Question

A company is currently selling 10,000 units of product monthly for $40 per unit. The unit contribution margin is $27. The company believes that spending $50,000 per month on advertising will allow them to increase the selling price to $45 and that sales will increase by 750 units per month. Which of the following statements is true? The company should accept the idea because profit will increase by $74,000. The company should accept the idea because profit will increase by $3,750. The company should reject the idea because profit will decrease by $29,750. The company should accept the idea because profit will increase by $24,000.

Answer 1

Answer:

The company should accept the idea because profit will increase by $24,000.

Explanation:

A company is currently selling 10,000 units of product monthly for $40 per unit.

The unit contribution margin is $27.

The company believes that spending $50,000 per month on advertising will allow them to increase the selling price to $45 and that sales will increase by 750 units per month.

The unit contribution margin is the difference between selling price and variable cost per unit.

An increase in the selling price of $5 will cause the contribution margin to increase by $5, from $27 to $32.

Profits is the product of contribution margin and number of output.

At initial price, the profit was

= $10,000\ \times\ \ 27$

= $270,000

At the new price the profit will be

= $10,750\ \times\ \ 32$  - $50,000

= $344,000 - $50,000

= $294,000

The increase in profit

= $294,000 - $270,000

= $24,000