Question

E6.4 (LO 1), AP Service Comfi Airways, Inc., a small two-plane passenger airline, has asked for your assistance in some basic analysis Operations. Both planes seat 10 passengers each, and they fly commuters from Comfi's base airport to the major city in the state, Metropolis. Each month, 40 round-trip flights are made. Shown below is a recent month's activity in the form of a cost-volume-profit inco statement. Compute break-even point and prepare CVP income statement. $48,000 $14,000 800 2,000 1,200 Fare revenues (400 passenger flights) Variable costs Fuel Snacks and drinks Landing fees Supplies and forms Contribution margin Fixed costs Depreciation Salaries Advertising Airport hangar fees Net income 18,000 30,000 3,000 15,000 500 1.750 20,250 $ 9.750 Instructions a. Calculate the break-even point in (1) dollars and (2) number of passenger flights. b. Without calculations, determine the contribution margin at the break-even point. c. If ticket prices were decreased by 10%, passenger flights would increase by 25%. However, total variable costs would increase by the same percentage as passenger flights. Should the ticket price decrease be adopted?

Answer 1

Facts of the Question:

Particulars	Total	Per Passenger fight
Fare Revenue (400 passenger flights)	$ 48,000	$ 120
Variable Costs	$ 18,000	$ 45
Contribution margin	$ 30,000	$ 75
Fixed Cost	$ 20,250
Net Income	$ 9,750

Calculations:

Fare revenue per passenger flight = Total fare revenue/ Total number of passenger flights

                                                              = $ 48,000/ 400 passenger flights

                                                              = $ 120 per passenger flight.

Variable cost per passenger flight = Total Variable cost/ Total number of passenger flights

                                                              = $ 18,000/ 400 passenger flights

                                                              = $ 45 per passenger flight.

Contribution margin per passenger flight = (Fare revenue per passenger flight – Variable Cost per passenger flight)

                                                                                 = $ 120 - $ 45

                                                                                 = $ 75 per passenger flight.

Contribution margin ratio = (Contribution margin per passenger flight/ Fare revenue per passenger flight)

                                                   = $ 75/$ 120

                                                   = 0.625  

Answer a- 1)

Calculation of break-even point in dollars:

Break- even point in Dollars = Total Fixed Cost/ Contribution margin ratio

                                                  = $ 20,250/ 0.625

                                                  = $ 32,400

Therefore the value of break-even point in dollars is $ 32,400.               

Answer a- 2)

Calculation of break-even point in number of passenger flights:

Break- even point in number of passenger flights= Total Fixed Cost/ Contribution margin per passenger flight

                                                  = $ 20,250/ $ 75 per passenger flight

                                                  = 270 passenger flights

Therefore the value of break-even point is 270 passenger flights

Answer b)

Calculation of contribution margin at break-even point

Contribution margin at break-even point = (Fare revenue at break-even point in dollars X Contribution margin ratio)

                                                  = ($ 32,400 X 0.625)

                                                  = $ 20,250

Therefore the contribution margin at break-even point is $ 20,250

Answer c)

Calculation of Fare revenue and variable cost if ticket prices were decreased by 10%

Calculation of revised number of flights:

Existing number of flights = 400 passenger flights

Revised number of flights (after increase) = 400 passenger Flights + (400 passenger flights X 25%)

                                                                            = 400 passenger flights + 100 passenger flights

                                                                            = 500 passenger flights

Calculation of revised fare revenue per flight:

Existing fare revenue per passenger flight =$ 120

Revised Fare revenue per flight (after decrease) = $ 120 per passenger flight– ($ 120 per passenger flight X 10%)

                                                                                     = $ 120 per passenger flight - $ 12 per passenger flight

                                                                                               = $ 108 per passenger flight       

Calculation of revised Fare revenues:

Fare revenue = (Number of passenger flights) X (Fare revenue per passenger flight)

                         = 500 passenger flights X $ 108 per passenger flight

                        = $ 54,000

Calculation of revised Variable Costs:

Fare revenue = (Number of passenger flights) X (Variable Costs per passenger flight)

                         = 500 passenger flights X $ 45 per passenger flight

                        = $ 22,500

         

Calculation of Revised Net Income after 10 decrease fare revenue:

Net Income = Fare revenues - Total Variable costs – Total Fixed Costs

                      = $ 54,000 - $ 22,500 - $ 20,250

                      = $ 11,250

Conclusion: Yes, ticket price should be decrease by 25% as it has resulted in an increase in the net income of the company from $ 9,750 to $ 11,250.

Note: In spite of the increase in passenger flights, total fixed costs will remain at the same level.

Revised Income Statement:

Particulars	Amount
Fare Revenue (500 passenger flights X $ 108 per passenger flight)	$ 54,000
Variable Costs (500 passenger flights X $ 45 per passenger flight)	$ 22,500
Contribution margin	$ 31,500
Fixed Cost	$ 20,250
Net Income	$ 11,250