: i) Base Case to Market Penetration strategy; and ii) Base Case to Market Premium strategy. Be sure to justify your answers.