As I drove through France and Spain on my holiday, I thought about the tolls one must pay (on most) motorways. I was thinking how do they set the prices of these tolls? Of course, public infrastructure like motorways is often now financed by a combination of public and private investment. Regardless of the investment type, can you imagine how tricky it is to pitch a price for a motorway toll. If it’s too high, less will use it (M6 Toll in the UK) and costs take much longer to be recouped. Set it too cheap and it floods with traffic, which in turn eventually results in less users, and that equals less money. Should the price be set with future investment and on-going maintenance in mind. Should it be a social good with a very low price – but then where will the money come from for re-investment? Lots of questions here, but I hope you can see a lot of management accounting is behind these decisions. I would imagine getting the initial price correct is the toughest part. Nowadays though, I am sure there are plenty of modelling tools to help toll operators and governments.
As you may know CVP analysis looks at costs, revenues and volumes to determine things like at what output level a business will break even or make a certain profit. This post provides a simple example of the effects of volume on the viability of a business.
Recently, a local authority in Dublin, Ireland announced plans to build a large sewage treatment in the north of the city. As part of this, a vegetable farmer in the area will lose 35 of his 120 or so acres to the plant. I listened to a radio broadcast where the farmer simply said this is too much land to lose and his operation becomes uneconomic.
Let’s think about this briefly in CVP terms. If we assume a stable price for the farmer’s products and stable variable costs (seeds, labour, fuel, fertilisers for example), then it would seem that a loss of about 25% of capacity would reduce the farmer from a profit scenario to a loss one. I am not an agricultural expert, but I would assume that the fixed costs consist largely of the equipment and buildings needed to operate the farm. If the land area is reduced (i.e. capacity is reduced), then the farmer simply does not have enough land left to produce enough revenue to cover these fixed costs and make a profit.
You can read more here.