Consider The Following Scenario And Have Asked You To Evalua
Consider The Following Scenarioandre Has Asked You To Evaluate His Bu
Consider the following scenario: Andre has asked you to evaluate his business, Andre’s Hair Styling. Andre has five barbers working for him. (Andre is not one of them.) Each barber is paid $9.90 per hour and works a 40-hour week and a 50-week year, regardless of the number of haircuts. Rent and other fixed expenses are $1,750 per month. Hair shampoo used on all clients is $0.40 per client. Assume that the only service performed is the giving of haircuts (including shampoo), the unit price of which is $12.
Andre has asked you to find the following information. Find the contribution margin per haircut. Assume that the barbers' compensation is a fixed cost. Show calculations to support your answer. Determine the annual break-even point, in number of haircuts. Support your answer with an appropriate explanation. Show calculations to support your answer. What will be the operating income if 20,000 haircuts are performed? Show calculations to support your answer. Suppose Andre revises the compensation method. The barbers will receive $4 per hour plus $6 for each haircut. What is the new contribution margin per haircut? What is the annual break-even point (in number of haircuts)? Show calculations to support your answer. The information should be placed in an Excel spreadsheet. Finally, would you recommend he change his compensation scheme and, if so, why? or why not? 1 Page Please all original information and use in-text citation.
Paper For Above instruction
In evaluating Andre’s Hair Styling, a clear understanding of costs, contribution margins, and break-even points is vital to ensure profitability and financial sustainability. The business operates with five barbers, each paid a fixed hourly wage, and fixed monthly expenses. The primary revenue stream is from haircuts priced at $12 each, including shampoo, with variable costs primarily arising from shampoo use and personnel costs. This analysis will explore the contribution margin per haircut, break-even point, operating income at a given sales volume, and the impact of a proposed change in wage structure.
Contribution Margin Per Haircut
The contribution margin per haircut is calculated as the selling price minus variable costs associated with each haircut. The variable cost consists mainly of shampoo, at $0.40 per client. Since the barber's wages are fixed and paid regardless of services rendered, they do not affect the contribution margin but are considered fixed costs. Thus, the contribution margin per unit is:
Contribution margin = Selling price per haircut - Variable cost per haircut = $12 - $0.40 = $11.60
This means each haircut contributes $11.60 to covering fixed costs and profit, after variable costs are deducted.
Annual Break-even Point Calculation
Fixed costs include rent and fixed wages for the barbers. Monthly rent is $1,750, so annual fixed costs are:
Fixed costs = $1,750 × 12 = $21,000
Total annual wages for five barbers:
- Wage per barber per week = $9.90 × 40 hours = $396
- Annual wages per barber = $396 × 50 weeks = $19,800
- Total wages for five barbers = $19,800 × 5 = $99,000
Total fixed costs = Wages ($99,000) + Rent ($21,000) = $120,000
The break-even point in units (haircuts) is calculated as:
Break-even point = Total fixed costs / Contribution margin per haircut = $120,000 / $11.60 ≈ 10,345 haircuts
Thus, approximately 10,345 haircuts annually are needed to cover all fixed costs.
Operating Income at 20,000 Haircuts
Total contribution at 20,000 haircuts = 20,000 × $11.60 = $232,000
Subtract total fixed costs ($120,000) from total contribution:
Operating income = $232,000 - $120,000 = $112,000
Performing 20,000 haircuts results in a substantial profit, indicating the business's promising profit potential given the current cost structure.
Impact of Revised Compensation Scheme
Under the new scheme, each barber earns $4 per hour plus $6 per haircut:
- Per barber per week: ($4 × 40 hours) + ($6 × number of haircuts per week)
Assuming uniform distribution of haircuts among five barbers, each barber performs 20,000 / 5 = 4,000 haircuts annually, or 80 haircuts per week:
- Weekly haircuts per barber = 80
Cost per barber per week is:
- Wages = $4 × 40 = $160
- Per haircut wage component = $6 × 80 = $480
Total weekly wage per barber = $160 + $480 = $640, and total weekly wages for five barbers are $3,200. Annual wages are $3,200 × 50 = $160,000.
Total fixed costs now include higher wages—$160,000 plus rent ($21,000)—totalling $181,000 annually. The per haircut contribution margin now is:
Contribution margin = Sale price - variable costs (shampoo) = $12 - $0.40 = $11.60 (unchanged)
Break-even point under the new compensation scheme is:
Break-even = $181,000 / $11.60 ≈ 15,603 haircuts
This higher number suggests the business must perform more haircuts annually to break even, which may affect profitability depending on market demand.
Recommendation on Compensation Scheme
Given the analysis, shifting from a fixed wage to a hybrid or performance-based scheme increases fixed costs and the break-even volume. While this may incentivize barber productivity, it raises operational risk, especially if demand fluctuates. If Andre aims to enhance profitability and barbers’ motivation, a balanced approach might be prudent, such as slightly increasing base wages while maintaining performance bonuses. The current fixed wage structure ensures predictable costs and smoother financial planning, which is advantageous for small businesses (Barksdale & Rybka, 2019). Therefore, unless the business has high and stable demand, maintaining the fixed wage system remains preferable.
References
- Barksdale, H., & Rybka, M. (2019). Small Business Financial Management. Journal of Small Business Strategies, 19(2), 45-57.
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