Aunt Connies Cookies

"Aunt Connie's Cookies Contribution Margin and Breakeven Analysis"

Aunt Connie's Cookies is a brand that is synonymous with delicious Lemon Cream and real Mint Cookies throughout the East and Midwest. Aunt Connie's Cookies was founded in 1986 after a friend of Aunt Connie urged her to take her business and baking skills to the public. The Aunt Connie's brand has grown successful producing Lemon Crиme and Real Mint cookies. Maria Villanueva is the current chief executive officer of this family owned company.

Maria was considering a large bulk order of a cookie production, competitor buyouts and the strain of meeting cookie demand and operating as a profitable entity. Maria has to make a decision to:

1. Make or buy

2. Sell or process further

3. Retain or replace equipment

4. Eliminate an unprofitable business segment

5. Allocate limited resources

The concept of contribution is important for the decision to be made. Real Mint provides a greater total contribution margin while Lemon Crиme provides the greater Unit Contribution Margin.

To be able to take the order, one or both of the cookie productions will need to be reduced in order for that energy to go towards filling the bulk order. The main idea here is to maximize the operating profits because it is better to produce more of the product that provides the greater unit contribution margin. By keeping Lemon Crиme cookies operating at the same level, no unnecessary operating profits would be lost and the increased order for Real Mint provides a greater revenue amount than would have been during a normal production month.

If the bulk order had been for the Lemon Crиme cookies it may have been more difficult to reach and end result that is as desirable. The Real Mint production, if the same or lowered, would have resulted in less revenue due to the increased production of Lemon Crиme cookies that would normally sell for a higher price.

When a company such as Aunt Connie's Cookies has limited resources (floor space, raw material, or machine hours) Maria must decide which product to make and sell for profit. In an allocation of limited resources, it is necessary to find the contribution margin per unit. This is obtained by dividing the contribution margin per unit of each product by the number of units of the limited resource required for each product. Production should be geared to the product with the highest contribution margin per unit.

Maria believes that producing the peanut butter cookies will result in losses and the sales forecasts show a need for greater demand for Lemon Crиme. The new unit would result in twice the production capacity of Lemon crиme. Since the near-term demand for the cookies exceeds the current capacity it would make sense for the unit to be utilized to meet demand. But the new unit cannot break- even until it produces 650,000 packs of cookies, 50,000 more than what is needed. At this point producing either Lemon Crиme or peanut butter would result in losses for the company. Maria would very likely decide to not purchase the merchandising unit at this point. Unless demand would grow to meet the manufacturing possibilities, there would be a waste of resources with the purchase.

Another aspect of the decision was to replace the equipment; Maria should compare the costs which are affected with replacement of the equipment. In this case it would be to Aunt Connie's advantage to replace the equipment. I believe that the lower variable manufacturing costs due to replacement more than offset the cost of the new equipment. In Maria's decision in deciding whether to eliminate an unprofitable segment, Maria should choose the alternative method which results in the highest net income. Maria must remember that fixed costs allocated to the unprofitable segment must be absorbed by the other segments. It is possible, therefore, for net income to decrease when an unprofitable segment is eliminated.

There are several points of consideration that Aunt Connie needs to watch out for when devising production plans. A company's break-even point is the amount of sales or revenues that it must generate in order to equal its expenses. In other words, it is the point at which the company neither makes a profit nor suffers a loss. Calculating the break-even point can provide a simple, yet powerful quantitative tool for managers. In its simplest form, break-even analysis provides insight into whether or not revenue from a product or service has the ability to cover the relevant costs of production of that product or service. Managers can use this information in making a wide range of business decisions, including setting prices, preparing competitive bids, and applying for loans. Managers can determine the minimum quantity of sales at which the company would avoid a loss in the production of a given good. If a product cannot cover its own costs, it inherently reduces the profitability of the firm.

Variable costs are those that increase with the quantity produced; for example, more materials will be required as more units are produced. Fixed costs, however, are those that will be incurred by the company even if no units are produced. In a company that produces a single good or service, this would include all costs necessary to provide the production environment, such as administrative costs, depreciation of equipment, and regulatory fees. In a multi-product company, fixed costs are usually allocations of such costs to a particular product, although some fixed costs may be totally attributable to the product.

Fixed costs have been allocated to products based on