Decision Making using Marginal Profit Institute

Marginal profits is the profit earned when a person sales more of an
item. When calculating marginal profit we consider the variable expenses
because they increase with sales. Fixed expenses are not considered as
they are not affected by increase in sales. Thus marginal profit=
selling price- total variable cost per unit (Graham, et al, 2012). This
study paper uses marginal profit to help in decision making. The case
study in this paper is on Middlehurst House daycare the director of the
daycare wants to expand the school and reduce the number of children per
instructor. However, he does not want to do so unless he is sure that
doing so will increase the school profit. The school has a capacity of
holding 120 children but currently has a population of 80 children.
Questions
If class size is decreased (keeping the same 80 students), what increase
in tuition is necessary to keep the current monthly profit level?
The current monthly profit is
Marginal profit (MP)= revenue (R) –cost (C) (Banerjee, 1987).
MP=21500-21000
MP=500
To find out what increase in tuition is required to attain the same
profit with the same profit
Our monthly profit level is $ 500
The revenue is not known
The total expenses can be calculated as C=21000+ (step cost
1600*4+200*4+160*4) the reason for this is because all the rest remain
an extra class will require an extra instructor. Each instructor will
receive a step up salary, a benefit and a salary benefit of 10%.
So MP which is $500=R-28840
500=R-28840
500+28840=R
R=29340
Thus the total tuition needed to maintain the same profit is 29340
Marginal revenue equals difference between Marginal revenue and marginal
cost
b. Without regards to (a) is it profitable to create the new class from
the waiting list? Explain
Age number of children fee for tuition total
2-3 5 320 1600
3-4 7 280 1960
4-5 4 280 1120
5-6 11 260 2860
Profit =total tuition earning –total cost
P=(29040-1,100 adjustment cost)-28840
loss=$900
By creating a new class from the waiting list the school will definitely
experience a loss.
Use the new fee structure as found in (a). Is it profitable to move to
smaller class sizes, if new full classes are created and filled to their
new maximums using the waiting list show calculations?
Age nu of classes nu of children/class total children Tuition fee/child
ratio
2-3 4 6 25 320 6:1
3-4 3 8 21 280 8:1
4-5 3 8 19 280 8:1
5-6 4 10 41 260 10:1
Total revenue earned will therefore be =
8000+5880+5320+10660= 29860-1,100 (adjustment cost) = 28760
Total cost
The classes will increase by two classes at each age group thus
Cost =total expenses plus the instructors cost plus the extra cost
brought about by addition children
12000+(160*8+200*8+1600*8)+(1*27+1.25*27)=36741.75
To get the profit or loss
Revenue –cost
28760-36741.75 =-7981.75
Thus it would not be profitable to move to smaller classes.
Is a class for infant care profitable if tuition is the same as the
proposed class tuition for the 2-3 age groups?
The tuition=320
Number of infant per class=5
Total revenue =320*5=1600
Salary for the instructor plus salary benefit plus program benefit
Cost=1600+200+160
Profit/loss=1600-1960
Loss=360
Thus, the class of infant would not be profitable
Memo
To: Friedman and Compton
From: The Daycare Accountant
2/10/2014
Ref: Concerns that underlie in the analysis of whether it would
profitable to increase the number of children and decrease the class
size.
This memo is meant to inform you about my findings after evaluating
whether it would be profitable to decrease the class size and increase
the number of children in the day care. About decreasing the class size
during my evaluation I found that the tuition fee would have to be
increased in order to retain the same profit gain. This increase would
be able to cover the cost and still yield a profit of $ 500 per month
(Pizzey & Pizzey, 1989).
It would not be profitable to decrease the class size as this would
increase the cost while as revenue remained the same. There would be an
extra cost for paying new instructor salary and other benefits. Thus, I
would strongly advice that if the classes must be decreased in size then
the tuition fee must be increased (Rajasekaran & Lalitha, 2011).
Decreasing the size of the classes and increasing the number of children
would still not make a difference rather the school would experience a
loss since the cost of managing the new extra classes would be higher
than the revenue generated. If the administration must decrease the
class size then my advice is ask the parent to increase the tuition fee.
This way the cost used to manage the classes would not be more than the
revenue generated.
Infant class would not be profitable for the day care especially if the
tuition fee is 320. The reason for this is because the cost of managing
this class would be higher than the revenue the class would generate.
As I conclude I would like to recommend that you revise the tuition fee
if you are to make any changes. Increasing the fee would be profitable
if the classes were to be decreased.
Reference
Graham, J. R., Smart, S. B., & Megginson, W. L. (2012). Introduction to
corporate finance. Australia: South-Western/Cengage Learning.
Banerjee, B. (1987). Financial policy and management accounting.
Calcutta: World Press Private Ltd.
Rajasekaran, V., & Lalitha, R. (2011). Cost accounting. Delhi: Pearson.
Pizzey, A., & Pizzey, A. (1989). Cost and management accounting. Paul
Chapman.
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