Arizona Microbrewery, Inc.

In 2009, David Stott quit his job at a large beer company to start his own brewery, Arizona Microbrewery, Inc. (AMI). His family supported his decision and invested in the business along with David. AMI started operations on January 10, 2010 and produces four labels of specialty beers (Saguaro Pale Ale, Bisbee Bock, Ocotillo Amber Pilsner and Sedona Stout). An explanation of the beer making process is shown in Appendix A.

In much of the United States (including Arizona), beer is sold in a three-tier system. Under this system, beer is manufactured by producers, sold to distributors who then sell to retailers (such as liquor stores, drug stores, grocery stores, etc.). David employs two salespeople who receive a fixed monthly salary plus an 8% commission. All beer is sold in cases of 24 bottles to beer distributors (primarily in the Southwestern United States). Product sales and cost information for 2013 is shown in Exhibit 1 with additional information in Exhibit 2. David rents a facility which is used to make the beer, a refrigeration area to store the beer and a small office area. AMI brewery has 5 machines with 9,300 total machine hours available per year to produce beer (assuming they remain on one shift with some normal maintenance, breaks, etc.). While there is an empty space in the facility that could be used to expand the beer operations, the company would need to purchase an additional grain hopper and brew house for about $100,000 (the current water system and process control system could be expanded to handle the new machine). As discussed in Appendix A, beers are aged in a refrigeration area prior to sale. The current refrigeration unit allows for different temperatures in different areas of the unit and the unit is usually running about 80% full. Keeping the refrigeration unit somewhat full helps reduce refrigeration costs. Additionally, since the company is so new, sales have been growing but erratic (from 2010 to 2011, sales growth was over 45%; however, from 2012 to 2013, sales growth was only 12%). Thus, keeping more beer on hand allows the company to meet the erratic demand without loss of sales.

David has not taken a salary since the business started. While the business has been generating a small profit, David has been reinvesting earnings back into the business. He wants to grow the business to generate more profit for him and for his family. David has been considering increasing the price on Sedona Stout to $29.00 per case. He thinks that, with this price increase, unit sales will decrease to 3,750 cases per year. However, this would reduce total Stout revenues from $110,876 to $108,750. Alternatively, David could drop the price of Sedona Stout to $25 per case. Based on his market research, he thinks that this will result in sales increasing to 4,700 cases. He is leaning towards this alternative as this will increase Stout revenues from $110,876 to $117,500.

While the company has some cash on hand, neither the company nor David's family have another $100,000 to invest in the business right now. Since the business is new and has been showing only small profits, David has not been able to get a loan to expand the business. Instead, David wants to fully utilize the machines they have (with 9,300 total machine hours available during the year). In 2013, they used a little over 8,300 machine hours (as shown in Exhibit 1). David wants to keep producing and selling all four product lines as many of the beer distributors like buying from breweries with several different beers. However, he wants to direct the salespeople to emphasize a certain product when they are out talking with beer distributors. Given the current machine setup, David is not sure what beer product line to tell the sales people to emphasize to maximize his profits.

Finally, David and his family love root beer. Root beer follows a somewhat similar process to beer in that the ingredients are mixed together to form a "culture" that then goes through fermenting, filtering and filling. Root beer would not need to be aged or stored in the refrigerator. There is an empty area in the current microbrewery facility that could be dedicated to making root beer. As a result, David has been talking with his family about producing and selling a line of specialty root beer. Root beer would be produced on different machinery. David's sister knows someone who is getting out of the soda business and would be willing to sell them the machinery needed to make the root beer for $8,000. Based on market research he has done, David thinks that he could charge $16.50 per case of root beer. Based on the same research he also thinks that he could sell between 3,000 and 12,000 cases of root beer with likely sales of about 6,000 cases. Root beer could be sold to some of his current distributors. However, soda does not need to be sold through the three-tier system required for alcohol sales. Therefore, much of root beer sales would be directly to upscale groceries such as La Grande Orange Grocery and Pizzeria in Phoenix and Whole Foods and AJ's Fine Foods with locations throughout Arizona. David could produce the root beer in-house or out-source production. David has talked with another company who could produce the root beer for AMI using David's recipe and AMI could sell it as their brand (this option is referred to as private labels). It could be purchased from this other company for $13.05 per case. AMI would still need to incur some variable handling costs and some minor fixed costs. Alternatively, AMI could produce the root beer in house.

See Exhibit 3 for estimated cost information.

QUESTIONS

You have been hired as a consultant to help David with the business. Please address the following questions in preparation for your discussions with David.

Ignore any current plans. Using last year's actual data and sales mix, how many total cases would David need to sell in order to earn $50,000 after tax? How many of these cases would be Ocotillo Amber Pilsner?

In question one, you identified the total number of cases the company needs to sell to earn $50,000 after tax (and how many cases for each product line). Assume you did the calculations in question one correctly. However, before discussing your solution with the owner, identify and explain at least three issues related to your analysis and the assumptions employed in your analysis in question 1(discuss each concern; what it is and why it is a concern; do NOT just question general facts of the case such as why we are charging so little for one product or another).

Refer to the original data. David has a few options regarding Sedona Stout pricing: a) keep the sales price the same (no change), b) increase the sales price or 3) decrease the sales price. What would you recommend he do and why? Provide both quantitative and qualitative analysis.

2013 COST & SALES INFORMATION

Per Case Information:
			Ocotillo
	Saguaro	Bisbee	Amber	Sedona
Sales Price per case	Pale Ale $ 21.00	Bock $ 24.50	Pilsner $ 23.50	Stout $ 26.50	Total

Direct Materials per case	2.75	2.90	3.15	4.00
Direct Labor per case	3.75	3.75	3.00	5.25
Variable Overhead per case	5.90	6.18	6.10	6.34
Total VC per case	12.40	12.83	12.25	15.59
Contribution Margin per Case	$ 8.60	$ 11.67	$ 11.25	$ 10.91

Cases sold last year	12,593	7,126	6,827	4,184	30,730
DLH per case	0.25	0.25	0.20	0.35
Total DLH last year	3,148.25	1,781.50	1,365.40	1,464.40	7,759.55
MH per case	0.20	0.40	0.25	0.30
Total MH last year	2,518.60	2,850.40	1,706.75	1,255.20	8,330.95

Contribution Margin	Income Statement:		Ocotillo
	Saguaro Pale Ale	Bisbee Bock	Amber Pilsner	Sedona Stout	Total
Sales	$264,453.00	$174,587.00	$160,434.50	$110,876.00	$710,350.50
Variable Costs	156,153.20	91,426.58	83,630.75	65,228.56	396,439.09
Contribution Margin	108,299.80	83,160.42	76,803.75	45,647.44	313,911.41
Direct Fixed Costs	10,329.62	8,392.91	6,017.39	9,893.92	34,633.84
Segment Margin	$97,970.18	$74,767.51	$70,786.36	$35,753.52	$279,277.57
Common Fixed Costs					$245,389.44
Operating Income					$ 33,888.13
Taxes (35%)					11,860.85
Net Income					$ 22,027.28

ADDITIONAL COST INFORMATION

Details of Total VC
Direct Materials	$ 93,537.20
Direct Labor	116,393.25
Production Supplies	26,064.41
Variable portion of Maintenance	40,892.55
Variable portion of Utilities	27,610.57
Variable Office Supplies (sales forms, etc)	3,493.88
Shipping costs	31,619.19
8% Sales Commission	56,828.04

Total Variable costs $396,439.09

Details of Total Fixed Costs (direct and indirect) Brew Master / Quality Control manager	60,293.15
Receiving and Shipping department expenses	22,511.32
Depreciation	11,712.10
Facility costs (rent, taxes, insurance, etc)	78,938.15
Advertising & Marketing costs	22,994.91
Fixed portion of Maintenance (including IT support)	9,992.98
Fixed portion of Utilities (including refrigeration)	10,390.37
Fixed portion of Office Supplies	4,305.66
Fixed Salary of Salespeople	32,221.81
Administrative staff to assist owner	26,662.83
Total Fixed Costs	$280,023.28