Question

James House is planning on starting a cleaning services business but has not decided whether he should focus on residential clients or commercial clients. His estimates of revenue, variable expenses, and fixed expenses are shown below.

	Residential			Commercial
Revenue	$	105	per hour	$	115	per hour
Variable expense	$	63	per hour	$	46	per hour
Fixed expense	$	14,490	per month	$	18,216	per month

Required:

1. At what volume of hours per month will James be indifferent between focusing on residential versus commercial clients?

2. Calculate the number of break-even hours for residential clients and commercial clients. (Round your answers to 1 decimal place.)

3. Assume that James decides to focus on commercial clients and his business is operating at 350 hours per month. Calculate the margin of safety both in dollars and as a percentage of sales. (Round percentage answer to 1 decimal place.)

Answer 1

Requirement#1:-

Cost Indifference Point = Differential fixed cost /Differential variable cost per hours

=$(18216-14490)/$(63-46)

=$3726/$17

=219.2 hours

Requirement#2:-

Break even sales in Hours= Fixed Cost / (Revenue per Hours - Variable Cost per hours )

• Residential :- $14,490 /$ (105-63) = 345 hours

• Commercial:- $18216/$(115-46) =264 hours

Requirement#3:-

Margin of safety in $ = Total Revenue - Break even sales(Break even Hours* Revenue per hourst)

• Residential :-

Margin of safety in $= ($105*350 Hours ) - ($105*345 hours)

=$36750-$36225 =$525

Margin of safety in Hours= $525/105 =5 hours

Margin of safety % = $525/$36750*100 =1.4%

• Commercial :-

Margin of safety in $ =($115*350 hours )-($115*264 hours)

=$40250-$30360 =$9890

Margin of safety in hours = $9890/$115 =86 hours

Margin of safety in % = $9890/40250 *100 =24.6%