Question

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Q28: Jane Botason operates a bed and breakfast hotel in a resort area near Hawks-bay Karachi. Depreciation on the hotel is Rs.60,000 per year. Jane employs a maintenance person at an annual salary of Rs.41,000 and a cleaning person at an annual salary of Rs.24,000. Real estate taxes are Rs.10,000 per year. The rooms rent at an average price of Rs.60 per person per night including breakfast. Other costs are laundry and cleaning service at a cost of Rs.10 per person per night and the cost of food which is Rs.5 per person per night.

Instructions:

(a) Determine the number of rentals and the sales revenue Jane needs to break even using the contribution margin technique.

(b) If the current level of rentals is 4,000, by what percentage can rentals decrease before Jane has to worry about having a net loss?

(c) Jane is considering upgrading the breakfast service to attract more business and increase prices. This will cost an additional Rs.3 for food costs per person per night. Jane feels she can increase the room rate to Rs.68 per person per night. Determine the number of rentals and the sales revenue Jane needs to break even if the changes are made

Answer 1

Determine the number of rentals and the sales revenue Jane needs to break even using the contribution margin technique:

Break even number of rentals = Fixed cost / Contribution per unit

Fixed cost is ($60,000 + $41,000 + $24,000 + $10,000) = $135,000

Contribution is ($60 – ($10+$5)) = $45

Break even number of rentals is ($135,000 /$45) = 3,000

Break even sales is (3,000 *$60)                = $180,000

Calculation of the current level of rentals is 4,000 by what percentage can rentals decrease before jane has to worry about having a net loss:

Margin of safety = (Budgeted sales – Break even sales) / Budgeted sales

Break even sales = 3,000

Budgeted sales = 4,000

Margin of safety is (4,000 – 3,000) / 4,000 = 25%

Calculate the break even number of rentals and break even sales if cost is increased and selling price also increased:

Break even number of rentals = Fixed cost / Contribution per unit

Fixed cost is ($60,000 + $41,000 + $24,000 + $10,000) = $135,000

Contribution is ($68 – ($10+$5+$3)) = $50

Break even number of rentals is ($135,000 /$50) = 2,700

Break even sales is (2,700 *$68)                = $183,600.