The Flour Shock at Corbin's Bakery
Priya owns Corbin's Bakery, which sells about 900 loaves a week at $4.00. Variable cost per loaf is $1.60 (flour, yeast, butter, packaging, energy) and fixed costs are $1,800 a week (rent, equipment, salaried manager). When flour costs rise 30 percent, her variable cost per loaf goes to about $1.95. She sees three options. Option A: raise the price to $4.75; based on the one price change she made before, she expects volume to fall about 20 percent. Option B: hold the price at $4.00 and absorb the cost. Option C: raise the price to $4.25, expect a 5 percent volume drop, and cut six staff hours a week, saving $90. Three nearby bakeries sell comparable bread at $3.75 to $4.25. She must decide before the next flour delivery.
1. Compute weekly profit under each option and rank them. Show the arithmetic.
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New variable cost: $1.95 per loaf. Contribution margin = price minus $1.95.
Before the shock: 900 x ($4.00 - $1.60) = 900 x $2.40 = $2,160; minus $1,800 fixed = $360 profit.
Option A ($4.75, volume down 20 percent to 720): 720 x ($4.75 - $1.95) = 720 x $2.80 = $2,016; minus $1,800 = $216.
Option B ($4.00, volume unchanged): 900 x $2.05 = $1,845; minus $1,800 = $45.
Option C ($4.25, volume down 5 percent to 855, plus $90 saved): 855 x ($4.25 - $1.95) = 855 x $2.30 = $1,966.50; plus $90 = $2,056.50; minus $1,800 = $256.50.
Ranking: C ($257) beats A ($216) beats B ($45).
Note what all three have in common: every option is worse than the $360 she earned before. She cannot fully pass the cost increase on, which is normal when competitors' prices cap what she can charge. So the question is not how to keep $360; it is how to lose the least.
2. Her 20 percent estimate comes from a single price change made during a holiday week. How should that change the decision?
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It should make her less confident in the ranking, because the whole difference between A and C depends on that one number.
A single observation taken in an atypical week is weak evidence. Holiday shoppers buy for occasions and are often less price-sensitive, so a holiday-week loss may understate what happens at $4.75 in an ordinary week.
Run a sensitivity check instead of trusting the estimate:
- Breakeven at $4.75: $1,800 / $2.80 = about 643 loaves, a 28.6 percent drop. She would have to lose more than a quarter of her customers before A stops covering fixed costs.
- If A loses only 10 percent instead of 20 percent: 810 x $2.80 = $2,268, profit $468, far better than C.
So the ranking flips depending on an untested assumption. The practical move is to test the price for a few weeks and track volume before committing, rather than locking in based on one holiday week. A good answer also notes that customers lost to a price increase may not come back, which makes an overshoot costlier than it looks on the spreadsheet.
3. What do the competitors' prices and other non-price factors add to the analysis?
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The competitor band is a ceiling. At $4.75 she is 12 to 27 percent above every nearby bakery, so real demand is likely more elastic than her own past experience suggests unless her bread is genuinely differentiated (better quality, better location, loyal regulars). At $4.25 she stays inside the $3.75 to $4.25 band, which is part of why C is the safer choice even though it depends on an unproven labor saving.
Costs that do not show up in the arithmetic:
- Cutting six staff hours may slow the line, shorten hours, or reduce quality. That cost is real but unmeasured.
- A smaller loaf at the same price is a hidden increase; customers who notice it may trust her less than if she had simply raised the price.
- Fixed costs do not change, so any contribution above zero beats closing. That argues against holding the price and absorbing the loss indefinitely (B).
A strong answer combines the math with the market: the numbers point to C, and the competitor band explains why C is more defensible than A even though the gap is small.