She intends making customised handbags bags with designs based on local scenery and wildlife to sell to tourists. Prior to opening the business she is doing some analysis of her expected costs. She would be able to lease premises, where she can both make and sell the bags, for $17,400 per annum. She expects advertising costs to be another $4,000 per annum. She would also need to lease machinery costing $300 per month. She intends ‘bundling’ her telephone line rental and internet access which will cost a fixed amount of $30 per month and then $0.4 per call if she makes calls in excess of those covered in the ‘bundling’ package. She does not expect that she will make sufficient calls to be charged for any excess calls, however. The materials to make one bag cost $5. Labour will be $20 per hour and two bags can be made per hours. Electricity for running the machinery is expected to be $4 per hour. She expects to sell the bags for $40 each and to make bags for six hours per day, 5 days per week, (Mon-Fri), although the shop will be open six days per week. She expects that she will be able to sell all the bags that she makes within a month of making them, as the new shop is in a prime location and sales in other stores in the area for fashion items are strong. She will employ her niece at a total cost of $15 per hour for two hours on Saturdays, as this is expected to be the day when the shop will be most busy. Pricilla will need to give up her current job in order to start this business, and she requires the monthly profit to be at least equal to her previous salary of $3,000 per month. Note: All of these costs are excluding GST and you do not need to consider GST in your calculations for this section.
Required:
1. Calculate the contribution margin per bag.
2. Calculate the monthly fixed costs.
3. Calculate the number of bag sales per month needed to break even (round up to nearest bag if required).
4. Calculate the number of bag sales required per month to attain a target profit equal to Priscilla’s previous monthly salary. Will the expected production levels be sufficient to achieve this?
5. Assuming Priscilla achieves her planned selling price of $40, and production levels are as expected, with all bags sold in a month, prepare a projected monthly Profit and Loss Statement (Income Statement) for the new business. There will be no stocks of material at the end of each month, as all material is used in the month for the production of that month’s bags.
6. Pricilla is unsure whether she will achieve the expected selling price. How would the results for (3) and (4) above change if the selling price had to be reduced by 20%? Would the expected production levels be sufficient to achieve this?
