Question

Crooked Creek Wines operates a cellar door venue in which customers can sample and purchase wines. The average revenue per day is $750 , variable cost per day is $250 and annual fixed costs for the cellar door operations is $95,000. Assume 365 operating days. What is the operating profit (loss) fo r cellar door operations per year?

As CVP analysis allows us to play “what if” games with the information, calculate the operating profit under each of the following conditions:

a) Reduction in cellar door operations to 280 days per annum

b) Increase in the average daily revenue to $800

c) Increase in the average daily revenue to $800 AND decrease variable costs to $225 AND reduce the operating days to 290.

Once all of the options have been considered, which of the options would you recommend to the management o f Crooked Creek Wines and why?   

Answer 1

• All workings form part of the answer
• Current year operating profit

	per day	Annual (365 days)
Revenue	$750	$273750
(-) variable cost	$250	$91250
Contribution margin	$500	$182500
(-) Fixed cost		$95000
Operating Profit per year		$87500

• Evaluation of each option – a,b and c

Alternative ‘a’

	per day $	Annual (280 days)
Revenue	750	210000
(-) variable cost	250	70000
Contribution margin	500	$140000
(-) Fixed cost		95000
Operating Profit per year		$45000

Alternative ‘b’

	per day $	Annual (365 days)
Revenue	800	292000
(-) variable cost	250	91250
Contribution margin	550	$200750
(-) Fixed cost		95000
Operating Profit per year		$105750

Alternative ‘c’

	per day $	Annual (290 days)
Revenue	800	232000
(-) variable cost	225	65250
Contribution margin	575	$166750
(-) Fixed cost		95000
Operating Profit per year		$71750

Final Evaluation for answer

Alternatives	Current	(a)	(b)	(c )
Operating Profit per year	$87500	$45000	$105750	$71750

From above analysis, it is clear that Option ‘b’ should be recommended to increase daily revenue to $800. This is because, of all the options, this option gives maximum Operating profits of $105,750.