Question & Answer: Having been in a good business for years, a bakery shop is now considering an upgrade…..

Having been in a good business for years, a bakery shop is now considering an upgrade. Currently, the shop mainly operates manual processes with only $1, 500 fixed cost a year and $40 for each cake it produces. Hilda, the owner is reviewing two alternatives: semi-automatic and full-automatic equipment. Semi-automatic equipment can lower down the cost to only $25 a cake at $6,000 fixed cost a year. Using full-automatic equipment can reduce the cost significantly to $12 a cake. However, the fixed cost will increase to $15,000 a year. a. Which alternative should Hilda choose? b. Draw the graph to illustrate this situation

Expert Answer

Assume that the bakery shop produces x number of cakes in a year

Total cost in current situation,

Total cost = fixed cost + variable cost

= fixed cost + (cost for each cake * no. of cakes produced)

= $1,500 + $40 * x

Total cost of semi-automatic situation,

Total cost = fixed cost + variable cost

= fixed cost + (cost for each cake * no. of cakes produced)

= $6,000 + $25 * x

Total cost of full-automatic situation,

Total cost = fixed cost + variable cost

= fixed cost + (cost for each cake * no. of cakes produced)

= $15,000 + $12 * x

Let’s calculate total cost of production by assuming number for x

No. of cakes produced in a year (x)	Total cost under current situation	Total cost under semi-automatic situation	Total cost under full-automatic situation
100	5500	8500	16200
200	9500	11000	17400
300	13500	13500	18600
400	17500	16000	19800
500	21500	18500	21000
600	25500	21000	22200
700	29500	23500	23400
800	33500	26000	24600
900	37500	28500	25800
1000	41500	31000	27000

a. If the bakery shop is producing below 300 cakes per year then current situation is most cost effective for them

If the bakery shop is producing between 300 -700 cakes per year then semi-automatic situation is most cost effective for them

And if the bakery shop is producing more than 700 cakes per year then full-automatic situation is most cost effective for them

b. Graphical illustration of situation.

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