1.

How do the formats of the income statements shown on pages 33 and 50 of Benetton's annual report differ from one another (disregard everything beneath the line titled income from operations)? Which expenses shown on page 50 appear to have been reclassified as variable selling costs on page 33? The income statement on page 50 is prepared using an absorption format, while the income statement on page 33 is prepared using a contribution format. The annual report says that the contribution format income statement shown on page 33 is used for internal reporting purposes only, however Benetton has chosen to include it in the annual report. The contribution format income statement treats all cost of sales as variable costs. The selling, general and administrative expenses shown on the absorption income statement have been broken down into variable and fixed components in the contribution format income statement. The Distribution and Transport expenses and the Sales Commissions have been reclassified as variable selling costs on the contribution format income statement.

2.

Why do you think cost of sales is included in the computation of contribution margin on page 33? I think that the cost of sales is included in the computation of contribution margin because they design, market and sell apparel and the manufacturing of their products is outsourced to a wide variety of suppliers. So while the cost of sales may include some fixed costs, the bulk of the costs are variable and that is why the costs of sales would be included in the calculation of contribution margin.

3.

Perform two separate computations of Benetton's break-even point in euros. For the first computation, use data from 2003. For the second computation, use data from 2004. Why do the numbers that you computed differ from one another? 2003 464 0.374 1,241 2004 436 0.387 1,127

Total Fixed Costs Contribution Margin Ratio Breakeven in Euros

The break-even point in 2004 is lower than in 2003 because Benettons fixed costs in 2004 are lower than in 2003 and its contribution margin ratio in 2004 is higher than in 2003. 4. What sales volume would have been necessary in 2004 for Benetton to attain a target income from operations of 300 million? 2004 Total Fixed Costs & Target Income Contribution Margin Ratio Sales Volume Needed for Target Income

736 0.387 1,902

5.

Compute Benetton's margin of safety using data from 2003 and 2004. Why do your answers for the two years differ from one another? The margin of safety has declined because the drop in sales from 2003 to 2004 (173) exceeds the decrease in breakeven sales from 2003 to 2004 (114). 2003 1,859 1241 618 2004 1,686 1127 559

Actual Sales Breakeven Sales Margin of Safety

6.

What is Benetton's degree of operating leverage in 2004? If Benetton's sales in 2004 had been 6% higher than what is shown in the annual report, what income from operations would the company have earned? What percentage increase in income from operations does this represent? Degree of Operating Leverage 2004 Contribution Margin Income from Operations Degree of Operating Leverage

653 217 3

6% Increase in Sales, Income from Operations 2004 Revised Sales (1,686 x 1.06) 1,787 Contribution Margin Ratio 0.387 Contribution Margin 692 Fixed General & Admin Expenses 436 Income from Operations 256 7. What income from operations would Benetton have earned in 2004 if it had invested an additional 10 million in advertising and promotions and realized a 3% increase in sales? Income from Operations 3% increase in sales 2004 Revised Sales (1,686 x 1.03) 1737 Contribution Margin Ratio 0.387 Contribution Margin 672 Fixed General & Admin Expenses 446 Income from Operations 226

As an alternative, what income from operations would Benetton have earned if it not only invested an additional 10 million in advertising and promotions but also raised its sales commission rate to 6% of sales, thereby generating a 5% increase in sales? Income from Operations 5% increase in sales 2004 Revised Sales (1,686 x 1.05) Contribution Margin Ratio (0.387-0.016) Contribution Margin Fixed General & Admin Expenses Income from Operations

1770 0.371 657 446 211

Which of these two scenarios would have been preferable for Benetton? The first scenario would be preferable because it increases income from operations. 8. Assume that total sales in 2004 remained unchanged at 1,686 million (as shown on pages 33 and 50); however, the Casual sector sales were 1,554 million, the Sportswear and Equipment sector sales were 45 million, and the Manufacturing and Other sector sales were 87 million. What income from operations would Benetton have earned with this sales mix? (Hint: look at pages 36 and 37 of the annual report.) Sportswear & Equipment 45 0.208 9 Manufacturing & other 87 0.089 8

Sales CM Ratio CM Fixed Costs Income from Operations

Casual 1,554 0.418 650

Total 1,686 0.387 652.48 436.00 216

Why is the income from operations under this scenario different from what is shown in the annual report? Because the product mix has shifted towards the area with the highest contribution margin ratio, casual sector, the income from operations has become higher.