Question

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P6.3 (LO 2), AN Service The Harbour Inn is a restaurant in Sydney. It specializes in pub grub meals in a moderate price range. Paul Weld, the manager ul Harbour, has determined that during the last 2 years the sales mix and contribution margin ratio of its offerings are as follows. Percent of Total Sales 15% 50% Appetizers Main entrees Desserts Beverages Contribution Margin Ratio 50% 25% 50% 80% - 10% 25% Paul is considering a variety of options to try to improve the profitability of the restaurant. His goal is to generate a target net income of $117,000. The company has fixed costs of $1,053,000 per year. Instructions a. Calculate the total restaurant sales and the sales of each product line that would be necessary to achieve the desired target net income. b. Paul believes the restaurant could greatly improve its profitability by reducing the complexity and selling price of its entrees to increase the numbe of clients that it serves. It would then more heav- ily market its appetizers and beverages. He is proposing to reduce the contribution margin ratio on the main entrees to 10% by dropping the average selling price. He envisions an expansion of the restaurant that would increase fixed costs by $585,000. At the same time, he is proposing to change the sales mix to the following. Percent of Contribution Total Sales Margin Ratio Appetizers 25% 50% Main entrees 25% 10% Desserts 10% 50% Beverages 40% 80% Compute the total restaurant sales, and the sales of each product line that would be necessary to achieve the desired target net income. c. Suppose that Paul reduces the selling price on entrees and increases fixed costs as proposed in part (b), but customers are not swayed by the marketing efforts and the sales mix remains what it was in part (a). Compute the total restaurant sales and the sales of each product line that would be nec- essary to achieve the desired target net income. Comment on the potential risks and benefits of this strategy.

Answer 1

Refer to the below images for the above mentioned questions, in a detailed way of solution with explanation.

Sales Mix percentage Contribution Margin Ratio Weighted Avg Contribution Margin Ratio : Reaforement particulars 151. Sol Appetizers Main entrees 501 - not. 51 259 Jot. 6075 125 •050 Desserts Beverages Y •200 2001. .450 Total sales required to achieve target income (net) = (1 105 3000t $ 117000) = .45 = $2600000 Sales Mix percentage Total sales Needed sales from Each product particulars y = * Appetizers Main entrees 157. Sole $2600000 $2600000 = = * x ea $390000 $ 1300000 $ 260000 $ 650000 Desserts 10-1. = Beverages 2600000 2600000 254 $2 600 000 : particulars Sales Mix percentage contribution Margin Ratio X - weighted Ave contribution Margin Ratio Realiyement Appetizers Sot • 125 x 251 25t. x 10 Main entrees Desserts Beverages 1025 .050 101 x 501- 401 x 201. .320 1520

Toral sales required to achieve target net income = ($ 1638000* + $17000) =:52 = $ 3375000 $ 1053000 + $585000 Thus, Sales would have to increase by $77-5000 [$3375006- $2600000 ] to achieve the target net income. This increase in sales is driven by the increase in fixed costs. The sales of each product line would be : particolars Sales mix percentage Toral sales Needed sales from Each product y = x Appetizers Main entrees Desserts Beverages 2540 357. 10t. 4ot. $3175000 3375000 $3375000 $3375000 = 8843750 - $843750 = $337500 y x 9350DDO $337500D ©. Sales Mix percentage X Contribution Margin Ratio Weighted Avg contribution Massin Ratio = - particolars Requirement * •075 .050 Appetizers Main entrees Desserts 151. 50% 101. 259 Jot. e 10% 567. 801 - = = = Beverages .200 -375 The weighted Average contribution margin ratio computed in part (a) was 451 with the contribution margin vakio on entrees falling to not. That average will now be Shown previously. Applying this to the new fixed costs of 1 1638000 and target net incom $ 117000 we get

Total sales required to achieve target net income - (91638.000 + $ 119.000) = 375 = $ 4680000 Particulars Sales Mix percentage X Total sales Needed Appetizers Main entrees 154. sales from - Each product - $702000 - $2340000 § 468000 Soto xx & a $ 4680000 $ 4680000 $ 4680000 $ 4680000 Desserts Beverages 101. 25%. $ 1170000 4680000 Relative to parts (a) and (b), the total reasuired Sales for (C) would increase. It appears that the least visley approach would be for paul to switch to the new sales Mix, but not to incorr the additional fixed cost of expanding operations. If the switch in sales mix appears to be successful, then it may be appropriate for him to incur the additional fixed costs necessary for expansion of operations.