Problem - You have just inherited a Greek pizza recipe from your grandmother who recently passed away. This secret recipe has been protected for generations in your family. You want to open a pizzeria and get ready to do a cost and profitability analysis. Fortunately, you just completed a course in financial tools that taught you to do a CVP analysis. You gather the following information including cost estimates. Your marketing consultant friend tells you that you could easily sell 10,000 pizzas per month at the price of $10.50. Further, increasing the price to $15.50 will reduce the volume sold by 10%. While you want to sell this specialty Greek pizza of high quality and unique taste you want to stay in the low price market you do not want to consider selling the pizzas at above $15.50. You plan to sell 5 different varieties of pizzas (all would cost about the same to make and they are all one size, one price), 3 varieties of salads, and a number of beverages, not including alcohol.
Cost estimates for Pizza
Ingredients- $12,000 to make 4,000 pizzas
Labor (Kitchen assistants, waiters) $7.50 per hour. Estimated production time is 22 minutes per pizza
Utilities $500 per month Plus $0.24 per Kilowatt hours. Estimated 1 KWH per pizza
Rent $15,000 per month
Kitchen Equipment Cost $252,000 Useful life 10 years. (Amount of depreciation is fixed cost)
Restaurant Furniture-Leased $6,000 per month
Supplies $ 3,100 per month (used to serve 10,000 pizzas)
Salaries- Chef & Manager, Accountant $300,000 per year
Janitorial services - Outsourced at $3,000 per month
Local taxes $3,500 per month
Answer the following questions:
1. At the price of $10.50 what is the breakeven point (number of pizzas)?
2. Calculate the breakeven point at the price of $15.50.
3. What price would you change for the pizzas? Explain.
4. A new university opened in town and suddenly the demand for low cost (& high quality) pizza when up significantly. If you could sell 15,000 pizzas a month without increasing fixed cost how much profit can you make at the price you charge in (3) above?
5. Assume that in the above situation increasing the volume of pizzas to 15,000 per month can be achieved only by hiring more help in the kitchen. This can either be achieved by hiring labor which will increase the variable cost per pizza by $1.30 or, by outsourcing the labor of dough making for the additional pizzas at a fixed cost of $14,000 per month. Which option provides the most profit?
6. Without prejudice to the answer to (5) above, assume you want to outsource dough making. At what price should you sell the pizzas to make the same profit as in (4) above?
7. If you decided to hire kitchen help to sell additional pizzas instead of outsourcing, at what price would you have to sell the pizzas to earn the same profit as in (4)?
8. Your friend thinks that your variable cost is bit too high for this kind of an operation and that you need to restructure your costs. Would you agree with him based on the above analysis? (Try: If your variable cost can be reduced by 10% by increasing the fixed cost by 10% how much will be your profits at the sales volume of 15,000 pizzas?)