Exercise 11

A hotel on the Adriatic Riviera has facilities to accommodate up

to 350 full boards per day, or equivalently 127,750 full
boards per year. In the main season (June to September),
only 35,000 full boards are sold at a price of €95 per day.
Total fixed costs are €1.4 mill., total variable costs at this rate
of capacity usage are €0.875 mill. The hotel’s management
has analyzed the possibility of off-season sale and realized
that additional 15,000 full boards at €45 per day and 7,500
full boards at €38 per day could be sold in the off-season
months. Both prices are below the full cost per unit for full
boards. Total variable costs would increase proportionally,
but the increased capacity usage would cause a €0.15 mill.
increase in the fixed costs. Would you recommend the hotel
to increase the capacity usage by offering off-season sale of
accommodations at prices below full cost per unit?

Exercise 11 - solution
Relevant revenues:
Additional revenues 15,000 ×€45 + 7,500 ×€38 = €960,000

Relevant costs:
Additional FC = €150,000
Additional VC = VCunit ×(15,000+7,500)

VCunit = VC/Q = €875,000/35,000 = €25

Additional VC = €25 ×22,500 = €562,500

Additional costs = €150,000 + €562,500 = €712,500

Additional profit = €960,000 - €712,500 = €247,500

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 Exercise 11 - solution
a) Yes, the company should offer off-season sale of
accommodation, because the additional revenues are
higher than additional costs, meaning that off-season sale
brings additional profit.
b) No, the company should not offer off-season sale of
accommodation, because the prices do not cover the cost
per unit, meaning that the total profit would decrease.
c) Yes, the company should offer off-season sale, because it
is profitable on its own and the total profit would therefore
increase.
d) No, the company should not offer off-season sale of
accommodation, because the additional revenues are lower
than additional costs, meaning that off-season sale brings
additional loss.

Exercise 7
The company “Clean, Ltd.” manufactures and sells vacuum
cleaners. The company also sells dust bags that fit their
vacuum cleaners. Each buyer of a vacuum cleaner gets 10
dust bags for free. The yearly demand for dust bags is
10,000 units. The dust bags are bought from a supplier that
charges €0.40 per unit. Because the company “Clean, Ltd.”
has unused capacities than can be used to produce dust
bags, it is considering the possibility of producing dust bags
in-house. The fixed cost of capacities intended for production
of dust bags is €1,600 and variable costs for the production
of 10,000 dust bags are €2,500. Calculate the cost per unit
for produced dust bags and answer if it is more rational to
produce dust bags in-house or buy them from the supplier?

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 Exercise 7 - solution
Make or buy?

Make:
Total cost = FC + VC = €1,600 + €2,500 = €4,100
Cost per unit = (FC+VC)/Q = (€1,600 + 2,500)/10,000 = €0.41

Buy:
Total cost = Purchasing value + FC = €0.40 ×10,000 + €1,600 =
= €4,000 + €1,600 = €5,600
Cost per unit = €0.40 + €1,600/10,000 = €0.40 + €0.16 = €0.56

The company is better off if they make the dust bags in-house because
the total cost (and the cost per unit) is smaller. The fixed costs of
unused capacities (€1,600) are irrelevant costs in this case because
they are same in both alternatives, and they can be excluded from the
analysis.