Spreadsheet Models - DSS Basic Profit Models What-if, Sensitivity Analysis

Lecture Objectives You should be able to : 1.Analyze a business situation and draw an influence diagram. 2.Build basic profitability models on a spreadsheet. 3.Perform what-if, sensitivity analyses.

Breakeven Analysis Consider a relatively simple situation: Sally owns a motel with a hundred rooms. Fixed daily cost is $1000 (includes mortgage, staff salaries, maintenance). Variable cost per room is $10 per day (includes extra utility cost, room cleanup, etc). At a fixed room price of $50 per day, what is the breakeven point? Draw an influence diagram leading up to your profit. Compute the breakeven point.

Influence Diagram The boxes that cannot be split any further (for this simple example) are the basic inputs for the analysis. How is Number of Rooms Rented different from the rest of the inputs? Are there any other dependencies that are not shown above?

Breakeven Analysis Price50 FC1000 VC/unit10 Rooms Rev FC1000 VC Tot Cost Profit

Breakeven Point

Crossover Point You have the option of subcontracting to improve room quality and the surroundings, but that would increase fixed costs to $1800, with no change to variable costs. You will, however, be able to charge $70 per room per day. At what point will you be indifferent between your current mode of operation and the new option?

Crossover Analysis – Point of Indifference Case 1Case 2 Price5070 FC VC/unit10 Case 1 Rooms Rev FC1000 VC Tot Cost Profit Case 2 Rooms Rev FC1800 VC Tot Cost Profit

Crossover Analysis

Pricing Analysis – Demand Function If the demand for rooms depends on the price as follows: Quantity Demanded = *price, what price should Sally charge for a room? Assume Fixed Cost is still $1000 per day and Variable cost is $10 per day per room. 1.Determine the Goal. 2.How would Sally get such a demand equation for her business? 3.Determine the best price to help her reach her goal.

Price and Profit Pricing Strategy Example Max Rooms100 FC 1000 Demand = *p VC/unit10InterceptSlope 2003 Price Rooms Demanded Rooms Rented Rev FC1000 VC Tot Cost profit What is the best price?

Profit Vs. Price

Sensitivity Analysis If the estimate of Variable Costs ($10 per room per day) is inaccurate, how does it affect the solution? Pricing Strategy Example Price50 FC1000 VC/unit10 Rooms 50 Rev2500 FC1000The table below shows profits at different prices and variable costs VC500 Tot Cost1500Prices per room profit VC

Sensitivity to Variable Costs

Extend the Analysis How would this entire analysis change if you were analyzing a larger hotel like the Marriott instead of a motel?