Question

Introduction

Young School for Wee People

Young School for Wee People (YSWP) had been running a small, for-profit preschool program for young children between the ages of two and four for several decades. YSWP was one of several privately run programs in the suburban Philadelphia area. For each of the three age groups (i.e., two-, three- and four-year olds), there were two classes per day for a total of six classes in the facility each day. The classes were held both in the morning and in the afternoon, five days a week between September and June; there were approximately 200 days (40

weeks), or 1,200 class meetings, per year.1 Only about one-third of YSWP’s local competitors offered classes during the summer months. The morning classes ran from 9:00 a.m. to noon, and the afternoon meetings ran from 1:00 p.m. to 4:00 p.m. Lunch was not served in either class. However, each class served a snack to the children. Class size varied from nine to 15 students per class. Although there was a lot of pressure from parents to reduce class sizes, a recent article in an industry newsletter showed that, given current demographics, the market for such programs could increase by 10% a year for the next five years.

The year before, a parent suggested that the school begin hosting birthday parties on the weekend. Since YSWP’s three classrooms were empty during this time, it seemed like a good use of the space and could generate additional revenue. Over the past year, the school had managed to quickly build a sizable side business hosting birthday parties. Approximately 150 parties were held in the school’s three classrooms on Saturdays and Sundays throughout the year. The parties were typically attended by 10–20 children and ran for approximately four hours. The four-hour running time included the time necessary to set up and clean up the facility. For this service, the school’s main competitors consisted of children’s gyms, arts and crafts stores, and museums. Each had been offering specialized birthday parties for many years and charged very high prices. As a result, YSWP was able to significantly underprice these other firms while maintaining a very high profit margin. In fact, due to the success of the birthday parties over the past year, YSWP wanted to expand this business. YSWP was considering switching the bulk of its advertising campaign from one that was designed to build general awareness of the school to one that was specifically directed at promoting the birthday party business.

1 Each day there was a morning class and an afternoon class for two-year olds, another morning and afternoon class for three-year olds, and a morning and afternoon class for four-year olds.

Current Cost System

YSWP’s largest expense was related to the building (see Exhibit 1 for an income statement). YSWP had initially purchased a single-family home and converted it to a daycare/schoolhouse setting. The house cost $400,000, including $50,000 for the necessary renovations and license applications. Building- related expenses included depreciation, utilities, maintenance, cleaning, property taxes, and so forth. Traditionally, these costs were assigned to the classes on a per class-meeting basis. The building-related costs had not significantly changed since the introduction of the birthday party business. Therefore, no building-related costs had been assigned to the new product.

Salaries, supplies, and food were also allocated based on the meeting, where a meeting was either a single class meeting for three hours or a single birthday party for four hours. The actual cost of supplies and food for all of last year’s birthday parties was $3,000; the actual cost for the preschool classes was approximately $18,000. YSWP had five employees—three full time and two part time. The school’s director earned $50,000, taught two of the preschool classes each day, and administered both the preschool and the birthday party programs. She spent approximately 20% of her time in administration, evenly split between the two programs. The remaining two full-time employees earned $20,000 per year and taught the other four preschool classes. Finally, YSWP had hired two part-time employees to run the birthday parties on weekends, and each earned $5,000 per year. The director had approximately 20 years of daycare and teaching experience, the full-time teachers each had approximately five years of teaching experience, and the part-time employees were college students majoring in child development or education.

As advertising was used to build awareness of YSWP’s presence in the community and affected both products, it was not allocated to either product.

Pricing

YSWP charged $200 for each birthday party, regardless of how many children attended, and averaged a total of about $270 for each preschool class session, depending on the number of students in the class. This was an increase over fiscal-year 2003, when preschool charges totaled only $240 per class session, even though average class size declined from 12 to 10 students.

Each year, YSWP management prepared a budget for the next year that was exactly equal to the prior year’s actual results.

Further Changes

Currently, the children’s day was split up between a two-hour core class and a one-hour elective. The elective aimed to bring new ideas and teaching styles into the classroom. However, YSWP believed that its core competency lay in delivering a solid, core class to the children. This method had been successful in preparing children for the move to kindergarten. Additionally, the elective had not been successful as an experimental setting to test new teaching styles and ideas; in fact, the elective had become merely an extension of the core class. Consequently, YSWP planned to abolish the elective class and only offer the standard, core class.

Additionally, YSWP was considering purchasing a neighborhood school. As part of the expansion, YSWP’s director would have more administrative responsibility. She had hired another teacher to cover her classes as well as two administrative assistants to help with the daily operations of YSWP.

Questions

1. Compute the cost of a single preschool class and a single birthday party using the current cost system.

2. Would you recommend that YSWP continue to allocate the building-related costs only to the preschool program? What alternative allocation method would you suggest? Justify your answer. Ignore consideration of excess capacity discussed in question 3 below for this answer. Please discuss any additional information that you feel is needed.

3. For three months each year (June–August), the school building is largely unused except for the birthday parties. This represents approximately 60 days, or 360 additional classes that could be run but are not. How should YSWP account for this excess capacity? Please explain why you recommend this method.

4. Do you agree with YSWP’s allocation method for salaries, supplies, and food? Why or why not? Be specific about any alternative allocation methods that you would consider.

5. Do you agree with YSWP’s decision not to allocate the cost of advertising? Why or why not? Be specific about any alternative allocation methods that you would consider.

6. Compute the cost per class meeting and per birthday party under the assumptions that you have made.

7. How could YSWP use the information from the revised cost information to enhance profitability?

8. Briefly explain the change in the average revenues per class (from $240 to $270 per class between last year and this year). What other information would you collect to help explain the variation?

Exhibit 1

Young School for Wee People Income Statement for the Year Ended June 30, 2002
Revenue		$ 354,000
Expenses:
Building Related $ 216,000
Salaries 100,000
Food and Supplies 21,000
Advertising 10,000
Total Expenses		347,000
Net Profit		$ 7,000

Answer 1

1.

Cost Activity	Pre School Classes	Birthday
Supplies	18,000.00	3,000.00
Director Salary	40,000.00
Administration Cost	5,000.00	5,000.00
Two Employees	40,000.00
Two Part Time Employees		10,000.00
Total Cost	103,000.00	18,000.00
Total Class/Birthday Party	1,200.00	150.00
Single Class/Party	85.83	120.00
Building Related Cost	180.00
YSWP Charged	270.00	200.00
Profit	4.17	80.00

2. Yes I will recommend that YSWP should allocate the building related cost to Preschool Classes.as if we allocate cost to both activity then cost of Birthday party will be more as compared to YSWP Charged so building related cost is fullly allocate to Preschool activity.

4. I am agree with YSWP allocation method of Salaries, Supplies & food this give better picture of profit as employee who is looking the activity so that salaries goes to that activty it will show exact profit & we can easilly identified the cost driver activity.

5. Yes i am agree with YSWP’s decision not to allocate the cost of advertising, as they can give advertising for the for the preshool classes only main business is of school activity so need to allocate advertsing expenses.

6.

Cost Activity	Pre School Classes	Birthday
Supplies	18,000.00	3,000.00
Director Salary	40,000.00
Administration Cost	5,000.00	5,000.00
Two Employees	40,000.00
Two Part Time Employees		10,000.00
Advertising Expenses	10,000.00
Building Related Cost(On the basis of class)	216,000.00
Total Cost	329,000.00	18,000.00
Total Class/Birthday Party	1,200.00	150.00
Single Class/Party	274.17	120.00
YSWP Charged	270.00	200.00

8.

Cost Activity	Pre School Classes	Birthday	Total
Supplies	18,000.00	3,000.00
Director Salary	40,000.00
Administration Cost	5,000.00	5,000.00
Two Employees	40,000.00
Two Part Time Employees		10,000.00
Advertising Expenses	10,000.00
Building Related Cost(On the basis of class)	216,000.00
Total Cost	329,000.00	18,000.00	347,000.00
Total Class/Birthday Party	1,200.00	150.00
Single Class/Party	274.17	120.00
YSWP Charged	240.00	200.00
	288,000.00	30,000.00	318,000.00
		Profit	(29,000.00)

if we will not charge of $270 then there will be loss of $29,000.