Katy Davies has had a passion for cycling for years. She has decided to explore turning her passion into a business. She has spent the last few months exploring the industry and collecting information to facilitate decisions about the focus of the business. For the moment, Katy Davis thinks she has raised sufficient start-up funding through family members and a somewhat generous friend.

Katys first option is to focus on an area or the market she believes is a bit underserviced: bikes for mid-teens, a market she labels youth. She has made a set of estimates as shown in Exhibit 1.

Required:

1. Calculate the number of bikes required to break even.

2. Based on the evidence, will this venture be profitable? Briefly explain.

The other option Katy is exploring to offer a wider product range including two other specialist bikes: adult mountain bikes and adult road bikes. From her investigations, she realizes this is a highly competitive part of the market but thinks she needs to offer a wider range of bikes to attract higher-end buyers. Her year 1 estimates are shown in Exhibit 2.

Required:

4. Determine the break-even level of bikes overall and per bike type.

5. Katy is hoping to earn a pre-tax profit of at least $400,000 in the next few years. Does this seem

   feasible?

6. Katy is a little worried about her estimates around price, volume, and costs. By way of illustration, she is thinking about raising the price of the youth bikes by 15 percent with the impact of reducing sales volume by 10 percent. At the same time, she wants to decrease the price of adult road bikes by 15 percent with an increase in sales units of 20 percent. What are the likely impacts on planned profits? What would you advise?

Additional information Davis Cycles Exhibit 1 - Estimates for Year 1 Single product: youth bikes Item Bike sales volume 2,400 bikes Average selling price $600 per bike Average variable cost of bike (purchase of basic bike, additional assembly-related costs) $350 per bike Sales and marketing $92,000 General and administration expenses $130,000 Occupancy and rental expenses $176,000 Direct fixed workshop and bike costs $90,000 60% variable, 40% fixed Fixed Fixed Fixed Davis Cycles Exhibit 2 - Estimates for Year 1 Multiple products Youth Bike sales volume 1,600 Average selling price $500 Average variable cost of bike (purchase of basic $350 bike, additional assembly-related costs) Direct fixed workshop and bike costs $90,000 Road 1,600 $1,200 $620 Mountain 800 $900 $590 $136,000 $164,000 Other cost items Sales and marketing General and administration expenses Occupancy and rental expenses Additional information $172,000 Fixed $190,000 Fixed $376,000 Fixed