A restaurant operator is contemplating branching out nto the tavern business. He

Question

A restaurant operator is contemplating branching out nto the tavern business. He has narrowed the choice down to two similar operations, each of which has sales revenue averaging $30,000 a month. Tim's tavern has variable costs averagng 60% of sales revenue and annual fixed costs totaling S 108,000. Tom's tavern has var ble costs averaging S0% of sales revenue and annual fixed costs of $144,000. Regardiess of which tavern is purchased, the operator estimates he can increase sales revenues by 12% Purchase price would be the same in either case. If you were advising the operator, which tavern would you suggest he purchase? Explain. Ch 7:3 With reference to the above probilem, the operator, after further consideration, thinks that if he purchased Tom's tavern he could reduce the fiwed costs by $14,000 a year and cut the variable costs from SO% to 48% of revenue, on the other hand, fheprchased Tin's tavern. vanable costs could be reduced to 55%, and an annual savres of S3000on fixed costs could be made. Note that revenue would still increase by 10% over present eve. would your decision change under these circumstances?

Explanation / Answer

Solution 1:

As net operating income for Tom's Tavern purchase is higher than net operating income of Tim's tavern purchase. Therefore we recommend to purchase Tom's Tavern purchase.

Solution 2:

As net operating income for Tom's Tavern purchase is higher than net operating income of Tim's tavern purchase. Therefore we recommend to purchase Tom's Tavern purchase. Therefore no change in deceision under new circumstances

Computation of Net Operating Income of each option Particulars Tim's Tom's Annual Sales Revenue ($30,000*12*112%) $403,200.00 $403,200.00 Variable cost (Tim - 60%, Tom - 50%) $241,920.00 $201,600.00 Contribution $161,280.00 $201,600.00 Annual Fixed Cost $108,000.00 $144,000.00 Net Operating Income $53,280.00 $57,600.00

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