Deli One operates a chain of 10 retirement homes in the Toronto area. Its central food-catering facility, Deliman, prepares and delivers meals to the retirement homes. It has the capacity to deliver up to 1,460,000 meals a year. In 2012, based on estimates from each retirement home controller, Deliman budgeted for 1.022,000 meals a year. Budgeted fixed costs in 2012 were $1,533,000. Each retirement home was charged $6.00 per meal—$4.50 variable costs plus $1.50 allocated budgeted fixed cost.
Recently, the retirement homes have been complaining about the quality of Deliman’s meals and their rising costs. In mid-2012, Deli One’s president announces that all Deli One retirement homes and support facilities will be run as profit centres. Retirement homes will be free to purchase quality-certified services from outside the system. Ron Smith, Deliman’s controller, is preparing the 2013 budget. He hears that three retirement homes have decided to use outside suppliers for their meals; this will reduce the 2013 estimated demand to 876.0 meals. No change in variable cost per meal or total fixed costs is expected in 2013.
1. How did Smith calculate the budgeted fixed cost per meal of $1.50 in 2012?
2. Using the same approach to calculating budgeted fixed cost per meal and pricing as in 2012, how much would retirement homes be charged for each Deliman meal in 2013? What would their reaction be?
3. Suggest an alternative cost-based price per meal that Smith might propose and that might be more acceptable to the retirement homes. What can Deliman and Smith do to make this price profitable in the long run?