Forster's Market is a retailer of specialty food items, including premium coffees, imported crackers and cheeses, and the like.
Last year Forster's sold 14,400 pounds of coffee. Forster's pays a local supplier $3 per pound and then sells the coffees for $7 a pound.
While Forster's makes a handsome profit on the coffee business, owner Robbie Forster thinks he can do better.
Specifically, Robbie is considering investing in a large industrial sized coffee roaster that can roast up to 40,000 pounds per year. By roasting the coffee himself, Robbie will be able to cut his coffee costs to $1.60 a pound. The drawback is that the roaster will be quite expensive; fixed costs (including the lease, power, training, and additional labor) will run about $35,000 a year.
1. What are the two capacity options that Robbie needs to consider? What are their fixed and variable costs? What is the indifference point for the two options? What are the implications of the indifference point?
2. Draw the decision tree for the roaster decision. If Forster's does not invest in the roaster, does Robbie need to worry about the different demand scenarios outlined above? Why or why not?
3. Calculate the expected value for the two capacity options.
Keep in mind that, for the roaster option, any demand above 14,400 pounds will generate revenues of only $2.90 a pound. Update the decision tree to show your results.
4. What is the worst possible financial outcome for Forster's? The best possible financial outcome? What other factors core competency, strategic flexibility, etc.-should Robbie consider when making this decision?