Question

The following monthly data are available for the Challenger Company and its only product, Product SW: Sales volume 400 units Selling Price per unit $275 Variable cost per unit $110 Fixed costs $52,800 Contribution Margin $165 Required: a (4 marks) What is the break-even point in units and sales dollars? b (3 marks) Management is contemplating the use of plastic gearing rather than metal gearing in Product SW. This change would reduce variable costs by $15. The company's marketing manager predicts that this would reduce the overall quality of the product and thus would result in a decline in sales to a level of 350 units per month. Should this change be made? c (3 marks) Assume that Challenger Company is currently selling 400 units of Product SW per month. Management wants to increase sales and feels that this can be done by cutting the selling price by $25 per unit and increasing the advertising budget by $20,000 per month. Management believes that these actions will increase unit sales by 50%. Should these changes be made? d (3 marks) Assume that Challenger Company is currently selling 400 units of Product SW. Management wants to automate a portion of the production process for Product SW. The new equipment would reduce direct labour costs by $20 per unit but would result in a monthly rental cost for the new robotic equipment of $10,000. Management believes that the new equipment will increase the reliability of Product SW, thus resulting in an increase in monthly sales of 12%. Should these changes be made? e (5 marks) When comparing the status quo to the option presented in part d, at what level of sales volume will Challenger be neutral towards the change? f (2 marks) Which option, the original or option from part D, will be better for Challenger at a sales volume of 520 units?

Answer 1

a.

Breakeven Point = Fixed Cost / Contribution per unit

= 52,800 / 165

Breakeven Point = 320 Units

b. The reduction in variable cost will lead to increase in cost to $ 180 per unit, thus giving contribution of $ 63000 against 66000 without change, thus change is not advised

c.

Units (400 + 50%)	600
Sales Price per unit (275 - 25)	250
Variable Expense per unit	110
Sales	150,000
Variable Expenses	66,000
Advertisement Expenses	20,000
Fixed Expenses	52,800
Net Income	11,200

In this case Net Income will decrease by $2,000 (13,200 – 11,200).

We do not recommend this option as this option as our profit is decreasing in this case.

D

Units (400 + 12%)	$ 448.00
Sales Price per unit	$ 275.00
Variable Expense per unit (110 - 20)	$    90.00
Sales	123,200
Variable Expenses	40,320
New Robotic equipment cost	10,000
Fixed Expenses	52,800
Net Income	20,080

In this case net income will Increase by $6,880 (20,080 – 13,200)

We Recommend this option as Our profit is increasing in this case.

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