To figure Andre?s Hair Styling contribution margin, you start first
with fixed costs:
LABOR: $9.90 * 40 * 50 * 5 barbers = $99,000
OVERHEAD: $1,750 * 12 = $21,000
TOTAL COSTS = $120,000
Now on to breakeven point:
BREAK-EVEN = HAIRCUTS * $12 = TOTAL COSTS
10,000 haircuts * $12 = $120,000
So, the breakeven is 10,000 haircuts.
Note that on a 6-day workweek (312 days), that would be 32 haircuts
per day or about 6.4 per barber.
On a 5-day workweek (260 days), that would be 38.5 haircuts per day or
about 7.7 per barber.
Also note that at breakeven there is no contribution margin ? costs
are only being covered.
It?s also important to note that this is NOT a standard industry
definition. Normally labor costs would be considered to be variable
costs and you?d add hours of work as the business demands it. See
this definition of ?contribution margin? from About.com?s excellent
pages on the Retail Industry:
However, since THIS PART of your question deals with the barber?s
salaries as fixed costs, both salaries and rent/expenses (overhead)
have to be lumped together. At least for now, our Variable Costs = 0.
With a volume of 20,000 haircuts, it would produce:
ANNUAL REVENUES = $12 * 20,000 = $240,000
OPERATING INCOME = REVENUES ? (FIXED COSTS + VARIABLE COSTS) =
$240,000 - $120,000 = $120,000
CONTRIBUTION = OPERATING INCOME = $120,000
CONTRIBUTION PER HAIRCUT = $120,000 / 20,000 haircuts = $6.00 per haircut
CONTRIBUTION MARGIN = % of income per haircut = $6 / $12 = 50%
What?s important in this problem is to show how contribution margin
works. As noted in that About.com definition above, it?s what is
available to cover fixed costs.
In the New Model, the PER HAIRCUT costs now are no longer in fixed
costs. The fixed costs are simply $61,000 ? which consists of:
BARBER?S BASE PAY: $4 * 40 * 50 * 5 barbers = $40,000
OVERHEAD: $1,750 * 12 = $21,000
TOTAL FIXED = $61,000
It?s nice to have a lower total fixed cost, as this is about half of
the previous cost. But we?ve added a Variable Cost of $6 per haircut
to Andre?s business. It makes it a little harder to figure out the
Why? Because at 10,000 haircuts the Fixed Costs are $6.10 per haircut
and his Variable Costs are $6 per haircut ? and he?s losing money:
NEW CONTRIBUTION = REVENUES ? (FIXED COST + VARIABLE COST)
At 20,000 haircuts, he makes money, though he?s making less:
$240,000 ? ($61,000 + $120,000) = $59,000 or $2.95 per haircut, which
is 24.6% and profit per haircut is less than half what it was
What?s the point to this problem? It?s that some costs are Fixed and
some are Variable in most businesses. And that contribution or
contribution margin will depend heavily on revenues or volume.
Breakeven for Andre?s Hair Styling will come when his Fixed
Costs/Haircut are $6 ? because he already has a Variable Cost of
$6/haircut that he?s paying to his employees. So it?s $61,000 /
haircuts = $6, or 10,167 haircuts. Actually he?ll make a few dollars
(not even $10) because of some rounding errors in the math:
REVENUES = 10,167 * $12 = $122,004
FIXED COSTS (FC) = $61,000
VARIABLE COSTS (VC) = 10,167 * $6 = $61,002
INCOME = REVENUES ? (FC + VC) = $2
So, Andre?s breakeven went up under the new pay scheme. Now if he?d
only given the barbers $5/haircut, it would have gone down . . .
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?contribution margin? definition