Question

Phil and Carol eloped (at 59 and 46) to New Mexico and then told the kids they were moving there permanently. After 5 years in downtown Albuquerque, Carol made one of her frequent flights east to visit family. She returned to find that Phil had rented out a bedroom, declaring they were in the "Bed and Breakfast" business. In a year, they expanded to a pricy suburb by buying/renovating a larger estate with 6 rooms or apartments. Phil cooked breakfast; Carol bought; they lived in a separate suite and frequently hosted guests for cocktail hour. The average life-span for B&B owners is about 4 years. After about 3 years, Phil was tired of doing breakfasts. He and Carol built their own home next door, hired Maggie to run the B&B, and pitched in when needed. You have been asked to help them see where this business is financially. Use the following information to prepare a two-page analysis. Room prices range, but average $85 per night. Last year without Maggie, they generated about $30,000 in revenue. Expenses this year (e.g., advertising, telephone, mortgage, repairs/maintenance, utilities, Maggie's base salary) are generally fixed ($34,739) except for breakfast which is variable (last year = $3,729). Maggie's salary consists of a base of $7500 plus a commission of 35% of revenue over $25,000, and a free room (the separate suite).

Questions:

1. Last year (before Maggie) what was breakeven (in room/nights and $s)? Did they make a profit? What was the maximum profit that could be made?

2. With Maggie, what is the new breakeven? Is this a realistic possibility? What should they do?

Note: Your analysis and response to the above questions should be a minimum of 500 words

Answer 1

1) The break even revenue = Total fixed expenses for last year - Maggie's base salary + Variable cost for breakfast

= 34739 - 7500 + 3729

= $30968

In Room/nights = Total break-even $ Revenue / Average price per night

= $30968 / 85 = 364 Room/nights

2) Their total revenue last year was $30000. Thus, they did not profit.

Loss = $30000 - $30968 = $968

3) For maximum profit, we calculate maximum revenue.

Maximum revenue is when the room is rented for all 365 nights in a year at $85 per night.

Maximum Revenue = 365* 85 = $ 31025

Maximum Profit = $31025 - $ 30968 = $57

4) With Maggie, new break even = Total Fixed Expenses + Variable Cost for breakfast + Maggie's commission

= 34739 + 3729 + 5000(0.35)

= 40218

This is much above the maximum revenue they can earn. This is not a realistic situation as it will always return a loss.

Carol and Phil should shut down their business as the average life is of 4 years and 3 years have already passed rather than entering into something that would return a loss.