Question

Pacific Cruises provides standard riverboat cruises for tourists on the Hawkesbury River. The average cruise has 90 passengers on board. Each passenger pays $100 for a day’s cruising. The riverboat cruises 120 days each year in meeting current demand. There are 14 crew who are each paid an average of $130 per cruise. The crew is paid only when the boat sails. Other variable costs are for refreshments, which average $20 per passenger per cruise, and fuel which averages $400 per cruise. Total annual fixed costs are $380,000.

REQUIRED

(a) Calculate revenue and variable costs for each cruise.

(b) Calculate the number of cruises needed annually to break even.

(c) Using the contribution margin approach calculate the number of cruises needed to annually earn $500,000 profit over breakeven. Discuss whether this profit goal is realistic under current conditions and possible assumptions and limitations of the “cost / volume / profit model” at such higher volume levels. (word limit 60)

(d) Pacific Cruises is considering replacing the existing one-day cruises as detailed above with a one-day luxury cruise costing more at $180 per passenger. Under this new proposal it is estimated that demand will increase, requiring the boat to cruise for 150 days each year with each cruise taking 50 passengers. Other costs to change from the original offer include refreshments, up from $20 to $30 per passenger, and annual fixed costs to increase from $380,000 to $450,000. All other variable costs remain the same per passenger as per the standard cruise offer.

(i) Calculate the number of cruises needed annually to break even.

(ii) Given Pacific Cruises wants to maximize total yearly profit discuss, justifying your answer, whether they should continue with the existing standard cruise or replace it with the luxury cruise. Comment on the level of risk of each proposal and the possibility of making a loss. (Please note the boat has the same useful life / residual value under either the standard or luxury offer. The boat remains docked at the harbour when not in use having no alternate use.) Show all workings/ calculations as part of your answer. (limit 80 words)

(e)Explain to Pacific Cruises’ management how they would be able to integrate cost-volume-profit analysis into their broader planning. As part of your answer, discuss three ways to increase profit and explain how cost volume profit analysis is useful in evaluating the different alternatives considered. (150 words limit)

Answer 1

Standard cruise
(a)Revenue and variable costs for each cruise.
Revenue per cruise	90*$100		9000
Variable costs /cruise:
Crew wages	14*130	1820
Cost of Refreshments	20*90	1800
Cost of Fuel		400
Total Variable costs /cruise			4020
(b)Number of cruises needed annually to break even.
Revenue per cruise	9000
Less: Variable costs /cruise	4020
Contribution/cruise	4980
Annual Fixed costs	380000
No. of cruise needed annually to break-even=
Fixed costs/Contribution per cruise
ie. 380000/4980=
76
Cruises
c.No. of cruises needed to annually earn $500,000 profit over breakeven
Annual cruises for target profit=(Fixed costs+Target Profit)/Contn. /cruise
ie.(380000+500000)/4980=
177
Cruises
With capacity increase,ie.as the no.of cruises increase , fixed costs may also increase from the current $ 380000
There is the uncertainity of takers ,ie. Passengers for all the 177 cruises , to earn this level of profit.
so, the target profit may not always be possible , due to the uncertainty about the cost, no.of passengers as well as the contribution from each cruise.

Luxury cruise
(d.)Revenue and variable costs for each cruise.
Revenue per cruise	50*$180		9000
Variable costs /cruise:
Crew wages	14*130	1820
Cost of Refreshments	30*50	1500
Cost of Fuel		400
Total Variable costs /cruise			3720
(b)Number of cruises needed annually to break even.
Revenue per cruise	9000
Less: Variable costs /cruise	3720
Contribution/cruise	5280
Annual Fixed costs	450000
No. of cruise needed annually to break-even=
Fixed costs/Contribution per cruise
ie. 450000/5280=
85
Cruises

ii.	Standard	Luxury	Lux.-Std.
Contn./cruise	4980	5280	300
No.of days of one-day cruise	120	150	30
Total contn.	597600	792000	194400
Less: Fixed costs	380000	450000	70000
Net profit	217600	342000	124400
No.of days needed to break-even	76	85

As Pacific Cruises wants to maximize total yearly profit they should replace the existing standard with the luxury cruise.

Possibility of making a loss with luxury cruise is when the business days fall below 85 whereas,

the same with the existing std.one is 76 days.

But the main point is demand should be consistent as predicted for the luxury type as the price is almost double.

Cost for the Pacific, for refreshment goes up by $ 10 per passsenger.

By looking at Col.3 of the above Table., the risk seems to be worth-taking , provided the demand can be predicted accurately.

e.

Cost Volume Profit analysis helps the managers to extrapolate profits by effecting & analysing changes in:

costs--both fixed & variable--profits increase when costs are reduced

sales volume-- all other things remaining constant , profits increase when sales volume increases

selling price-- all other things remaining constant , profits increase when selling price of each product sold increases.

Thus Pacific Cruises’ management would be able to integrate cost-volume-profit analysis into their broader planning .