Question

The executive education (EE) unit at the Business School of Central State University offers both open-enrollment (anyone can sign up) and custom (designed for a specific client) executive education programs. CSU has just received an inquiry from a prospective client about its prices for leadership seminars. The prospective client wants bids for three alternative activity levels: (1) one seminar with 20 participants, (2) four seminars with 20 participants each (80 participants total), or (3) eight seminars with 140 participants in total. EE’s cost analyst has provided the following differential cost estimates.

Setup costs for the entire job	$	900
Materials costs per participant (brochures, handouts, coffee, lunch, etc.)		100
Differential direct labor costs:
One seminar	$	1,200
Four seminars		5,200
Eight seminars		8,800

In addition to the preceding differential costs, EE allocates fixed costs to jobs on a direct-labor-cost basis, at a rate of 75 percent of direct labor costs (excluding setup costs). For example, if direct labor costs are $100, EE would also charge the job $75 for fixed costs. EE charges clients for its costs plus 25 percent. For the purpose of charging customers, costs equal the setup costs plus materials costs plus differential labor costs plus allocated fixed costs. EE has enough excess capacity to handle this job with ease.

Required:

a. Assume EE's bid equals the total cost, including fixed costs allocated to the job, plus the 25 percent markup on cost. What should EE bid for each of the three levels of activity?

b. Compute the differential cost (including setup costs) and the contribution to profit for each of the three levels of activity. Note that fixed costs are not differential costs.

c. Assume the prospective client gives three options. It is willing to accept either of EE's bids for the one-seminar or four-seminar activity levels, but the prospective client will pay only 85 percent of the bid price for the eight-seminar package. EE's director responds, "We can't make money in this business by shaving our bids! Let's take the four-seminar option because we make the most profit on it."

c-1. What would be the contribution to profit for each of the three options?

c-2. Do you agree with the EE's director?

Answer 1

SOLUTION

a.

	One	Four	Eight
	Seminar	Seminars	Seminars
Number of participants .............................................	20	80	140
Setup costs ................................................................................... ................................................................................... ...................................................................................	$     900	$     900	$     900
Materials cost (@ $100 per participant) ...................	2000	8000	14000
Differential labor costs .............................................	1200	5200	8800
Allocated fixed costs (@75% of direct labor costs)	900	3900	6600
Total costs .............................................................	$ 5000	$18000	$30300
Fee (@25% of total costs) ........................................	1250	5,310	9,000
Bid (Total cost plus Fee)...........................................	$ 6250	$23310	$39300

b.

	One	Four	Eight
	Seminar	Seminars	Seminars
Differential costs:
Setup costs ................................................................................... ................................................................................... ...................................................................................	$     900	$     900	$     900
Materials cost (@ $100 per participant) ...................	2000	8000	14000
Differential labor costs .............................................	1200	5200	8800
Allocated fixed costs.................................................	0	0	0
Total differential costs ..........................................	$ 4100	$14100	$23700
Differential bid (a).........................................................	6250	23310	39300
Contribution to profit................................................	$ 2150	$9210	$15600

c.         Disagree. The contribution to profit is greatest for eight seminars.

	One	Four	Eight
	Seminar	Seminars	Seminars
Bid (from requirement a, above, @90% for eight seminars)(a)....................................................................A	$  6250	$ 23310	$ 39300
Incremental costs:
Setup costs ................................................................................... ................................................................................... ...................................................................................	900	900	900
Materials cost (@ $100 per participant) ...................	2000	8000	14000
Differential labor costs .............................................	1200	5200	8800
Total incremental costs .........................................B	$ 4100	$14100	$23700
Contribution to profit................................................A-B	$ 2150	$ 9210	$15600