Question

Grand Garden is a luxury hotel with 165 suites. Its regular suite rate is $210 per night per suite. The hotel’s cost per night is $135 per suite and consists of the following.
Variable direct labor and materials cost $ 36
Fixed cost [($5,970,000/165 suites) ÷ 365 days] 99
Total cost per night per suite $ 135
The hotel manager received an offer to hold the local Bikers’ Club annual meeting at the hotel in March, which is the hotel’s low season with an occupancy rate of under 55%. The Bikers’ Club would reserve 45 suites for three nights if the hotel could offer a 55% discount, or a rate of $94 per night. The hotel manager is inclined to reject the offer because the cost per suite per night is $135.
Required:
Prepare an analysis of this offer for the hotel manager.

Answer 1

Answer:

rental price per night $210

variable direct labor and materials $36

fixed costs $5,970,000

assuming 100% occupancy rate during the whole year, fixed cost per unit = $99 per night

total cost per night $135

assuming a 55% occupancy rate = 90.75 rooms per night

fixed costs are equal in both scenarios, so they are not relevant

                              alternative A       alternative B       differential

                              not rent               rent to bikers      amount

rental revenue      $19,057.50          $23,310               ($4,252.50)

per day

variable costs        -$3,267               -$4,887                $1,620

total per night       $15,790.50         $18,423                ($2,632.50)

x 3 nights              $47,371.50          $55,269               ($7,897.50)

By not renting the rooms to the Biker Club, the hotel will be losing $7,897.50 during the 3 nights.

The allocation of fixed costs per night assumes that all the hotel rooms are being rented every night and that is not true, so the total cost per night is not a valid amount. They should allocate fixed costs based on the average occupancy rates per month.