Case Description - cesim PRACTICE MAKES PROFIT Mobilé...

Info icon This preview shows pages 1–4. Sign up to view the full content.

View Full Document Right Arrow Icon
Image of page 1

Info iconThis preview has intentionally blurred sections. Sign up to view the full version.

View Full Document Right Arrow Icon
Image of page 2
Image of page 3

Info iconThis preview has intentionally blurred sections. Sign up to view the full version.

View Full Document Right Arrow Icon
Image of page 4
This is the end of the preview. Sign up to access the rest of the document.

Unformatted text preview: cesim PRACTICE MAKES PROFIT Mobilé Inc— Case Company Description The US Department of Justice ordered the boards of directors of the major mobile handset manufacturers to dismiss and replace their top management due to years of cartel-like behaviour. Investigations found that the companies ’ directors had agreed amongst themselves in secret banquets on issues such as deliberately stagnating technology development plans, pricing the handsets artificially high, and other key matters that had set the companies in exactly the same financial and operational position. Finally, the board of directors has understood the serious nature of this situation and hired you to compete against the other restructured companies. The core operations of the companies operating in the mobile handset manufacturing industry consist of research and development, production and marketing. Sales revenues in the previous financial year were a bit more than 1 billion dollars. Due to collusion, profitability has been good and the companies are also generating suflicient amounts of cash. This is a good starting point since it is likely that the increased competition and rapid technological evolution over the next years will tax both profitability and cash. History of the industry The first international cellular mobile telephone network, NMT, was introduced in 1981. At the time, the transportable mobile phones were heavy and huge. Towards the end of the 80’s actual hand portables came into the market and the era of the mobile phones industry began. Many of the mobile communications companies have evolved from multi-industry companies as a result of the recession in the end of the 80's and the beginning of the 90’s, when the downward spin of the economy slowed down the general economic growth for a couple of years. Despite the economic slowdown, heavy investments in R&D were made in the telecommunications sector. With the birth of a second generation (2G) of mobile telephones, the telecommunications business started to emerge from other business’ shadow, and on July 1st 1991, the world's first genuine GSM call was placed by the prime minister of Finland, Harri Holkeri, to the mayor of Helsinki to discuss the price of Baltic herring. GSM’s American counterpart, CDMA, is the worlds second most common mobile phone standard, covering a third of the world’ s mobile phone subscribers. The constant development of mobile phones in the 90’s made the devices smaller and lighter, their technical design more complex, and increased the number of available functions. FOMA, the first 3G (third generation) network was launched in Japan in 2001 by NTT DoCoMo. The new technology made possible the transfer of voice data and non-voice data: in effect, mobile video telephony. Present Day Currently, the companies are still quite small mobile handset manufacturer on a global scale (with an annual sales revenue 1 billion dollars), but due to relatively large R&D investments, the companies’ handsets are competitive and business has developed favourably. Appealing and customer-driven designs have also been named as one of the key success factors in the business. The companies sell their products in the US, Asia, and Europe. Production and R&D have historically been located in Atlanta (GA), but recently the companies have also started building plants in Asia. Some years ago the possibility to begin production in Europe was investigated as well. It became clear that the complicated and inflexible labour laws in Europe would make the operations difficult and expensive. To ensure flexibility in R&D and production, the companies have also actively negotiated agreements for subcontracting parts of their production and R&D. Future Challenges The pace of change in the industry has been rapid and great expectations have been set for new technologies. The overall trend is towards increased mobility with tested communication speeds of the 4G technology at 1 Gbit/s while stationary and 100 Mbit/s while moving. The overall growth potential of the industry is good but development can vary heavily fiom one market to another. The biggest challenge for a mobile handset manufacturer may be keeping up with technological evolution since R&D requires continuous large investments. Phones are no longer just devices for talking; entertainment features mean more to users than ever before. It seems that not everything can be developed in—house and therefore partners for technology subcontracting are needed. The growth in the global markets will probably create momentum for establishing more production facilities at least in Asia. As the mobile industry evolves into new applications and services, co-operation among industry players has intensified, facilitating a faster adoption of mobile services as well as market growth for the entire mobile industry. cesim PRACTICE MAKES PROFIT OPERATIONS Production Characteristic to high-tech companies, production is complicated and high costs are incurred in the beginning phases of the production of new models. This, combined with short product life-cycles, forces the companies to adapt the production process to manufacture a new product model as soon as possible, in pursuit of low costs. Eventually, as the company becomes more acquainted with a specific technology, production cost per unit will fall with the learning curve effect. Due to the fact that building a plant takes two rounds, there have been times when demand has exceeded production capabilities. At such times the company has been forced to subcontract some of its production. When subcontracting production, the learning curve effect is foregone, thus outsourcing decisions should be weighed carefully. As with producing in-house, the unit cost of outsourcing is inversely related to the age of the technology. Sometimes it can be beneficial to outsource production as the unit cost of outsourced goods may be lower than that of goods produced in—house. The companies do not have finished good inventories. For this reason it is imperative that the production targets are in line with the demand estimates, so that the right amounts of the right products are manufactured. Incorrect demand estimates and production targets cause extra costs either through lost sales or increased unit costs. Lost sales are caused by not meeting the customers’ demand in time, increased unit costs by having to adjust production during the actual production cycle. Sales and Marketing The companies have traditionally operated only in the U.S. market. Over the last years, sales networks have been established in Asia and Europe as well. Marketing plays a significant role in promoting the brand and communicating to consumers about the product. Marketing is particularly important in the U.S and Europe. In Asia, the effect of promotion is less but still considerable. Typical marketing spending in the industry is 3-5% of Sales revenue. R&D R&D is extremely important for IT - and other high-tech companies, because of the dynamic nature of the industry. Consumers continuously demand new products and the margins from old products decline rapidly due to tight competition. The companies have a choice of performing their own R&D or outsourcing the process by purchasing technology licenses for the technologies and their related features. The first step of the R&D process is to develop the base technology upon which up to ten technology-specific product features can be added. There is one notable difference between in-house R&D and technology licenses: when R&D is performed internally, the benefits are available in the next period. If R&D is outsourced, the new technology/feature is available immediately. The cost of in-house R&D is lower when the process is a gradual one, comparing to a lump-sum investment. Technology licensing fees are one time payments. The cost of which will decrease as the technology ages. A typical company in the industry spends as much as 10% of Sales revenue on R&D. It should be noted that R&D expenditure will not be capitalised on the balance sheet. That is, all R&D expenses are considered as operating expenses and as such R&D investments may cause substantial fluctuations to the companies’ P&L. Technologies So far the companies have been manufacturing Technology 1 mobile handsets. New mobile networks are developed constantly, and these will require new technology handsets. Therefore steps should be taken to begin developing new technologies. R&D of new technologies may require relatively large investments, but it is crucial to secure a prosperous future for the company. It should be mentioned that the technologies are dependent on the networks in which they operate in. Thus, a Technology 2 phone cannot operate in Technology 1 network infrastructure. You should monitor the network coverage forecasts on the demand-page before you plan your R&D as it indicates when the various technologies are economically viable to be introduced. Features The underlying technology for mobile handsets is not very different from one company to another, so product differentiation is done with product features. These may be, for example, design, cover, colour screens, polyphonic ring tones, multimedia, mobile games, etc. Product features have different effects on demand in different market areas. European consumers are appreciative of product features, whereas the Asian consumers are more sensitive to price. Transportation and logistics Transportation to export markets is handled by an independent freight company and the cost of the service cannot be influenced by the teams. The total logistics cost per unit is transportation cost + tariff. There is no logistics cost involved when the good is produced and sold in the same area. Internal taxation International taxation and transfer pricing are sensitive issues. The companies have created a system that allows some flexibility, but the ultimate purpose is to even out the cost-impact of the R&D expenditure. R&D functions are located in connection to the production facilities and the costs are allocated on the profit and loss statements with the following principles: Let’s assume that we have 10 plants in the US and 2 plants in Asia, i.e., 12 plants in total. Our total R&D expenditure for the period is 200 mUSD. Respectively, 10/12 x 200 mUSD is allocated to the US P&L and 2/12 x 200 mUSD is allocated to the Asian P&L. While determining transfer prices, multipliers (between 1 and 2) are applied to the direct variable cost of production. In practice this means that the direct variable cost of production can be multiplied with a number between 1 and 2 and the outcome is the transfer price. When used wisely, these multipliers can also be used to benefit from differences in corporate tax rates in different areas. At a minimum, the company should use the multipliers to take benefit fiom any accumulated losses that may have been created. Finance In addition to income financing, the companies can obtain financing from equity investors and lending institutions. The companies are listed on the stock exchange, enabling effective equity financing by issuing shares. Shareholders expect a return on the equity invested in the form of dividends and capital gains. cesim PRACTICE MAKES PROFIT Over the past few years, the industry has been in a rapid growth phase, and shareholders have not been able to enjoy large dividends. On the other hand, the increase in share price has been remarkable and the companies have outperformed the Nasdaq Composite Index over the last couple of years. You can reward your investors in the form of dividends or share repurchases. Share Issues and buybacks are made according to the market valuation at the beginning of the round. Lending institutions provide short- and long-term loans with an interest rate depending on the company's financial condition. Short-term debt always carries a premium over a long-term loan. For this reason short-term loan is a last resort that is only used when the minimum cash level is not reached. You can also transfer funds between different countries by internal loans (International Treasury Management). You may want to use internal loans if you have accumulated substantial cash reserves in Asia or Europe that can be repatriated and distributed to the owners, or if for instance you need to finance some plant investments in Asia. cesim PRACTICE MAKES PROFIT MARKETAREAS USA is the local and the largest market of Mobile’. The USA is generally lmown to be a leader in high-tech industries but in the mobile phone sector it follows behind the rest of the world. Mobile technologies and networks tend to be a couple of years behind Europe and Asia. Also, additional features are in general more appreciated here than in Asia and less appreciated than in Europe. USA Demand is expected to grow steadily about 5% p.a. at least for the next 2-3 years. There seems to be no reason why growth should stop even after that. According to some of the least conservative estimates, in a few years with the introduction of new technologies, growth in demand may show peaks of up to 10% p.a. Europe The companies have been exporting products to Europe for a couple of years. Production facilities will not be established in Europe because of the high labour costs. The market growth is expected to be about 10% p.a. and demand is expected to grow steadily for several years to come. There is no fear that the market will mature, as new technologies guarantee constant change and the consumers' will to purchase new phones remains. Ash It is predicted that the highest growth potential is in fact in Asia. Currently the market grows at 15% p.a., but long- term growth prospects are hard to make. In Asia, consumers are generally not as appreciative of product features as in other regions and less receptive of new technologies. MEASURES OF PERFORMANCE Company performance can be measured both by qualitative and quantitative indicators. Quantitative indicators can be further divided into those that portray the company's financial situation and those that portray its market position. The primary objective of a firm is to maximize the value to its shareholders. In this case the returns to shareholders are measured by a term called the total shareholder return (TSR). TSR takes into consideration both the dividends paid as well as the capital appreciation of the shares over time. This term is then annualized to portray an annual performance of the company. The board of directors of the company has concluded that the management should aim to perform well short-term without jeopardizing the long-term opportunities of the company. Fluctuations in share price can be explained by changes in certain financial and operational indicators. These include among others ROE, net profit, EPS, market shares in different market areas, and the rate of growth of sales revenue. ...
View Full Document

{[ snackBarMessage ]}

What students are saying

  • Left Quote Icon

    As a current student on this bumpy collegiate pathway, I stumbled upon Course Hero, where I can find study resources for nearly all my courses, get online help from tutors 24/7, and even share my old projects, papers, and lecture notes with other students.

    Student Picture

    Kiran Temple University Fox School of Business ‘17, Course Hero Intern

  • Left Quote Icon

    I cannot even describe how much Course Hero helped me this summer. It’s truly become something I can always rely on and help me. In the end, I was not only able to survive summer classes, but I was able to thrive thanks to Course Hero.

    Student Picture

    Dana University of Pennsylvania ‘17, Course Hero Intern

  • Left Quote Icon

    The ability to access any university’s resources through Course Hero proved invaluable in my case. I was behind on Tulane coursework and actually used UCLA’s materials to help me move forward and get everything together on time.

    Student Picture

    Jill Tulane University ‘16, Course Hero Intern