Problem Set #1 – EVC & Break-Even Analysis
Part A – EVC Analysis
A homeowner has asked a local real estate agent for advice on the price he should set for his house. The real estate agent notes that the only comparable house in the neighborhood that is currently for sale is asking $350,000. Both houses are on a hill that overlooks a beautiful lake, but the owner’s house is forty feet farther up the hill than the comparable house. The agent estimates that, in this area, customers will pay an additional $10,000 for a house for each ten added feet of elevation associated with the house’s location. The owner’s house has an old, outdated kitchen, but the sellers of the comparable house have just spent $24,000 to remodel their kitchen. What is the selling price that the real estate agent should recommend and why?
Lincoln Manufacturing has just developed a more durable commercial carpeting. It has all the advantages of the currently available commercial carpeting and lasts twice as long. Lincoln’s materials and labour costs for producing this new carpeting are $14.50 per square yard. Buyers of commercial carpeting must have it installed by independent contractors whose installation charges for this new carpeting average $10 per square yard. The price of the currently available commercial carpeting averages $12 per square yard. Independent contractors charge $8 per square yard for installing the currently available commercial carpeting.
(a) Use EVC analysis to calculate the value for commercial buyers of a square yard of Lincoln’s new carpeting.
(b) Recommend a price for a square yard of Lincoln’s new carpeting and justify your recommendation.
PART B – Break-Even Analysis:
David is a local barber who operates his own mobile barber business in the Canarsie area of Brooklyn. The total fixed costs for running the company car and David’s wages are $3,200 per month. The price for a haircut is $18 with a variable cost of $6.75 per cut. In a typical month, David makes 365 cuts. Due to his success, other mobile barbers are entering the market with lower prices, so David is considering a 5% price reduction.
Assuming no changes in his variable or fixed costs, what would be the %BE and unit BE required to be profitable?
Fortunately for David, since he’s been doing this for a while, he’s managed to identify a way to reduce his variable costs by $0.25 per cut. What would be his %BE and unit BE given this new information?
David is considering an expansion into the next neighborhood to increase his territory. However, he would need a new car and some new equipment. He estimates that it would require incremental semi-fixed costs of $6,600.
(a) Calculate the BE sales volume required (to the nearest whole unit) to recover the incremental investment
(b) Calculate the %BE sales change AND the unit BE to account for BOTH the 5% price cut and the incremental fixed costs.
Create a Breakeven Sales Analysis for David, including the graph (see Ex.10-3, 10-4 on page 218). Incremental semi-fixed costs are $550 per 500 additional units. The simulated % change in sales volume should be 0%, 5%, 10%, 15%, 20%, 25%, 30%. You must show ALL calculations for each change in sales volume.
Create a Breakeven Sales Curve for David, including the graph (see Ex.10-5, 10-6 on pg.220). Incremental semi-fixed costs are $550 per 500 additional units. The price change values are: 20%, 15%, 10%, 5%, 0%, -5%, -10%, -15%, -20%.
You must show ALL calculations for each price change.