The Banana Chips Unit: Break-Even, Demand Ceiling and Two Loans
A 12-member Kudumbashree unit in Thrissur plans to make banana chips in a rented shed. One kilogram of raw banana costs ₹24 and yields 500 g of chips. Oil, salt and masala cost ₹36 per kg of raw banana; labour works out to 90 minutes per kg of raw banana at ₹40 an hour; packaging costs ₹7 for a 200 g packet. The unit plans to sell 200 g packets at ₹80. Fixed monthly costs are ₹3,000 rent, ₹1,200 electricity and ₹300 towards licence and insurance. With the present single frying vessel the unit can process at most 200 kg of raw banana a month. Local shops would reliably absorb up to 260 kg a month at the retail price; beyond that, packets must be sold wholesale at ₹60 each. A ₹45,000 fryer would double processing capacity. Two loans are available: (A) ₹45,000 at 12% simple interest, repayable in 12 equal monthly instalments; (B) ₹40,000 interest-free for 6 months, with a 5% processing fee deducted upfront, the remaining ₹5,000 to be met from the unit's ₹7,000 savings.
1. Calculate contribution per kg of raw banana, the monthly break-even quantity and the profit at present capacity. Should the unit start on these terms?
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Per kg of raw banana:
- Output: 500 g = 2.5 packets of 200 g
- Revenue: 2.5 × ₹80 = ₹200
- Variable costs: raw ₹24 + oil/salt/masala ₹36 + labour (1.5 h × ₹40) ₹60 + packaging (2.5 × ₹7) ₹17.50 = ₹137.50
- Contribution = ₹200 − ₹137.50 = ₹62.50 per kg
Fixed cost: 3,000 + 1,200 + 300 = ₹4,500 per month
Break-even: 4,500 ÷ 62.50 = 72 kg of raw banana a month - well inside the 200 kg capacity.
Profit at capacity: (62.50 × 200) − 4,500 = 12,500 − 4,500 = ₹8,000 per month
Judgement: yes, start - but notice two things a simple 'yes' hides. First, the margin is thin at 31% of revenue, so a ₹5 rise in banana price or a ₹6 cut in packet price wipes out roughly ₹1,000–1,500 of the ₹8,000. Second, labour is member labour: if the ₹60/kg is treated as free because members own the unit, the ₹8,000 is actually their wage, not profit, and should be shown as such before anyone celebrates.
2. At the reliable demand ceiling of 260 kg, is the ₹45,000 fryer worth buying? Show the arithmetic before deciding.
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The fryer lifts capacity from 200 to 400 kg, but capacity is not the binding constraint - demand is. Two regimes matter.
Regime 1: extra output sold at ₹80 retail (up to 260 kg). Incremental 60 kg × ₹62.50 = ₹3,750 per month.
Regime 2: extra output sold at ₹60 wholesale (above 260 kg). Revenue per kg = 2.5 × ₹60 = ₹150; contribution = 150 − 137.50 = ₹12.50 per kg only.
Cost of Loan A: 45,000 + (45,000 × 0.12) = ₹50,400 over 12 months = ₹4,200 per month.
Verdict at the assured 260 kg: do not buy. ₹3,750 < ₹4,200, so the fryer loses about ₹450 a month in year one even on the optimistic assumption that every extra retail packet sells.
What would change the answer: sell 268 kg at retail (4,200 ÷ 62.50 = 67.2 kg of extra retail volume) and Loan A breaks even. Sell all 400 kg, with 140 kg at wholesale, and monthly contribution rises to (62.50 × 260) + (12.50 × 140) = ₹18,000, giving ₹13,500 profit - a gain of ₹5,500 against a ₹4,200 instalment, i.e. ₹1,300 net. That is too thin a margin to gamble a loan on. The correct sequence is to build retail demand first, then buy.
3. Compare the two loans in rupee terms and in cash-flow terms, and state which you would recommend if the unit insists on buying the fryer.
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Loan A (12% simple, 12 months): total repayment ₹50,400, i.e. ₹4,200 a month for 12 months. Total cost of borrowing: ₹5,400.
Loan B (interest-free, 6 months, 5% fee upfront): the ₹2,000 fee is deducted at source, so the unit receives ₹38,000 and adds ₹7,000 of savings to reach ₹45,000. It repays ₹40,000 over 6 months = ₹6,667 a month. Total cost of borrowing: ₹2,000.
In rupee terms Loan B wins clearly - ₹8,400 cheaper over the life of the loan, and it is cleared in half the time.
In cash-flow terms Loan B is the riskier one. The unit's monthly surplus before the fryer is ₹8,000; an instalment of ₹6,667 leaves about ₹1,333, whereas Loan A's ₹4,200 leaves ₹3,800. One weak month - a festival closure, a price rise in bananas - and Loan B turns into default, and a default on a subsidised scheme closes future doors.
Recommendation: Loan B, but only if the unit holds two months' instalments (about ₹13,300) as a buffer before drawing it; otherwise Loan A. Note that this answer sits inside a prior answer: on the assured 260 kg demand, the honest recommendation is neither loan - the fryer is a demand problem disguised as a finance problem.