Gandhi Ltd renders a promotional service to small retailing businesses. There are three levels of service: the ‘Basic’, the ‘Standard’ and the ‘Comprehensive’. On the basis of past experience, the business plans next year to work at absolute full capacity as follows:

Service Number of units Selling Variable cost of the service price per unit

£ £

Basic 11,000 50 25 Standard 6,000 80 65 Comprehensive 16,000 120 90 The business’s fixed cost totals £660,000 a year. Each service takes about the same length of time, irrespective of the level.

One of the accounts staff has just produced a report that seems to show that the Standard service is unprofitable. The relevant extract from the report is as follows:

Standard service cost analysis

£

Selling price per unit 80 Variable cost per unit (65)

Fixed cost per unit (20) (£660,000/(11,000 + 6,000 + 16,000))

Loss (5)

The writer of the report suggests that the business should not offer the Standard service next year.

Required:

(a) S hould the Standard service be offered next year, assuming that the quantity of the other services could not be expanded to use the spare capacity?

(b) S hould the Standard service be offered next year, assuming that the released capacity could be used to render a new service, the ‘Nova’, for which customers would be charged

£75, and which would have variable cost of £50 and take twice as long as the other three services?

(c) What is the minimum price that could be accepted for the Basic service, assuming that the necessary capacity to expand it will come only from not offering the Standard service?

Exercises 357 AppendixLO1