Question

Question 3

The Glory Mountain State Ski Area The Glory Mountain State Ski Area – owned and managed by a state public authority - expects to attract 292,500 skier days during the coming ski season. A skier day represents one skier at the mountain for one day. In addition to a $2,000,000 per year subsidy provided by the state, Glory currently earns its revenue from three sources: lift ticket sales, ski lessons, and food sales in the mountain’s lodges. Forty-five percent of the customers come to the mountain on weekends and pay an average of $60 per day to ski. The remaining 55 percent of the skiers come during the week and pay an average of $45 per day for a lift ticket. On average, 10 percent of the people who visit Glory take ski lessons. An average person taking lessons pays $80 for each lesson. Management also estimates that each skier spends an average of $4 per day on food. Food costs average 40 percent of total food revenue. Glory’s central management staff is paid $1,800,000 per year. The remainder of Glory’s staff is seasonal and is paid on an hourly basis. The table below shows the number of employees by job title, the number of days they work on average, their hourly wages, and the number of hours they work each day. Only ski instructors and patrol costs vary with skier days. Benefits add 30 percent to direct salary costs for all workers including management. Equipment costs and usage are also shown in the table below. For equipment, number refers to the number of pieces of equipment. Equipment costs depend on the number of days the area is open during the season. The hourly fuel cost represents the cost of fuel to operate the equipment for each hour they are open. Number, Days Worked, Hours Worked, Hourly Wage, Instructors & Ski Patrol 275, 100, 7, $20.00 Lift Attendants, Maintenance & Grooming 140, 130, 10, $18.00 Kitchen Staff 50, 130, 8, $12.00 Equipment & Fuel Costs 60, 130, 6, $65.00 Insurance costs are $15,000 per day for each of the 130 days the area expects to be open. Energy costs are $2,240,000 per year and are based on the number of days the area is open. Neither energy nor insurance costs vary based on skier days. Question 1: You are the Glory Mountain State Ski Area’s finance manager. Area Manager Dan Finn has asked you to prepare a base operating budget for the ski area for the coming fiscal year and to show the impact a 5 percent reduction in the number of skier days would have on Glory’s operating results. In planning for the next season, the State Regional Development Authority, which manages the state’s five ski areas, is considering installing a 15-megawatt wind turbine at the top of Glory Mountain. If they do, the ski area will reduce its energy bill by almost 25 percent or $560,000 per year for the next 15 years. It will cost Glory $4,100,000 to complete the environmental assessments, do the necessary engineering studies, and install the turbine. In addition, the ski area will have to invest $750,000 at the end of the seventh year to overhaul the bearings and replace some time-critical components. For depreciation purposes, the wind turbine has a useful life of 10 years with no residual value. Glory uses straight-line depreciation. Question 2: The state uses an 8 percent cost of capital for its ski areas. Based on purely financial analysis, should the state install the turbine? In addition, the snowmaking equipment in the Bear Mountain section of Glory Mountain has been in service for nearly 15 years and has reached the end of its useful life. It will have to be replaced before the next ski season. Management has narrowed its decision down to two options: Big Mouth Snow Guns with a useful life of 15 years and the Whisper Quiet Snowmaking System with a useful life of 10 years. The Big Mouth system will cost Glory $850,000 to acquire and $35,000 per year to operate, while the Whisper Quiet system would only cost $600,000 and $50,000 per year to operate. If the Big Mouth equipment is chosen, there will be no change in Glory’s other operating costs. If the Whisper Quiet system is purchased, Glory’s annual fuel and equipment costs will increase by $15,000. Regardless of the option Glory chooses, the snowmaking system chosen will be depreciated over ten years with an assumed 5 percent residual value. Glory uses straight-line depreciation. Question 3: Based on Glory’s 8 percent cost of capital, which system should management choose? Please answer the third question in words with explanation.

Answer 1

• Data Base
  Base Case Inputs	% of Total Skiers	Average Ticket Revenue
  Weekend Skiers	45%	$                               60.00
  Midweek Skiers	55%	$                               45.00
  Skier Lessons	10%	$                               80.00
  Expected days of Operation	130
  Expected Skier Days	292,500
  State Subsidy	$                                                             2,000,000
  Average Food Purchases	$                                                                      4.00
  Food Costs as % of Food Revenue	40%
  Central Management Salaries	$                                                             1,800,000
  Benefits as % of Salaries	30%
  Annual Energy Costs	$                                                             2,240,000
  Daily Insurance Cost	$                                                                  15,000
  Flexible %	-5%
  Cost of Capital	8%
  	Number	Days Worked	Hours Worked	Hourly Wage
  Instructors & Ski Patrol	275	100	7	$                          20.00
  Lift Attendants, Maintenance & Grooming	140	130	10	$                          18.00
  Kitchen Staff	50	130	8	$                          12.00
  Equipment& Fuel Costs	60	130	6	$                          65.00
  Wind Turbine Inputs
  Initial Cost of Wind Turbine	$                                                             4,100,000
  Maintenance Cost	$                                                                750,000
  Year of Maintenance	7
  Annual Cash Flow from Energy Savings	$                                                                560,000
  Useful Life of Turbine	15
  Depreciable Life	10
  Snowmaking Equipment Inputs	Big-Mouth	Whisper -Quiet
  Acquisition Cost of Equipment	$                                                                850,000	$                           600,000
  Annual Operating Cost	$                                                                  35,000	$                             50,000
  Useful Life	15	10
  Depreciable Life	10	10
  Residual Value as % of Purchase Price	5%	5%
  Glory Kid's Center Inputs
  Director's Salary	$                                                                  60,000
  Benefits	$                                                                  18,000
  Total Salary & Benefits - Fixed Costs (FC)	$                                                                  78,000
  Care Hours per day	8
  Child-Care Worker Salary per hour	$                                                                    25.00
  Children per child-care worker	10
  Daily Charge per Child	$                                                                    70.00
  Variable Costs
  Food Costs	$                                                                    10.00
  Supply Costs	$                                                                    10.00
  Expected Increase in skier volume due to Kid's Center	6%
  Expected % of Skiers with children 3 to 7	10%
  Average Children enrolled per skier day	0.25
  Average Daily Number of Child-Care Workers	6
  Revised Budget Inputs
  Par value of bond	$                                                             6,000,000
  Coupon Rate	5%
  Variance Analysis Input	Actual
  Days of Operation	115
  Average number of skiers per day	2,600
  Average Ticket revenue	$                                                                    50.50

  Per Child daily revenue (VR)		$                                          70
  Total Variable Costs (VC)		$                                          20
  Contribution Margin (CM = VR - VC)		$                                          50
  Average Daily Cost for Center Director	$78,000/130 Days	$                                       600
  BEQ = Total Fixed Cost / (Contribution Margin)
  Child Days	Manager	Child-Care Workers	Total FC	CM	Break Even
  30	$                                                                                  600	$                                       600	$                              1,200	$                                     50	24
  40	$                                                                                  600	$                                       800	$                              1,400	$                                     50	28
  50	$                                                                                  600	$                                    1,000	$                              1,600	$                                     50	32